UNITED STATES SECURITIES AND EXCHANGE COMMISSIONWashington, DC
20549




FORM 10-K




(Mark One)þ
            
            ANNUAL REPORT PURSUANT TO SECTION 13 OR
      15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the fiscal year
      ended March 31, 2010ORo
            
            TRANSITION REPORT PURSUANT TO SECTION 13
      OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934


For the transition period from __________ to
__________ .




Commission file number 1-11056




ADVANCED PHOTONIX, INC.  ® (Exact name of registrant as specified in its charter)




Delaware
            
            33-0325826(State or Other Jurisdiction
of
            
            (I.R.S. EmployerIncorporation or Organization)
            
            Identification
No.)


2925 Boardwalk, Ann Arbor, Michigan
48104 (Address of
principal executive offices)




(734) 864-5600 (Registrants’ telephone number, including area
code)




Securities registered pursuant to
      Section 12(b) of the Act:Title of Each Class
            
            Name of Each Exchange on Which
      RegisteredCommon Stock, $0.01 par
      value
            
            NYSE Amex:
  API


Securities
      registered pursuant to Section 12(g) of the Exchange
  Act:None


Indicate by check
mark if the registrant is a well-known seasoned issuer, as defined in Rule 405
of the Securities Act. YES o    NO þ




Indicate by check
mark if the registrant is not required to file reports pursuant to Section 13 or
Section 15(d) of the Act. YES o         
NO þ




Indicate by check
mark whether the registrant : (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports) and (2) has been subject to such filing requirements for
the past 90 days. YES þ  NO o




Indicate by check
mark whether the registrant has submitted electronically and posted on its
corporate Website, if any, every Interactive Data File required to be submitted
and posted pursuant to Rule 405 of Regulation S-T (§ 229.405 of this chapter)
during the preceding 12 months (or for such shorter period that the registrant
was required to submit and post such
files).           YES o         
NO o




---



Indicate by check
mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K
is not contained herein, and will not be contained, to the best of registrant's
knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this Form 10-K.
o




Indicate by check
mark whether the registrant is a large accelerated filer, an accelerated filer,
a non-accelerated filer, or a smaller reporting company. See the definitions of
“large accelerated filer,” “accelerated filer” and “smaller reporting company”
in Rule 12b-2 of the Exchange Act. (Check one):




Large accelerated filer o
            Accelerated filer o
            Non-accelerated
      filer o
            Smaller reporting company þ(Do not check if a smaller reporting
      company)


Indicate by check
mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Act).          YES o         
NO þ




The aggregate market
value of the voting stock held by non -affiliates of the registrant as of September 25, 2009 was approximately
$17,102,302.




Number of shares
outstanding of the registrant's Common Stock as of June 24, 2010: 24,463,978
shares of Class A Common Stock and 31,691 shares of Class B Common Stock.




DOCUMENTS INCORPORATED BY REFERENCE




Portions of the
definitive proxy statement to be filed pursuant to Regulation 14A promulgated
under the Securities Exchange Act of 1934 in connection with the 2010 Annual
Meeting of Stockholders of registrant have been incorporated by reference into
Part III of this Form 10-K.




2




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ADVANCED PHOTONIX, INC.ANNUAL REPORT ON FORM 10-K


FISCAL YEAR ENDED MARCH 31, 2010




TABLE OF CONTENTSPagePart IItem 1.
            
            Business
            
            4Item 1A.
            
            Risk Factors
            
            12Item 2.
            
            Properties
            
            21Item 3.
            
            Legal Proceedings
            
            22Item 4.
            
            Reserved
            
            22Part IIItem 5.
            
            Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
            
            22Item 6.
            
            Selected Financial Data
            
            24Item 7.
            
            Management’s Discussion and Analysis of Financial Condition and
      Results of Operations
            
            24Item 7A.
            
            Quantitative and Qualitative Disclosures
      about Market Risk
            
            36Item 8.
            
            Financial Statements and Supplementary Data
            
            37Item 9.
            
            Changes In and Disagreements with
      Accountants on Accounting and Financial Disclosure
            
            62Item 9A (T).
            
            Controls and Procedures
            
            62Item 9B.
            
            Other Information
            
            63Part IIIItem 10.
            
            Directors, Executive Officers and Corporate Governance
            
            64Item 11.
            
            Executive Compensation
            
            64Item 12.
            
            Security Ownership of Certain Beneficial Owners and Management and
      Related Stockholder Matters
            
            64Item 13.
            
            Certain Relationships and Related
      Transactions, and Director Independence
            
            65Item 14.
            
            Principal Accountant Fees and Services
            
            65Part IVItem 15.
            
            Exhibits and Financial Statement Schedules
            
            65Signatures
            
            
            
            73Ex-21.1
            
            List of Subsidiaries of
      RegistrantEx-23.1
            
            Consent of BDO Seidman,
      LLPEx-31.1
            
            Section 302 Certification of
      CEOEx-31.2
            
            Section 302 Certification of
      CFOEx-32.1
            
            Section 906 Certification of
      CEOEx-32.2
            
            Section 906 Certification of
      CFOEx-10.59
            
            Second Amendment to Loan
      AgreementEx-10.60
            
            Amendment to Note – Term
      LoanEx-10.61
            
            Amendment to Note – Line of
      Credit





3




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PART I




The information in this annual report contains
certain forward-looking statements, including statements related to our business
prospects, the markets for our products, and trends in our business that involve
risks and uncertainties. Our actual results may differ materially from the
results discussed in these forward-looking statements. Factors that might cause
such a difference include those discussed in “Risk Factors,” “Management’s
Discussion and Analysis of Financial Condition and Results of Operations,”
“Business” and elsewhere in this annual report.




Item 1. Business




General




Advanced Photonix,
Inc.® (the Company, we or API) was incorporated under the laws of the State of
Delaware in June 1988. The Company is engaged in the development and manufacture
of optoelectronic devices and value-added sub-systems and systems. The Company
serves a variety of global Original Equipment Manufacturers (OEMs) in a variety
of industries. The Company supports its customers from the initial concept and
design phase of the product, through testing to full-scale production. API has
two manufacturing facilities located in Camarillo, California and Ann Arbor,
Michigan.




Products and
Technology




Our Business




API is a leading
supplier of optoelectronic semiconductors packaged into high-speed optical
receivers, custom optoelectronic subsystems and Terahertz instrumentation,
serving a variety of global OEM markets. Our patented high-speed optical
receivers include Avalanche Photodiode technology (APD) and PIN  photodiode technology based upon III-V
materials, including InP, InAlAs, and GaAs. Our optoelectronic subsystems are
based on our silicon Large Area Avalanche Photodiode (LAAPD), PIN
(positive-intrinsic-negative) photodiode, FILTRODE® detectors and LED
assemblies. Our Terahertz sensor product line is targeted at the industrial
Non-Destructive Testing (NDT), quality control, homeland security and military
markets. Using our patented fiber coupled technology and high speed Terahertz
generation and detection sensors, we are engaged in transferring Terahertz
technology from the application development laboratory to the factory
floor.




We support the
customer from the initial concept and design of the semiconductor, hybridization
of support electronics, packaging and signal conditioning or processing from
prototype through full-scale production and validation testing. The target
markets served by us are Industrial Sensing/NDT, Military/Aerospace, Telecom,
Medical and Homeland Security.




4




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Technology & Manufacturing Capabilities




Our basic
technologies and manufacturing capabilities include the following:


- Optoelectronic semiconductor design and micro fabrication of III-V
  compound semiconductor (InP and GaAs) and Silicon (Si) devices including
  photodetectors and terahertz transmitters/receiver antenna,
- MBE growth of high-speed III-V compound semiconductor material including
  GaAs, InAlAs and InP,
- High speed semiconductor analog
  amplifier specification, evaluation and design for outside fabrication,
- Coherent mixer and delay line
  interferometer (DLI) specification, evaluation and design for outside
  fabrication for use in 40Gb/s and 100 Gb/s line side optical receivers,
- Opto-electronic hybrid packaging
  of semiconductor devices combining opto-electronic devices with high-speed
  electronics and fiber optics,
- Vapor deposition and/or ion
  implantation for Silicon based PIN & APD photo-detectors,
- Terahertz (THz) systems,
  subsystems, transmitters and receivers, transceivers and motion control
  hardware and software,
- Femtosecond laser specification,
  valuation, design and manufacture and
- Chromatic dispersion, polarization
  dispersion and optical delay management in complex optical systems.

Core Products




The core product
technologies used in the majority of our products are opto-electronic
semiconductor devices, including photodiodes and antennae made of Si or III-V
compound semiconductor material and high speed semiconductor analog amplifiers.
Photodiodes and antennae sense light of varying wavelengths and intensity and
convert that light and/or Terahertz wave into electrical signals. Analog
amplifiers increase the converted electrical signals output power to a level
required to communicate with follow on electrical components. We manufacture
photodiodes of varying complexity, from basic PIN photodiode to the more
sophisticated APD and antennae that transmit and receive Terahertz signals
(Transceiver). The APD is a specialized photodiode capable of detecting very low
light levels due to an internal gain phenomenon known as avalanching. All
photodiode and THz devices are designed by our experienced engineering staff,
and fabricated in state-of-the-art clean rooms. Some of our analog amplifiers
are specified and tested by our engineering staff, designed by subcontractors
and fabricated by outside suppliers. Our products include the following:


- High Speed Optical Receivers
  (10Gb/s, 40Gb/s & 100Gb/s) which are packaged InP, InAlAs, or GaAs PIN
  and/or APD photodiodes with amplifiers
- Packaged PIN and APD photodiodes
  in Siand III-V materials (InP, InAlAs,
  GaAs)
- Packaged Si APD components, with
  and without thermo-electric coolers
- Packaged Si LAAPD
  components
- Packaged Si photodiodes with
  patented FILTRODE® technology integrating optical filters directly on
  photodiode chips
- Terahertz Systems & subsystems
  utilizing III-V materials for Terahertz transmitters &/or receivers

5




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Terahertz Technology




One of the high
growth technologies the Company is pursuing is Terahertz (THz) based on our
T-Ray® 4000 product platform. THz is a region of the electromagnetic (EM)
Spectrum that lies between microwave and infrared waves, which is in the early
stages of adoption. While microwaves and infrared waves have been explored and
commercialized for decades, THz waves are in the early stages of being explored
and commercialized due to the fact that they have historically been very
difficult to generate and detect. Recent advances in femtosecond lasers and
ultra-fast semiconductor and electro-optic devices combined with fiber-optic
packaging technologies have enabled the development of practical T-Ray®
instrumentation for the research market and as a result application/market
development of THz technology,
led by traditional early adopters such as the military and aerospace markets, is
accelerating. THz can be used to “look” through and beneath materials with high
2-dimensional (2-D) and 3-dimensional (3-D) spatial resolution roughly
equivalent to the resolution of the human eye or better. It can also uniquely
identify the chemical composition of many hidden or subsurface objects and has
been determined to have non-ionizing radiation, which is not harmful to humans
at the power levels commonly used today. THz imaging and spectroscopy market
applications include industrial quality control through non-destructive testing
(including aerospace and pharmaceutical markets); homeland security and defense
screening of people, packages and bags for weapons and weapons of mass
destruction; medical imaging and other scientific applications.




We have had
significant Terahertz technology and product development since 1997, resulting
in over 54 patents or patents pending to date. In 2001, we sold the first
commercial  THz product, the T-Ray®2000, as a laboratory
bench top instrument for application development with spectroscopy and imaging
capabilities targeted at the research and development and off-line diagnostic
markets. In 2004, we sold the first T-Ray Manufacturing Inspection System
(QA1000) for on-line, real-time inspection to NASA for the space shuttle fuel
tank inspection in the Return to Flight Program. In March 2008, the Company
shipped its next generation THz imaging and spectroscopy system (T-Ray® 4000).
The T-Ray® 4000 is significantly smaller, lighter, and more powerful than
previous THz generations and incorporates significant technological
advancements. The system weighs 55 pounds and is the size of a briefcase, which
is a significant reduction from the 800 pound refrigerator size QA 1000. This
system is targeted at the research and industrial NDT quality control market.
The T-Ray® 4000 product will also serve as a platform for future industrial
process and quality control, homeland security and defense applications. In
2009, the Company entered into a significant application development contract
with the U.S. Air Force for use of the T-Ray® 4000 product platform for
manufacturing quality control on the next generation joint strike fighter
(F-35).




Markets




Our products serve
customers in a variety of global markets, typically North America, Asia, Europe
and Australia. The target markets and applications served by us are as follows:




Military:




- Space
- Defense

Industrial/NDT:




- Manufacturing
- Instrumentation
- Display

Medical:




- Diagnostic & Monitoring
- Ophthalmic Equipment
- Medical Imaging

Telecommunications:




- Telecom Equipment
- Test and Measurement

Homeland Security:




- Baggage/Cargo Scanning
- Passenger Screening

6




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Recent Developments




Wafer Fabrication
consolidation - The
Company completed the consolidation and modernization of its wafer fabrication
facilities during Q1 2010. Prior to this consolidation, the Company had excess
wafer fabrication capacity at its three locations (including Dodgeville, WI),
with the Ann Arbor, MI facility having the most modern infrastructure. The wafer
fabrication facilities and equipment in its Wisconsin and California facilities
had similar capabilities and both required substantial upgrade and improvement
in order to maintain production capabilities. Since the Ann Arbor facility, when
equipped, would have the physical capacity to produce all of the Company’s
current and foreseeable wafer requirements and would not significantly impact
current production requirements during any upgrade process, management decided
to consolidate all optoelectronic wafer fabrication into the Ann Arbor facility
and close the Company’s Wisconsin facility.




The Company incurred
approximately $2.4 million in expenses to complete the consolidation. The costs
incurred consisted of labor and associated expense of $1.1 million, travel and
relocation costs of $169,000, accelerated depreciation expense on
de-commissioned assets of $150,000, supplies, consulting and other related costs
of $854,000 and $40,000 to re-provision the California clean room into a hybrid
assembly area. All costs associated with the consolidation were recorded as
expenses when incurred. As a result of the completion of the wafer fabrication
consolidation, the Company expects to realize cost reductions through
elimination of duplicate expenditures and yield improvements as well as an
increase in new product development capability. Related costs incurred for the
years ended March 31, 2010 and March 31, 2009 were $40,000 and $300,000,
respectively.




Raw Materials




The principal raw
materials used by the Company in the manufacture of its semiconductor components
and sensor assemblies are silicon and III-V material (InP, GaAs) wafers,
chemicals, gases and metals used in processing wafers, gold wire, solders,
electronic components, high speed specialized semiconductor amplifiers and a
variety of packages and substrates, including metal, printed circuit board, flex
circuits, ceramic and plastic packages. All of these raw materials can be
obtained from several suppliers. However, we depend on a limited number of
suppliers whose components have been qualified into our products and who could
disrupt our business if they stop, decrease or delay shipments or if the
components they ship have quality or consistency issues. From time to time,
particularly during periods of increased industry-wide demand, silicon wafers,
III-V wafers (InP, GaAs), certain metal packages and other materials have been
in short supply. In the 4th quarter of FY 2010,
the Company noticed increasing demand in the HSOR product platform. The Company
is closely monitoring supply chain lead times which have been increasing
primarily due to rising demand combined with capacity reductions by suppliers
during the recession. As is typical in the industry, the Company allows for a
significant lead-time (2 months or greater) between order and delivery of raw
materials. In the short term, any significant increase in lead times on critical
components could reduce future growth.




Research and Development




Since its inception
in June 1988, the Company has incurred material research and development
(R&D) expenses, with the intent of commercializing these investments into
profitable new standard and custom product offerings. During each of the fiscal
years ended in 2010 and 2009, the Company’s research and development expenses
were $4.7 million, which we believe was adequate to maintain the necessary
investment in our future growth platforms. The Company expects that an increase
in research and development funding will be required for new projects/products
as well as the continuing development of new derivatives of the Company’s
current product line. The Company has in the past, and will continue to pursue
government funded, as well as internally funded, research and development
projects when they are in support of the Company’s development
objectives.




7




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As the Company begins
the new 2011 fiscal year, the following research and development projects are
currently underway:


- HSOR- next generation photodiodes and
  high-speed optical receivers for both the 40G and 100G telecommunications
  market:

- 1stgeneration 100G DP-QPSK long haul and metro markets
- 1stgeneration 100G NRZ short reach market
- 2ndgeneration integrated 40G DPSK and DQPSK long haul and metro markets
- 4thgeneration integrated 40G NRZ short reach market
- Cost Reduction and performance enhancements through vertical integration
  of strategic 40G and 100G components

- THz –

- Application development utilizing the T-Ray® 4000 product platform for
  industrial quality and process control targeted at the aerospace, industrial
  and consumer product markets
- T-Ray® 4000 cost reduction, including
  laser and sub-systems initiatives for high volume markets
- T-Ray® 4000 product platform research and
  development for homeland security/military markets

- Custom
  optoelectronics- Si PIN and
  APD photodiode developments to meet unique customer requirements, such as
  higher speeds, lower electrical noise, and unique multi-element
  geometries.

Environmental Regulations




The photonics
industry, as well as the semiconductor industry in general, is subject to
governmental regulations for the protection of the environment, including those
relating to air and water quality, solid and hazardous waste handling, and the
promotion of occupational safety. Various federal, state and local laws and
regulations require that the Company maintain certain environmental permits. The
Company believes that it has obtained all necessary environmental permits
required to conduct its manufacturing processes. Changes in the aforementioned
laws and regulations or the enactment of new laws, regulations or policies could
require increases in operating costs and additional capital expenditures and
could possibly entail delays or interruptions of operations.




Backlog and Customers




The Company’s sales
are made primarily pursuant to standard purchase orders for delivery of
products. A substantial portion of our revenues are derived from sales to OEMs
pursuant to individual purchase orders with short lead times. However, by
industry practice, orders may be canceled or modified at any time. Accordingly,
we do not believe that the backlog of undelivered product under these purchase
orders is a meaningful indicator of our future financial performance. When
customers cancel an order, they are responsible for all finished goods, all
costs, direct and indirect, incurred by the Company, as well as a reasonable
allowance for anticipated profits. No assurance can be given that the Company
will receive these amounts after cancellation.




8




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Customers normally
purchase the Company’s products and incorporate them into products that they in
turn sell in their own markets on an ongoing basis. As a result, the Company’s
sales are dependent upon the success of its customers’ products and our future
performance is dependent upon our success in finding new customers and receiving
new orders from existing customers.




Marketing




The Company markets
its products in the United States and Canada through its own technical sales
engineers and through independent sales representatives. International sales,
including Europe, the Middle East, Far East and Asia, are conducted directly by
the Company and through foreign distributors and representatives. The Company’s
products are primarily sold as components or sub-assemblies to OEM’s. The
Company markets its products and capabilities through industry specific
channels, including the Internet, industry trade shows, and in print through
trade journals.




Competition




In its target
markets, the Company competes with different companies in each of its product
platforms; custom optoelectronic, high-speed optical receiver and THz systems.
The Company believes that its principal competitors for sales of custom
optoelectronic products are small private companies and medium size public
companies. In the high-speed optical receiver market the Company believes that
its competitors are small private companies and medium to large size public
companies. Because the THz product offering includes developing technology
applications and markets, the Company believes the competition is mainly from
small private companies and divisions of large public companies.




Because the Company
specializes in devices requiring a high degree of engineering expertise to meet
the requirements of specific applications, it generally does not compete with
other large United States, European or Asian manufacturers of standard “off the
shelf” optoelectronic components or silicon photodetectors.




Proprietary Technology




The Company utilizes
proprietary design rules and processing steps in the development and fabrication
of its PIN and APD photodiodes, THz transmitters and receivers, fiber-coupled
THz subsystems/systems, and THz applications. The Company has a significant
number of patents pending and owns the following patents and registered
trademarks:




Patent #
            Title
            Issue Date142,195
            HIGHLY-DOPED P-TYPE CONTACT FOR
      HIGH-SPEED, FRONT-SIDE ILLUMINATED PHOTODIODE (US)
            Apr-05660,471
            HIGHLY-DOPED P-TYPE CONTRACT FOR
      HIGH-SPEED, FRONT-SIDE ILLUMINATED PHOTODIODE (KOREA)
            Apr-06726,387
            TRADEMARK APPLICATION FOR
T-RAY
            Oct-08765,715
            HIGHLY-DOPED P-TYPE CONTACT FOR
      HIGH-SPEED, FRONT-SIDE ILLUMINATED PHOTODIODE (AUSTRIA)
            Jan-04766,174
            ENHANCED PHOTODETECTOR (KOREA)
            Oct-07809,655
            METHOD AND APPARATUS TO MONITOR PHASE CHANGES IN MATTER WITH
      TERAHERTZ RADIATION (KOREA)
            Feb-08


9




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811,365
            PLANAR AVALANCHE PHOTODIODE (KOREA)
            Feb-08817,638
            FOCUSING FIBER OPTIC (KOREA)
            Mar-08934,665
            TRADEMARK APPLICATION FOR T-RAY TRADEMARK (MADRID
    PROTOCOL)
            Aug-07934,665
            TRADEMARK APPLICATION FOR T-RAY TRADEMARK (AUSTRALIA)
            Aug-071,115,504
            PICOSECOND OPTICAL DELAY (HONG KONG)
            Nov-091,116,280
            HIGHLY-DOPED P-TYPE CONTACT FOR HIGH-SPEED, FRONT-SIDE ILLUMINATED
      PHOTODIODE (EP)
            Oct-071,116,280
            HIGHLY-DOPED P-TYPE CONTACT FOR HIGH-SPEED, FRONT-SIDE ILLUMINATED
      PHOTODIODE (FRANCE)
            Oct-071,116,280
            HIGHLY-DOPED P-TYPE CONTACT FOR HIGH-SPEED, FRONT-SIDE ILLUMINATED
      PHOTODIODE (GREAT BRITAIN)
            Oct-071,116,280
            HIGHLY-DOPED P-TYPE CONTACT FOR HIGH-SPEED, FRONT-SIDE ILLUMINATED
      PHOTODIODE (ITALY)
            Oct-071,116,280
            HIGHLY-DOPED P-TYPE CONTACT FOR HIGH-SPEED, FRONT-SIDE ILLUMINATED
      PHOTODIODE (GERMANY)
            Oct-071,230,578
            COMPACT FIBER PIGTAIL TERAHERTZ IMAGING SYSTEM (EP)
            Aug-061,230,578
            COMPACT FIBER PIGTAIL TERAHERTZ IMAGING SYSTEM (AUSTRIA)
            Aug-061,230,578
            COMPACT FIBER PIGTAIL TERAHERTZ IMAGING SYSTEM (FRANCE)
            Aug-061,230,578
            COMPACT FIBER PIGTAIL TERAHERTZ IMAGING SYSTEM (ITALY)
            Aug-061,230,578
            COMPACT FIBER PIGTAIL TERAHERTZ IMAGING SYSTEM (GREAT
      BRITAIN)
            Aug-061,454,173
            FOCUSING FIBER OPTIC (EP)
            May-091,454,173
            FOCUSING FIBER OPTIC (FRANCE)
            May-091,454,173
            FOCUSING FIBER OPTIC (GERMANY)
            May-091,454,173
            FOCUSING FIBER OPTIC (ITALY)
            May-091,454,173
            FOCUSING FIBER OPTIC (NETHERLANDS)
            May-091,454,173
            FOCUSING FIBER OPTIC (GREAT BRITAIN)
            May-091,570,306
            PRECISION FIBER ATTACHMENT (EP)
            Aug-081,570,306
            PRECISION FIBER ATTACHMENT (ITALY)
            Aug-081,570,306
            PRECISION FIBER ATTACHMENT (FRANCE)
            Aug-081,570,306
            PRECISION FIBER ATTACHMENT (GREAT BRITAIN)
            Aug-081,570,306
            PRECISION FIBER ATTACHMENT (AUSTRIA)
            Aug-081,570,306
            PRECISION FIBER ATTACHMENT (GERMANY)
            Aug-081,794,558
            PICOSECOND OPTICAL DELAY (EP)
            Sep-091,794,558
            PICOSECOND OPTICAL DELAY (FRANCE)
            Sep-091,794,558
            PICOSECOND OPTICAL DELAY (GERMANY)
            Sep-091,794,558
            PICOSECOND OPTICAL DELAY (ITALY)
            Sep-091,794,558
            PICOSECOND OPTICAL DELAY (GREAT BRITAIN)
            Sep-091,794,558
            PICOSECOND OPTICAL DELAY (NETHERLANDS)
            Sep-09


10




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1,963,580
            PICOMETRIX TRADEMARK
            Mar-962,345,153
            HIGHLY-DOPED P-TYPE CONTACT FOR HIGH-SPEED, FRONT-SIDE ILLUMINATED
      PHOTODIODE (CANADA)
            Mar-043,561,696
            TRADEMARK – T-RAY
            Jan-093,561,697
            TRADEMARK – T-RAY 2000
            Jan-093,561,698
            TRADEMARK – T-RAY 4000
            Jan-094,180,824
            COMPACT FIBER PIGTAIL TERAHERTZ IMAGING SYSTEM (JAPAN)
            Sept-084,436,915
            PRECISION FIBER ATTACHMENT (JAPAN)
            Jan-104,717,946
            THIN LINE JUNCTION PHOTODIODE (by Predecessor Co.)
            Jan-884,782,382
            HIGH QUANTUM EFFICIENCY PHOTODIODE DEVICES (by Predecessor
      Co.)
            Nov-885,021,854
            SILICON AVALANCHE PHOTODIODE ARRAY
            Jun-915,057,892
            LIGHT RESPONSIVE AVALANCHE DIODE
            Oct-915,146,296
            DEVICES FOR DETECTING AND/OR IMAGING SINGLE PHOTOELECTRON
            Sep-925,311,044
            AVALANCHE PHOTOMULTIPLIER TUBE
            May-945,477,075
            SOLID STATE PHOTODETECTOR WITH LIGHT RESPONSIVE REAR FACE
            Dec-955,757,057
            LARGE AREA AVALANCHE ARRAY
            May-985,801,430
            SOLID STATE PHOTODETECTOR WITH LIGHT RESPONSIVE REAR FACE
            Sep-986,005,276
            SOLID STATE PHOTODETECTOR WITH LIGHT RESPONSIVE REAR FACE
            Dec-996,029,988
            COMPACT FIBER PIGTAILED TERAHERTZ IMAGING SYSTEM (GREAT
      BRITAIN)
            Aug-066,111,299
            ACTIVE LARGE AREA AVALANCHE PHOTODIODE ARRAY
            Aug-006,262,465
            HIGHLY-DOPED P-TYPE CONTACT FOR HIGH-SPEED, FRONT-SIDE ILLUMINATED
      PHOTODIODE
            Jul-016,320,191
            A DISPERSIVE PRECOMPENSATOR FOR USE IN AN ELECTROMAGNETIC RADIATION
      GENERATION AND DETECTION SYSTEM
            Nov-016,816,647
            COMPACT FIBER PIGTAILED TERAHERTZ IMAGING SYSTEM
            Nov-046,849,852
            SYSTEM AND METHOD FOR MONITORING CHANGES IN STATE OF MATTER WITH
      TERAHERTZ RADIATION
            Feb-056,936,821
            AMPLIFIED PHOTOCONDUCTIVE GATE
            Aug-057,039,275
            FOCUSING FIBER OPTIC
            May-067,078,741
            HIGH-SPEED ENHANCED RESPONSIVITY PHOTO DETECTOR
            Jul-067,263,266
            PRECISION FIBER ATTACHMENT
            Aug-077,348,607
            PLANAR AVALANCHE PHOTODIODE
            Mar-087,348,608
            PLANAR AVALANCHE PHOTODIODE
            Mar-087,449,695
            TERAHERTZ IMAGING SYSTEM FOR EXAMINING ARTICLES
            Nov-087,468,503
            PIN PHOTODETECTOR
            Dec-08ZL02825106.7
            FOCUSING FIBER OPTIC (CHINA)
            Apr-09ZL03803039.X
            ENHANCED PHOTODETECTOR (CHINA)
            Apr-09


11




---



ZL2003801087.X
            PRECISION
      FIBER ATTACHMENT (CHINA)
            Mar-09ZL200480015226
            PIN
      PHOTODETECTOR (JAPAN)
            Jun-09ZL200480043236
            PLANAR
      AVALANCHE PHOTODIODE (CHINA)
            May-09ZL200580033244
            PICOSECOND
      OPTICAL DELAY (CHINA)
            Jan-09HK1085841
            ENHANCED
      PHOTODETECTOR (HONGKONG)
            Dec-09HK1086340
            FOCUSING
      FIBER OPTIC (HONGKONG)
            Feb-10


There can be no
assurance that any issued patents will provide the Company with significant
competitive advantages, or that challenges will not be instituted against the
validity or enforceability of any patent owned by the Company, or, if
instituted, that such challenges will not be successful. The cost of litigation
to uphold the validity and to prevent the infringement of a patent could be
substantial. Furthermore, there can be no assurance that the Company’s
technology will not infringe on patents or rights owned by others, licenses to
which might not be available to the Company. Based on limited patent searches,
contacts with others knowledgeable in the field of the Company’s’ technology,
and a review of the published materials, the Company believes that its
competitors hold no patents, licenses or other rights to technology which would
preclude the Company from pursuing its intended operations.




In some cases, the
Company may rely on trade secrets to protect its innovations. There can be no
assurance that trade secrets will be established, that secrecy obligations will
be honored or that others will not independently develop similar or superior
technology. To the extent that consultants, key employees or other third parties
apply technological information independently developed by them or by others to
Company projects, disputes might arise as to the proprietary rights to such
information which may not be resolved in favor of the Company.




Employees




As of June 24, 2010,
the Company had 153 full time employees (including 3 officers). Included are 35
engineering and development personnel, 8 sales and marketing personnel, 94
operations personnel, and 16 general and administrative personnel (including 3
officers). The Company may, from time to time, engage personnel to perform
consulting services and to perform research and development under third party
funding. In certain cases, the cost of such personnel may be included in the
direct cost of the contract rather than in payroll expense. None of our
employees are covered by a collective bargaining agreement. We believe our
relations with our employees are good.




Item 1A. Risk Factors Investing in our Class A Common Stock involves a high degree of risk and
uncertainty. You should carefully consider the risks and uncertainties described
below before investing in our Class A Common Stock. Our business, prospects,
financial condition and results of operations could be adversely affected due to
any of the following risks. In that case, the value of our Class A Common Stock
could decline, and you could lose all or part of your
investment.




Risks Relating to Our
Business




The overall negative economic climate could
adversely affect the liquidity and financial condition of our customers and our
business.




We believe that many factors affect our
industry, including consumer confidence in the economy, interest rates, fuel
prices and credit availability. The overall economic climate and changes in
Gross National Product growth has a direct impact on our customers and the
demand for our products. We cannot be sure that our business will not be
adversely affected as a result of an industry or the current general economic
downturn.




12




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Our customers may
reduce capital expenditures and have difficulty satisfying liquidity needs
because of the continued turbulence in the U.S. and global economies, resulting
in reduced sales of our products and harming our financial condition and results
of operations.




Recent global market
and economic conditions have been unprecedented and challenging with tighter
credit conditions and recession in most major economies. Continued concerns
about the systemic impact of potential long-term and wide-spread recession,
energy costs, geopolitical issues, the availability and cost of credit, and the
global housing and mortgage markets have contributed to diminished expectations
for western and emerging economies. These conditions, combined with volatile oil
prices, declining business and consumer confidence and increased unemployment,
have contributed to market volatility of unprecedented levels.




As a result of these
market conditions, the cost and availability of credit has been and may continue
to be adversely affected by illiquid credit markets and wider credit spreads.
Concern about the stability of the markets generally and the strength of
counterparties specifically has led many lenders and institutional investors to
reduce, and in some cases, cease to provide credit to businesses and consumers.
This turbulence in the U.S. and international markets and economies has caused
certain of our network subsystem and system customers, as well as their network
service provider customers, to delay, reduce or cancel capital expenditures.
Continued turbulence in the U.S. and international markets and economies and
prolonged declines in business consumer spending may adversely affect our
liquidity and financial condition, and the liquidity and financial condition of
our customers, including our ability to refinance maturing liabilities and
access the capital markets to meet liquidity needs.




We may be unable to obtain financing to fund
ongoing operations and future growth.




While the Company
believes our ongoing cost controls will allow us to generate cash and achieve
profitability in the future, there is no assurance as to when or if we will be
able to achieve our projections. Our future cash flows from operations, combined
with our accessibility to cash and credit, may not be sufficient to allow us to
finance ongoing operations or to make required investments for future growth. We
may need to seek additional credit or access capital markets for additional
funds. The recent disruption in credit markets and our recent operating losses
make it uncertain whether we will be able to access the credit markets when
necessary or desirable. If we are not able to access credit markets and obtain
financing on commercially reasonable terms when needed, our business could be
materially harmed and our results of operations could be adversely affected.




We are not in compliance with certain
covenants under our Credit Facility .




At March 31, 2010,
the Company was not in compliance with the financial covenants under its credit
facility. This constituted an event of default under the terms of our credit
facility agreement which gave The PrivateBank and Trust Company (our Lender) the
ability to provide us with notice that they are exercising their rights under
the credit facility by demanding payment in full of the outstanding indebtedness
under our credit facility.




13




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In June 2010, the
Company and the bank entered into a second amendment to the loan agreement
pursuant to which our Lender waived any event of default under the agreement
resulting from the covenant violations for the fiscal quarters ended December
31, 2009 and March 31, 2010 (the “covenant violations”). This waiver did not
amend or alter in any respect the terms and conditions of the Agreement or any
of the other loan documents, or to constitute a waiver or release by the Lender
of any right, remedy or event of default under the agreement or any of the other
loan documents, except to the extent expressly set forth under the second
amendment to the Loan agreement. The agreement is amended to update the
financial covenants as defined in the amendment and the notes (See Note
6).




While we believe we
have good relations with our Lender, we can provide no assurance that we will be
able to obtain waivers or amendments if future covenant violations occur under
our credit facility. Failure to obtain such waivers or amendments, if necessary,
could materially affect our business, financial condition and results of
operations.




Any impairment of goodwill and other
intangible assets, could negatively impact our results of
operations.




The Company’s
goodwill is subject to an impairment test on an annual basis and is also tested
whenever events and circumstances indicate that goodwill may be impaired. Any
excess goodwill value resulting from the impairment test must be written off in
the period of determination. Intangible assets (other than goodwill) are
generally amortized over the useful life of such assets. In addition, from time
to time, we may acquire or make an investment in a business which will require
us to record goodwill based on the purchase price and the value of the acquired
tangible and intangible assets. We may subsequently experience unforeseen issues
with such business which adversely affect the anticipated returns of the
business or value of the intangible assets and trigger an evaluation of the
recoverability of the recorded goodwill and intangible assets for such business.
Future determinations of significant write-offs of goodwill or intangible assets
as a result of an impairment test or any accelerated amortization of other
intangible assets could have a negative impact on our results of operations and
financial condition.




We are dependent upon several suppliers for a
significant portion of raw materials used in the manufacturing of our products
and any significant interruption could have a material adverse affect on our
manufacturing.




The principal raw
materials we use in the manufacture of our semiconductor components and sensor
assemblies are silicon and III-IV wafers, chemicals and gases used in processing
wafers, gold wire, lead frames, specialized semiconductor amplifiers, and a
variety of packages and substrates, including metal, printed circuit board, flex
circuits, ceramic and plastic packages. All of these raw materials can be
obtained from several suppliers. During the last several years, the number of
suppliers of components has decreased significantly and, more recently, demand
for components has increased rapidly. Any supply deficiencies relating to the
quality or quantities of components we use to manufacture our products could
adversely affect our ability to fulfill customer orders and our results of
operations. For example, during the quarter ended March 31, 2010, we experienced
some limitations on the components available from certain of our suppliers,
resulting in losses of anticipated sales and the related revenues.




Customer acceptance of our products is
dependent on our ability to meet changing requirements, and any decrease in
acceptance could adversely affect our revenue.




Customer acceptance
of our products is significantly dependent on our ability to offer products that
meet the changing requirements of our customers, including telecommunication,
military, medical and industrial corporations, as well as government agencies.
Any decrease in the level of customer acceptance of our products could have a
material adverse affect on the Company.




14




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Our inability to find new customers and retain
existing customers could have a material adverse affect on our business.




Customers normally
purchase our products and incorporate them into products that they in turn sell
in their own markets on an ongoing basis. As a result, our sales are dependent
upon the success of our customers' products and our future performance is
dependent upon our success in finding new customers and receiving new orders
from existing customers.




In several of our
markets, quality and/or reliability of our products are a major concern for our
customers, not only upon the initial manufacture of the product, but for the
life of the product. Many of our products are used in remote locations for
higher value assembly, making servicing of our products not feasible. Any
failure of the quality and/or reliability of our products could have an adverse
affect on our business.




If our customers do not qualify our products
or if their customers do not qualify their products, our results of operations
may suffer.




Most of our customers
do not purchase our products prior to qualification of our products and
satisfactory completion of factory audits and vendor evaluation. Our existing
products, as well as each new product, must pass through varying levels of
qualification with our customers. In addition, because of the rapid
technological changes in our market, a customer may cancel or modify a design
project before we begin large-scale manufacture of the product and receive
revenues from the customer. It is unlikely that we would be able to recover the
expenses for cancelled or unutilized custom design projects. It is difficult to
predict with any certainty whether our customers will delay or terminate product
qualification or the frequency with which customers will cancel or modify their
projects, but any such delay, cancellation or modification could have a negative
effect on our results of operations.




If the end user
customers that purchase systems from our customers fail to qualify or delay
qualifications of any products sold by our customers that contain our products,
our business could be harmed. The qualification and field testing of our
customers’ systems by end user customers is long and unpredictable. This process
is not under the control of our company or our customers, and, as a result,
timing of our sales is unpredictable. Any unanticipated delay in qualification
of one of our customers’ products could result in the delay or cancellation of
orders from our customers for products included in their equipment, which could
harm our results of operations.




Our sales to overseas markets expose us to
additional, unpredictable risks which could have a material adverse affect on
our business.




A significant amount
of our sales are being derived from overseas markets. These international sales
are primarily focused in Asia, Europe and the Middle East. These operations are
subject to unpredictable risks that are inherent in operating in foreign
countries and which could have a material adverse affect on our business,
including the following:


- foreign countries could change
  regulations or impose currency restrictions and other restraints;
- changes in foreign currency exchange rates and hyperinflation
  or deflation in the foreign countries in which we operate;
- exchange controls;
- some countries impose burdensome tariffs and quotas;

15




---



- political changes and economic
  crises may lead to changes in the business environment in which we
  operate;
- international conflict, including terrorist acts, could
  significantly impact our financial condition and results of operations;
  and
- economic downturns, political instability and war or civil
  disturbances may disrupt distribution logistics or limit sales in individual
  markets.

In addition, the
Company utilizes third-party distributors to act as our representative for the
geographic region that they have been assigned. Sales through distributors
represent approximately 5% of total revenue. Significant terms and conditions of
distributor agreements include FOB source, net 30 days payment terms, with no
return or exchange rights, and no price protection. Since the product title
transfers to the distributor at the time of shipment by the Company, the
products are not considered inventory on consignment. Our success is dependent
on these distributors finding new customers and receiving new orders from
existing customers.




Customer orders and forecasts are subject to
cancellation or modification at any time which could result in higher
manufacturing costs.




Our sales are made
primarily pursuant to standard purchase orders for delivery of products.
However, by industry practice, orders may be canceled or modified at any time.
When a customer cancels an order, they are responsible for all finished goods,
all costs, direct and indirect, incurred by us, as well as a reasonable
allowance for anticipated profits. No assurance can be given that we will
receive these amounts after cancellation.




Uncertainty in
customer forecasts of their demands and other factors may lead to delays and
disruptions in manufacturing, which could result in delays in product shipments
to customers and could adversely affect our business.




Fluctuations and
changes in our customers’ demand are common in our industry. Such fluctuations,
as well as quality control problems experienced in our manufacturing operations
may cause us to experience delays and disruptions in our manufacturing process
and overall operations and reduce our output capacity. As a result, product
shipments could be delayed beyond the shipment schedules requested by our
customers or could be cancelled, which would negatively affect our sales,
operating income, strategic position at customers, market share and reputation.
In addition, disruptions, delays or cancellations could cause inefficient
production which in turn could result in higher manufacturing costs, lower
yields and potential excess and obsolete inventory or manufacturing equipment.
In the past, we have experienced such delays, disruptions and
cancellations.




The markets for many of our products are
characterized by changing technology which could cause obsolescence of our
products.




The markets for many
of our products are characterized by changing technology, new product
introductions and product enhancements, and evolving industry standards. The
introduction or enhancement of products embodying new technology or the
emergence of new industry standards could render existing products obsolete or
result in short product life cycles. Accordingly, our ability to compete is in
part dependent on our ability to continually offer enhanced and improved
products.




We depend on key in-house manufacturing
capabilities and a loss of these capabilities could have an adverse affect on
our existing operations and new business growth.




We depend on key in-house manufacturing
equipment and assembly processes. We believe that these key manufacturing and
assembly processes give us the flexibility and responsiveness to meet our
customer delivery schedule and performance specification with a custom product.
This value proposition is an important component of our offering to our
customers. A loss of these capabilities could have an adverse affect on our
existing operations and new business growth.




16




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Changes in the spending priorities of the
federal government can materially adversely affect our business.




In FY 2010,
approximately 30% of our sales were related to products and services purchased
by military contractors. Our business depends upon continued federal government
expenditures on defense, intelligence, aerospace and other programs that we
support. In FY 2010, our sales to military contractors decreased 32%. In
addition, foreign military sales are affected by U.S. government regulations,
regulations by the purchasing foreign government and political uncertainties in
the U.S. and abroad. There can be no assurance that the U.S. defense and
military budget will continue to grow or that sales of defense related items to
foreign governments will continue at present levels. The terms of defense
contracts with the U.S. government generally permit the government to terminate
such contracts, with or without cause, at any time. Any unexpected termination
of a significant U.S. government contract with a military contractor that we
sell our products to could have a material adverse affect on the Company.




Our industry is highly competitive and
fragmented, which can result in future competitors against which we cannot
compete.




API competes with a
range of companies for the custom optoelectronic requirements of customers in
our target markets. We believe that our principal competitors for sales of our
products are small to medium size companies. Because the Company specializes in
custom high performance devices requiring a high degree of engineering expertise
to meet the requirements of specific applications, we generally do not compete
to any significant degree with other large United States, European or Pacific
Rim high volume manufacturers of standard “off the shelf” optoelectronic
components. We cannot assure you that we will be able to compete successfully in
our markets against these or any future competitors.




Decreases in average selling prices of our
products may reduce operating profit and net income, particularly if we are not
able to reduce our expenses commensurately.




The market for
optical components and subsystems continues to be characterized by declining
average selling prices resulting from factors such as increased price
competition among optical component and subsystem manufacturers, excess
capacity, the introduction of new products and increased unit volumes as
manufacturers continue to deploy network and storage systems. Recently, we have
observed a modest acceleration in the decline of average selling prices. We
anticipate that average selling prices will continue to decrease in the future
in response to product introductions by our competitors or us, or in response to
other factors, including price pressures from significant customers. In order to
sustain profitable operations, we must, therefore, continue to develop and
introduce new products on a timely basis that incorporate features that can be
sold at higher average selling prices. Failure to do so could cause our sales
and operating profit to decline.




In the current
environment of declining average selling prices we must continually seek ways to
reduce our costs to maintain our operating profit and net income. The Company’s
cost reduction efforts may not allow us to keep pace with competitive pricing
pressures. To remain competitive, we must continually reduce the cost of
manufacturing our products through design and engineering changes. We may not be
successful in redesigning our products or delivering our products to market in a
timely manner. We cannot assure you that any redesign will result in sufficient
cost reductions enabling us to reduce the price of our products to remain
competitive or maintain our operating profit and net income.




17




---



Shifts in our product mix may result in
declines in operating income and net income.




Our gross profit
margins vary among our product platforms, and are generally higher on our HSOR
and Terahertz products. Our overall operating income has fluctuated from period
to period as a result of shifts in product mix, the introduction of new
products, decreases in average selling prices for older products and our ability
to reduce product costs, and these fluctuations are expected to continue in the
future.




Environmental regulations could increase
operating costs and additional capital expenditures and delay or interrupt
operations.




The photonics
industry, as well as the semiconductor industry in general, is subject to
governmental regulations for the protection of the environment, including those
relating to air and water quality, solid and hazardous waste handling, and the
promotion of occupational safety. Various federal, state and local laws and
regulations require that we maintain certain environmental permits. We believe
that we have obtained all necessary environmental permits required to conduct
our manufacturing processes. Changes in the aforementioned laws and regulations
or the enactment of new laws, regulations or policies could require increases in
operating costs and additional capital expenditures and could possibly entail
delays or interruptions of operations.




If we are unable to protect our intellectual
property rights adequately, the value of our products could be
diminished.




Our success and
ability to compete is dependent in part on our proprietary technology. We rely
on a combination of patent, copyright, trademark and trade secret laws, as well
as confidentiality agreements and internal procedures, to establish and protect
our proprietary rights. We utilize proprietary design rules and processing steps
in the development and fabrication of our PIN photodiodes, APD photodiodes and
our THz systems and sensors. In addition, our products rely upon over 105
patents or patents pending. There can be no assurance that any issued patents
will provide us with significant competitive advantages, or that challenges will
not be instituted against the validity or enforceability of any patent utilized
by us, or, if instituted, that such challenges will not be successful. The cost
of litigation to uphold the validity and to prevent the infringement of a patent
could be substantial and could have a material adverse affect on our operating
results. Furthermore, there can be no assurance that our PIN photodiodes, APD
photodiodes and THz technology will not infringe on patents or rights owned by
others, licenses to which might not be available to us. Based on limited patent
searches, contacts with others knowledgeable in the field of PIN photodiodes,
APD photodiodes and our THz technology, and a review of the published materials,
we believe that our competitors hold no patents, licenses or other rights to the
PIN photodiodes, APD photodiodes and our THz technology which would preclude us
from pursuing our intended operations.




In some cases, we may
rely on trade secrets to protect our innovations. There can be no assurance that
trade secrets will be established, that secrecy obligations will be honored or
that others will not independently develop similar or superior technology. To
the extent that consultants, key employees or other third parties apply
technological information independently developed by them or by others to our
projects, disputes might arise as to the proprietary rights to such information
which may not be resolved in our favor.




Our failure to protect our intellectual
property may significantly harm our business.




Our success and ability to compete is dependent
in part on our proprietary technology. We rely on a combination of patent,
copyright, trademark and trade secret laws, as well as confidentiality
agreements and internal procedures, to establish and protect our proprietary
rights. Although a number of patents have been issued to us and we have obtained
a number of other patents as a result of our acquisitions, we cannot assure you
that our issued patents will be upheld if challenged by another party.
Additionally, with respect to any patent applications that we have filed, we
cannot assure you that any patents will issue as a result of these applications.
If we fail to protect our intellectual property, we may not receive any return
on the resources expended to create the intellectual property or generate any
competitive advantage based on it.




18




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Pursuing infringers of our intellectual
property rights can be costly.




Pursuing infringers
of our proprietary rights could result in significant litigation costs, and any
failure to pursue infringers could result in our competitors utilizing our
technology and offering similar products, potentially resulting in loss of a
competitive advantage and decreased sales. Despite our efforts to protect our
proprietary rights, existing patent, copyright, trademark and trade secret laws
afford only limited protection. In addition, the laws of some foreign countries
do not protect our proprietary rights to the same extent as do the laws of the
United States. Protecting our intellectual property is difficult especially
after our employees or our third-party contractors end their employment or
engagement. We may have employees leave us and go to work for competitors.
Attempts may be made to copy or reverse-engineer aspects of our products or to
obtain and use information that we regard as proprietary. Accordingly, we may
not be able to prevent misappropriation of our technology or prevent others from
developing similar technology. Furthermore, policing the unauthorized use of our
products is difficult and expensive. Litigation may be necessary in the future
to enforce our intellectual property rights or to determine the validity and
scope of the proprietary rights of others. The resulting costs and diversion of
resources could significantly harm our business. If we fail to protect our
intellectual property, we may not receive any return on the resources expended
to create the intellectual property or generate any competitive advantage based
on it.




Third parties may claim we are infringing
their intellectual property rights and we could be prevented from selling our
products, or suffer significant litigation expense, even if these claims have no
merit.




Our competitive
position is driven in part by our intellectual property and other proprietary
rights. Third parties, however, may claim that we, or our products, operations
or any products or technology we obtain from other parties are infringing their
intellectual property rights, and we may be unaware of intellectual property
rights of others that may cover some of our assets, technology and
products.




In addition, from
time to time we receive letters from third parties that allege we are infringing
their intellectual property and asking us to license such intellectual property,
and we review the merits of each letter. Any litigation regarding patents,
trademarks, copyrights or other intellectual property rights, even those without
merit, could be costly and time consuming, and divert our management and key
personnel from operating our business. The complexity of the technology involved
and inherent uncertainty and cost of intellectual property litigation increases
our risks. If any third-party has a meritorious or successful claim that we are
infringing its intellectual property rights, we may be forced to change our
products or manufacturing processes or enter into licensing arrangement with
third parties, which may be costly or impractical, particularly in the event we
are subject to a contractual commitment to continue supplying impacted products
to our customers. This also may require us to stop selling our products as
currently engineered, which could harm our competitive position. We also may be
subject to significant damages or injunctions that prevent the further
development and sale of certain of our products or services and may result in a
material decrease in sales.




19




---



We face strong competition for skilled workers
which could result in our inability to attract and retain necessary personnel.




Our success depends
in large part on its ability to attract and retain highly qualified scientific,
technical, management, and marketing personnel. Competition for such personnel
is intense and there can be no assurance that we will be able to attract and
retain the personnel necessary for the development and operation of our
business.




We may not be able to successfully integrate
future acquisitions, which could result in our not achieving the expected
benefits of the acquisition, the disruption of our business and an increase in
our costs.




Over the past five
years, we have acquired one business and we continually explore opportunities to
acquire related businesses, some of which could be material to us. Our ability
to continue to grow may depend upon identifying and successfully acquiring
attractive companies, effectively integrating these companies, achieving cost
efficiencies and managing these businesses as part of our company.




We may not be able to
effectively integrate the acquired companies and successfully implement
appropriate operational, financial and management systems and controls to
achieve the benefits expected to result from these acquisitions. Our efforts to
integrate these businesses could be affected by a number of factors beyond our
control, such as regulatory developments, general economic conditions and
increased competition. In addition, the process of integrating these businesses
could cause the interruption of, or loss of momentum in, the activities of our
existing business. The diversion of management’s attention and any delays or
difficulties encountered in connection with the integration of these businesses
could negatively impact our business and results of operations. Further, the
benefits that we anticipate from these acquisitions may not
develop.




Risks Relating to Our Class A Common
Stock




Our share price has been volatile in the past and may decline in the
future.




Our Class A Common
Stock has experienced significant market price and volume fluctuations in the
past and may experience significant market price and volume fluctuations in the
future in response to factors such as the following, some of which are beyond
our control:


- quarterly variations in our
  operating results;
- operating results that vary from
  the expectations of securities analysts and investors;
- changes in expectations as to our
  future financial performance, including financial estimates by securities
  analysts and investors;
- announcements of technological
  innovations or new products by us or our competitors;
- announcements by us or our
  competitors of significant contracts, acquisitions, strategic partnerships,
  joint ventures or capital commitments;
- changes in the status of our
  intellectual property rights;
- announcements by third parties of
  significant claims or proceedings against us;
- additions or departures of key
  personnel;
- future sales of our ordinary
  shares;
- stock market price and volume
  fluctuations; and
- general economic
  conditions.

20




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Stock markets often
experience extreme price and volume fluctuations. Market fluctuations, as well
as general political and economic conditions, such as a recession or interest
rate or currency rate fluctuations or political events or hostilities in or
surrounding the United States, could adversely affect the market price of our
Class A Common Stock.




In the past,
securities class action litigation has often been brought against companies
following periods of volatility in the market price of its securities. We may in
the future be the target of similar litigation. Securities litigation could
result in substantial costs and divert management's attention and resources both
of which could have a material adverse affect on our business and results of
operations.




Future sales of our Class A Common Stock in
the public market could lower our stock price, and conversion of our warrants
and any additional capital raised by us may dilute your ownership in the
Company.




We may sell
additional shares of Class A Common Stock in the future. In addition, holders of
warrants or stock options may exercise their warrants or stock options to
purchase shares of our Class A Common Stock. We cannot predict the size of
future issuances of our Class A Common Stock or the effect, if any, that future
issuances and sales of shares of our Class A Common Stock will have on the
market price of our Class A Common Stock. Sales of substantial amounts of our
Class A Common Stock, including shares issued in connection with the exercise of
the warrants or stock options, or the perception that such sales could occur,
may adversely affect prevailing market prices for our Class A Common
Stock.




Shares eligible for public sale in the future
could decrease the price of our Class A Common Stock and reduce our future
ability to raise capital.




Sales of substantial
amounts of our Class A Common Stock in the public market could decrease the
prevailing market price of our Class A Common Stock, which would have an adverse
affect on our ability to raise equity capital in the future.




We do not intend to pay
dividends.




We have never
declared or paid any cash dividends on our Class A Common Stock. We currently
intend to retain future earnings, if any, to finance operations and expand our
business and, therefore, do not expect to pay any dividends in the foreseeable
future.




Item 2. Properties




The Company leases
all of its executive offices, research, marketing and manufacturing facilities
under non-cancellable operating leases. At March 31, 2010, those leases
consisted of approximately 90,100 square feet in two facilities. The lease for
our facility located in Camarillo, California was amended in December 2008 and
is now leased through February 2014. Our facility located in Ann Arbor, Michigan
is comprised of the corporate office and the Picometrix LLC manufacturing
plant.




In January 2010, The
Company’s wholly owned subsidiary, Picometrix LLC, entered into a "Fourth
Addendum & Extension Agreement" for its lease of the Ann Arbor, MI facility,
which extended the lease to May 31, 2021. The 50,000 sq. ft. facility houses the
Company's research, development and manufacturing operations for its terahertz
and high-speed optical receiver product platforms, API's corporate headquarters,
and the semiconductor micro-fabrication facility for all three of Advanced
Photonix's product platforms. The state-of-the-art facility was completed in
2001 and was designed to meet the unique requirements of the Company's ultrafast
optoelectronic product platforms, including InP and GaAs material growth,
semiconductor micro-fabrication, and precision hybrid assembly and high-speed
testing. In addition, the facility includes an industry leading HSOR laboratory
and three secure user laboratories for collaborative terahertz application
development.




21




---



Item 3. Legal Proceedings




None




Item 4. Reserved




PART II




Item 5. Market for Registrant’s Common Equity,
Related Shareholder Matters and Issuer Purchases of Equity Securities




The Company's Class A
Common Stock is traded on the NYSE Amex (AMEX) under the symbol "API".




Stock Performance Graph




The graph below
provides an indicator of our cumulative total stockholder return as compared
with the AMEX Composite Index and the AMEX Technology Index. The graph assumes
an initial investment of $100. The graph covers a period of time beginning in
March 27, 2005, through March 31, 2010, which represents the last trading day of
the year.




22




---








At June 24, 2010, the
Company had 120 holders of record for the Class A Common Stock (including shares
held in street name), representing approximately 5,000 beneficial owners of the
Class A Common Stock.




Quarterly Stock Market
Data




The following table
sets forth the high and low closing prices of the Company’s Class A Common Stock
by quarter for fiscal years 2010 and 2009.




Common Stock Price1st
      Quarter
            
            2nd
      Quarter
            
            3rd
      Quarter
            
            4th
      Quarter2010
            
            2009
            
            2010
            
            2009
            
            2010
            
            2009
            
            2010
            
            2009Common Stock1High
            
            $
            .73
            
            $
            1.90
            
            $
            .87
            
            $
            2.00
            
            $
            .90
            
            $
            2.00
            
            $
            .77
            
            $
            1.08Low
            
            $
            .59
            
            $
            1.01
            
            $
            .55
            
            $
            1.36
            
            $
            .57
            
            $
            .67
            
            $
            .54
            
            $
            .621Price ranges on
      the AMEX.


The Company has never
paid any cash dividends on its capital stock. The Company intends to retain
earnings, if any, for use in its business and does not anticipate that any funds
will be available for the payment of cash dividends on its outstanding shares in
the foreseeable future. The holders of Common Stock will not be entitled to
receive dividends in any year until the holders of the Class A Redeemable
Convertible Preferred Stock receive an annual non-cumulative dividend preference
of $.072 per share. To date, a total of 740,000 shares of Class A Redeemable
Convertible Preferred Stock have been converted into 222,000 shares of Class A
Common Stock, leaving outstanding 40,000 shares of Class A Redeemable
Convertible Preferred Stock. The aggregate non-cumulative annual dividend
preference of such Class A Redeemable Convertible Preferred Stock is $2,880.
There is no public market for the Company's Class A Redeemable Convertible
Preferred Stock or Class B Common Stock; however, such stock is convertible into
Class A Common Stock at the option of the holder and upon transfer by the holder
of the Class A Redeemable Convertible Preferred Stock.




23




---



Repurchases of Equity




The Company made no
repurchases of our common stock during our fourth fiscal quarter ended March 31,
2010.




Item 6. Selected Financial Data




Advanced Photonix,
Inc. is a smaller reporting company as defined by Rule 12b-2 of the Exchange Act
and is not required to provide the information required under this
item.




Item 7. Management’s Discussion and Analysis
of Financial Condition and Results of Operations




Forward-Looking Statements


Certain statements contained in this
Management’s Discussion and Analysis (MD&A), including, without limitation,
statements containing the words “may,” “will,” “can,” “anticipate,” “believe,”
“plan,” “estimate,” “continue,” and similar expressions constitute
“forward-looking statements.” These forward-looking statements reflect our
current views with respect to future events and are based on assumptions and
subject to risks and uncertainties. You should not place undue reliance on these
forward-looking statements. Our actual results could differ materially from
those anticipated in these forward-looking statements for many reasons,
including risks described in the Risk Factors sections and elsewhere in this
filing. Except for our ongoing obligation to disclose material information as
required by federal securities laws, we do not intend to update you concerning
any future revisions to any forward-looking statements to reflect events or
circumstances occurring after the date of this report. The following discussion
should be read in conjunction with the Risk Factors as well as our financial
statements and the related notes .




Application of Critical Accounting
Policies


Application of our
accounting policies requires management to make certain judgments and estimates
about the amounts reflected in the financial statements. Management uses
historical experience and all available information to make these estimates and
judgments, although differing amounts could be reported if there are changes in
the assumptions and estimates. Estimates are used for, but not limited to, the
accounting for the allowance for doubtful accounts, inventory cost adjustments,
impairment costs, depreciation and amortization, warranty costs, taxes and
contingencies. Management has identified the following accounting policies as
critical to an understanding of our financial statements and/or as areas most
dependent on management's judgments and estimates.




Global Economic Conditions


The credit markets
and the financial services industry continue to experience a period of
significant disruption characterized by the bankruptcy, failure, collapse or
sale of various financial institutions, increased volatility in securities
prices, severely diminished liquidity and credit availability and a significant
level of intervention from the United States and other governments. Continued
concerns about the systemic impact of potential long-term or widespread
recession, energy costs, geopolitical issues, the availability and cost of
credit, the global commercial and residential real estate markets and related
mortgage markets and reduced consumer confidence have contributed to increased
market volatility and diminished expectations for most developed and emerging
economies continuing into 2010. As a result of these market conditions, the cost
and availability of credit has been and may continue to be adversely affected by
illiquid credit markets and wider credit spreads. Continued turbulence in the
United States and international markets and economies could restrict our ability
to refinance our existing indebtedness, increase our costs of borrowing, limit
our access to capital necessary to meet our liquidity needs and materially harm
our operations or our ability to implement our business strategy.




24




---



Revenue Recognition


Revenue is derived
principally from the sales of the Company’s products. The Company recognizes
revenue when the basic criteria of Staff Accounting Bulletin No. 104, Revenue
Recognition, are met. Specifically, the Company recognizes revenue when
persuasive evidence of an arrangement exists, usually in the form of a purchase
order, when shipment has occurred since its terms are FOB source, or when
services have been rendered, title and risk of loss have passed to the customer,
the price is fixed or determinable and collection is reasonably assured in terms
of both credit worthiness of the customer and there are no post shipment
obligations or uncertainties with respect to customer acceptance.




The Company sells
certain of its products to customers with a product warranty that provides
warranty repairs at no cost. The length of the warranty term is one year from
date of shipment. The Company accrues the estimated exposure to warranty claims
based upon historical claim costs. The Company’s management reviews these
estimates on a regular basis and adjusts the warranty provisions as actual
experience differs from historical estimates or as other information becomes
available.




The Company does not
provide price protection or general right of return. The Company’s return policy
only permits product returns for warranty and non-warranty repair or replacement
and requires pre-authorization by the Company prior to the return. Credit or
discounts, which have been historically insignificant, may be given at the
discretion of the Company and are recorded when and if determined.




The Company
predominantly sells directly to original equipment manufacturers with a direct
sales force. The Company sells in limited circumstances through distributors.
Sales through distributors represent approximately 5% of total revenue.
Significant terms and conditions of distributor agreements include FOB source,
net 30 days payment terms, with no return or exchange rights, and no price
protection. Since the product transfers title to the distributor at the time of
shipment by the Company, the products are not considered inventory on
consignment.




Revenue is also
derived from technology research and development contracts. We recognize revenue
from these contracts as services and/or materials are provided.




Impairment of Long-Lived
Assets


As of March 31, 2010
and March 31, 2009, our consolidated balance sheet included $4.6 million in
goodwill. Goodwill represents the excess purchase price over amounts assigned to
tangible or identifiable intangible assets acquired and liabilities assumed from
our business acquisitions.




Goodwill
and  intangible assets that are not subject to
amortization shall be tested for impairment annually or more frequently if
events or changes in circumstances indicate that the asset might be impaired.
The impairment test shall consist of a comparison of the fair value of the asset
with its carrying amount, as defined. This guidance requires a two-step method
for determining goodwill impairment. Step one is to compare the fair value of
the reporting unit with the unit’s carrying amount, including goodwill. If this
test indicates that the fair value is less than the carrying value, then step
two is required to compare the implied fair value of the reporting unit’s
goodwill with the carrying amount of the reporting unit’s goodwill. If the
carrying amount of the asset exceeds its fair value, an impairment loss shall be
recognized in an amount equal to that excess. The Company has selected March 31
as the date for its annual impairment test.




25




---



We determine the fair
value of our single reporting unit to be equal to our market capitalization plus
a control premium. Market capitalization is determined by multiplying the shares
outstanding on the assessment date by the average market price of our common
stock over a 10-day period before and a 10-day period after each assessment
date. We use this 20-day duration to consider inherent market fluctuations that
may affect any individual closing price. We believe that our market
capitalization alone does not fully capture the fair value of our business as a
whole, or the substantial value that an acquirer would obtain from its ability
to obtain control of our business. As such, in determining fair value, we add a
control premium — which seeks to give effect to the increased consideration a
potential acquirer would be required to pay in order to gain sufficient
ownership to set policies, direct operations and make decisions related to our
Company— to our market capitalization.




The Company’s
evaluation as of March 31, 2010 and March 31, 2009, indicated there were no
impairments. As of March 31, 2010, our market capitalization calculated as
described as above, was $14.2 million and our carrying value, including
goodwill, was $14.4 million. We applied a 25% control premium to market
capitalization to determine a fair value of $17.8 million. We believe that
including a control premium at this level is supported by recent transaction
data in our industry. Absent the inclusion of a control premium, our carrying
value would have exceeded fair value, requiring a step two analysis which may
have resulted in an impairment of goodwill.




As of March 31, 2009,
our market capitalization, calculated as described above, was $17.1 million and
our carrying value, including goodwill, was $17.9 million. We applied a 25%
control premium to market capitalization to determine a fair value of $21.4
million. We believe that including a control premium at this level is supported
by recent transaction data in our industry. Absent the inclusion of a control
premium, our carrying value would have exceeded fair value, requiring a step two
analysis which may have resulted in an impairment of goodwill.




As evidenced above,
our stock price and control premium are significant factors in assessing our
fair value for purposes of the goodwill impairment assessment. Our stock price
can be affected by, among other things, changes in industry or market
conditions, changes in our results of operations, and changes in our forecasts
or market expectations relating to future results. Significant turmoil in the
financial markets and weakness in macroeconomic conditions globally have
recently contributed to volatility in our stock price and a significant decline
in our stock price during the fourth quarter of FY 2010. Our stock price has
fluctuated from a high of $0.77 to a low of $0.54 during the fourth quarter of
FY 2010. On most of the trading days during the fourth quarter of FY 2010, our
stock price was high enough that our market capitalization exceeded our carrying
value without giving effect to a control premium. The current macroeconomic
environment, however, continues to be challenging and we cannot be certain of
the duration of these conditions and their potential impact on our stock price
performance. If our recent stock price decline persists and our market
capitalization remains below our carrying value for a sustained period, it is
reasonably likely that a goodwill impairment assessment prior to the next annual
review in the fourth quarter of fiscal 2011 would be necessary and an impairment
of goodwill may be recorded. A non-cash goodwill impairment charge would have
the affect of decreasing our earnings or increasing our losses in such period.
If we are required to take a substantial impairment charge, our operating
results would be materially adversely affected in such period.




The carrying value of
long-lived assets, including amortizable intangibles and property and equipment,
are evaluated whenever events or changes in circumstances indicate that a
potential impairment has occurred relative to a given asset or assets.
Impairment is deemed to have occurred if projected undiscounted cash flows
associated with an asset are less than the carrying value of the asset. The
estimated cash flows include management’s assumptions of cash inflows and
outflows directly resulting from the use of that asset in operations. The amount
of the impairment loss recognized is equal to the excess of the carrying value
of the asset over its then estimated fair value. The Company’s evaluation for
the fiscal year ended March 31, 2010 indicated there were no
impairments.




26




---



Accounting for Income Taxes


Income tax provisions
and benefits are made for taxes currently payable or refundable, and for
deferred income taxes arising from future tax consequences of events that were
recognized in the Company’s financial statements or tax returns. The effects of
income taxes are measured based on enacted tax laws and rates applicable to
periods in which the differences are expected to reverse. If necessary, a
valuation allowance is established to reduce deferred income tax assets to an
amount that will more likely than not be realized in accordance with FASB
guidance pertaining to accounting for income taxes.




As part our
assessment of the need for a valuation allowance, we consider all available
evidence, both positive and negative, including our recent operating results and
our forecasting process. The Company forecasts taxable income through its
budgeting and planning process each year. The process takes into account
existing contracts, firm sales backlog, and projected sales based upon customer
supplied forecasts of product purchases its design wins, Company resources
needed to fulfill these customers’ requirements, and extraordinary expenses that
may be part of long-term initiatives to increase shareholder value through
revenue growth and efficiency improvements leading to profit improvement. The
Company has substantial history, more than 10 years in most cases, with its
customers and its market on which its forecasts are based.




At March 31, 2010,
the Company had net operating loss carry forwards (NOL’s) of approximately $20.8
million for Federal income tax purposes and $5.6 million for state income tax
purposes that expire at various dates through fiscal year 2030. The tax laws
related to the utilization of loss carry forwards are complex and the amount of
the Company’s loss carry forward that will ultimately be available to offset
future taxable income may be subject to annual limitations under Internal
Revenue Code (IRC) Section 382 resulting from changes in the ownership of the
Company’s common stock.




The Company performed
an analysis to determine whether an ownership change under IRC Section 382 had
occurred. The effect of an ownership change would be the imposition of an annual
limitation on the use of the net operating loss carry forwards attributable to
periods before the change. As of March 31, 2010, the Company believes there are
no limitations on the use of these Federal NOLs.




At March 31, 2010,
the Company’s net deferred tax asset before consideration of a valuation
allowance was approximately $7.7 million, mainly consisting of net operating
loss carry-forwards. In assessing the realizability of deferred tax assets, the
Company has determined that at this time it is “more likely than not” that
deferred tax assets will not be realized, primarily due to uncertainties related
to its ability to utilize the net operating loss carry-forwards before they
expire. In making this determination, we considered the negative evidence that
we had tax losses in each of the last three years and cumulative taxable losses
over the past three years, which outweighed the positive evidence of taxable
income projections in future years. The ultimate realization of these deferred
tax assets is dependent upon the generation of future taxable income during
those periods in which those temporary differences become deductible or within
the periods before NOL carry forwards expire. As of both March 31, 2010 and
2009, the Company recorded a full valuation allowance on its net deferred tax
assets.




27




---



The calculation of
federal income taxes involves dealing with uncertainties in the application of
complex tax regulations. The Company recognizes liabilities for uncertain tax
positions based on a two-step process. The first step involves evaluating the
tax position for recognition by determining if the weight of available evidence
indicates that it is more likely than not that the position will be sustained on
audit, including resolution of related appeals or litigation processes, if any.
The second step involves estimating and measuring the tax benefit as the largest
amount that is more than 50% likely to be realized upon ultimate settlement. It
is inherently difficult and subjective to estimate such amounts, as we have to
determine the probability of various possible outcomes. Our evaluation of
uncertain tax positions is based on factors including, but not limited to,
changes in facts or circumstances, changes in tax law, effectively settled
issues under audit, and new audit activity. Such a change in recognition or
measurement would result in the recognition of a tax benefit or an additional
charge to the tax provision. The Company has taken no tax positions which would
require disclosure. Although the IRS is not currently examining any of our
income tax returns, tax years 2006 to 2009 remain open and are subject to
examination.




Inventories


Inventories, which
include material, labor and manufacturing overhead, are stated at the lower of
cost (on a first in–first out basis) or market. Slow moving and obsolete
inventories are reviewed throughout the year to assess whether a cost adjustment
is required. Our review of slow moving and obsolete inventory begins with a
listing of all inventory items which have not moved regularly within the past 12
months. In addition, any residual inventory, which is customer specific and
remaining on hand at the time of contract completion, is included in the list.
The complete list of slow moving and obsolete inventory is then reviewed by the
production, engineering and/or purchasing departments to identify items that can
be utilized in the near future. These items are then excluded from the analysis
and the remaining amount of slow-moving and obsolete inventory is then further
assessed and a write down is recorded when warranted. Additionally,
non-cancelable open purchase orders for parts we are obligated to purchase where
demand has been reduced may also be written down. Impairments for open purchase
orders where the market price is lower than the purchase order price are also
recorded. The impairments established for excess, slow moving, and obsolete
inventory create a new cost basis for those items. The cost basis of these parts
is not subsequently increased if the circumstances which led to the impairment
change in the future. If a product that had previously been impaired is
subsequently sold, the amount of reduced cost basis is reflected as cost of
goods sold.




Results of Operations




Fiscal Year Ended March 31, 2010 Compared to Fiscal Year Ended March 31,
2009




Revenues


The Company
predominantly operates in one industry segment, light and radiation detection
devices that it sells to multiple markets including telecommunications,
industrial sensing/NDT, military/aerospace, medical, and homeland security.
Revenues by market consisted of the following:




Year
      endedMarch 31, 2010
            
            March 31, 2009Telecommunications
            
            $
            5,763,000
            
            27%
            
            $
            6,003,000
            
            21%Industrial Sensing/NDT
            
            
            8,457,000
            
            40%
            
            
            11,327,000
            
            38%Military/Aerospace
            
            
            6,283,000
            
            30%
            
            
            9,215,000
            
            31%Medical
            
            
            411,000
            
            2%
            
            
            2,107,000
            
            7%Homeland Security
            
            
            161,000
            
            1%
            
            
            1,023,000
            
            3%Total
      Revenues
            
            $
            21,075,000
            
            100%
            
            $
            29,675,000
            
            100%


The Company's
revenues for FY 2010 were $21.1 million, a decrease of $8.6 million, or 29%,
from revenues of $29.7 million for the FY 2009. The Company experienced
reductions in all five markets during FY 2010.




28




---



Telecommunications
sales were $5.8 million, a decrease of $240,000 or 4% from FY 2009. The
Company’s telecommunications revenues for FY 2010 continued to reflect the
economic slowdown and the reduction in capital expenditures as our customers and
service providers responded to the recession. Verizon and AT&T CAPEX were
down approximately 10% for the year, with wireline CAPEX down 16%. AT&T, the
largest 40G deploying service provider, reduced wireline CAPEX by approximately
21% for calendar year 2009, which included shifting capital expenditures away
from 40G deployments in our 3rd quarter of FY 2010 to wireless, primarily for
enhanced wireless coverage and 10G wireless backhaul. Current North American
customer plans for capital spending are projected to be up approximately 4% in
calendar year 2010 over calendar year 2009, which should result in stronger
telecommunication revenue in future quarters. North American wireline CAPEX is
expected to be stronger in the second half of calendar year 2010. The Company’s
Telecommunications revenue in the fourth quarter increased approximately 71%
($560,000) over the prior year fourth quarter and increased approximately 11%
from the third quarter of the current year, an indication that our customers are
starting to recover from the prior year economic recession. The Company expects
telecommunication revenue to grow in fiscal year 2011.




Industrial
Sensing/NDT market revenues were $8.5 million in FY 2010, a decrease of 25% (or
$2.8 million) from FY 2009 revenues of $11.3 million. This decrease was
primarily the result of a slowdown in the Industrial Sensing market due to the
recession. The Company’s Industrial Sensing/NDT revenue in the fourth quarter of
the current year increased approximately 26% ($538,000) over the prior year
fourth quarter, and increased approximately 43% ($789,000) from the third
quarter of the current year. Growth in our comparative and consecutive quarters
are reflecting a gradual strengthening in our industrial markets as the economy
slowly recovers from the economic recession and the beginning of our Terahertz
NDT application development contract to inspect the F-35 Joint Strike Fighter.
The Company expects moderate growth in the industrial/NDT market in fiscal year
2011.




Military/Aerospace
market revenues were $6.3 million, a decrease of 32% (or $2.9 million) from the
comparable prior year revenues of $9.2 million. The Company’s military/aerospace
market revenue in the fourth quarter of the current year decreased 27%
($390,000) from the third quarter of the current year and decreased 56% ($1.4
million) from the prior year fourth quarter. This decrease was attributable
primarily to the timing of customer order releases and a slight reduction in
customer requirements. The Company’s expects military revenues to normalize
during the coming year resulting in moderate growth in fiscal year
2011.




Medical market
revenues decreased $1.7 million or 81% from the prior year of $2.1 million. The
Company’s medical market revenue in the fourth quarter of the current year
decreased 12% ($9,000) from the third quarter of the current year and decreased
89% ($592,000) from the prior year fourth quarter. This decrease was primarily a
result of the Company’s decision to eliminate business at a customer that did
not meet its profitability criteria. The Company expects Medical market revenues
to grow in fiscal year 2011.




Homeland security
revenues decreased 84% ($862,000) to $161,000. This decrease was the result of
the completion of the Terahertz development contract from the Department of
Homeland Security for the Nuclear Gauge feasibility demonstration completed in
September 2009. The Company expects Homeland Security revenues for fiscal year
2011 to remain at the current level, absent a significant new development
contract.




29




---



Gross Profit


Gross Profit was $9.0
million (or 43% of revenue), compared to the prior year of $12.9 million (or 44%
of revenue), a decrease of $3.9 million (or 30%). The lower gross profit was due
primarily to lower revenue, offset partially by cost savings realized through
prior years’ facilities consolidation activities and our FY 2010 company-wide
cost reduction initiative. Despite a 29% drop in revenue ($8.6 million), the
Company’s gross margin as a percentage of revenue only dropped to 43% during the
current fiscal year, compared to the 44% for the prior fiscal year. This 1%
decline in gross margin percentage, on a revenue drop of 29%, demonstrates the
efficiencies gained as the result of past consolidation and cost reduction
efforts. This positions the Company to realize expanding gross margins as
revenue growth resumes in fiscal year 2011 driven by our growth product
platforms.




Operating Expenses


Research and Development expenses (R&D)
-- The Company’s R&D
expenses increased approximately 1% over the prior year. R&D expenses of
$4.7 million for FY 2010 and FY 2009 were 22% and 16% of sales, respectively.
The Company maintained its R&D investment of $4.7 million in its growth
products platforms despite the recession. The Company expects to increase
investment in the next generation 40G/100G HSOR products and THz application and
market development in fiscal year 2011 in order to gain HSOR market share and
move THz from the laboratory to the factory floor.




Sales and Marketing expenses (S&M) – The Company’s S&M
expenses decreased $996,000 (or 38%) to $1.7 million (8% of sales) in FY 2010
compared to $2.7 million (9% of sales) in FY 2009. The decrease was primarily
attributable to lower compensation, travel expense and sales commissions related
to the decline in field sales activity corresponding to the 29% decrease in
revenue in FY 2010. As the economy rebounds and revenues improve, the Company
will continue to focus its sales and marketing activities in our growth markets.
As a result, we expect increases in sales and marketing expenses in fiscal year
2011.




General and Administrative expenses (G&A)
-- G&A expenses
decreased by $711,000 (15%) to approximately $4.2 million (20% of sales) for FY
2010 as compared to $4.9 million (16% of sales) for FY 2009. This decrease was
primarily attributable to the Company’s cost savings initiatives resulting from
labor and other spending reductions. The Company expects an increase in G&A
expenses for fiscal year 2011, partially as a result of increased Securities and
Exchange Commission reporting requirements related to the application of Section
404 of the Sarbanes-Oxley Act on small cap companies.




Amortization expense
remained flat compared to the prior year at approximately $2.1 million.




Other operating
expenses decreased $260,000 as a result of the completion of our wafer
fabrication consolidation. Wafer fabrication consolidation expenses were $40,000
in FY 2010 compared to $300,000 in FY 2009.




The Company’s
evaluations of Intangible assets and Goodwill for the years ended March 31, 2010
and 2009 resulted in no impairment adjustments.




Financing and Other Income (Expense), net


Interest income for
FY 2010 decreased $20,000 to approximately $8,000, compared to $28,000 in FY
2009, due primarily to lower cash balances available for short-term investment
and lower interest rates in FY 2010.




Interest expense for
FY 2010 was $304,000 as compared to $405,000 in FY 2009, a decrease of $101,000.
This decrease was primarily attributable to lower interest rates and reduced
debt obligations.




30




---



Net loss for FY 2010
was $3.7 million, as compared to net loss of $2.0 million in FY 2009, an
increase in loss of $1.7 million. The increase in losses for the year is
primarily attributable to lower revenue resulting in lower gross margins offset
by reduced operating expenses.




Liquidity and Capital Resources


At March 31, 2010,
the Company had cash and cash equivalents of $1.8 million, a decrease of
$310,000 from $2.1 million as of March 31, 2009. Cash generated from operations
in FY 2010 was $152,000, offset by a reduction in cash from investing activities
of $44,000 and a reduction in cash from financing activities of $418,000.




Operating Activities


Net cash provided by
operating activities of $152,000 for the year ended March 31, 2010 was primarily
the result of net cash provided by changes in operating assets and liabilities
of $405,000, offset by net cash used in operations of $254,000. The net cash
used in operations included a net loss of $3.7 million, offset by net cash
expenses of $3.6 million from depreciation, amortization and stock based
compensation expense, and non-cash income of approximately $182,000 to record a
change in the fair value of warrants. Changes in operating assets and
liabilities were primarily a result of lower revenues which reduced accounts
receivable by $605,000 and lowered accounts payable by $350,000. Prepaid and
other assets were lower by $63,000 and accrued expenses increased by $75,000.




Net cash provided by
operating activities of $2.7 million for the year ended March 31, 2009 was
primarily the result of net cash provided by operations of $1.4 million and net
cash provided by changes in operating assets and liabilities of $1.3 million.
The net cash provided by operations included a net loss of $2.0 million, offset
by net cash expenses of $3.4 million from depreciation, amortization and stock
based compensation expense. Changes in operating assets and liabilities were
primarily a result of reduced inventories of $462,000 and increased accrued
expenses of $911,000.




Investing Activities


Net cash used in
investing activities was approximately $44,000 for the year ended March 31,
2010. The amount consisted of capital expenditures of approximately $130,000
(which includes $40,000 to complete the conversion of the California clean room
to hybrid assembly manufacturing space), and patent expenditures of $192,000,
offset by the elimination of the certificate of deposit of $278,000 required by
the amended operating lease of the Ann Arbor facility.




Net cash provided by
investing activities was approximately $93,000 for the year ended March 31,
2009. The amount consisted of capital expenditures of approximately $721,000,
and patent expenditures of $186,000, offset by a $1.0 million lower restricted
cash balance required under a new bank loan agreement.




Financing Activities


The Company used
$418,000 in net cash from financing activities in FY 2010, primarily to reduce
$434,000 in bank debt, offset by proceeds from stock options exercised of
$16,000.




The Company used
$759,000 in net cash from financing activities in FY 2009, primarily to reduce
debt, including a net reduction in bank debt and capital lease obligations of
$268,000 and payments to related parties of $450,000. The net reduction in bank
debt included the payoff of the capital lease obligation of $1.9 million to
Fifth Third Bank agreement, financed primarily by the PrivateBank term loan of
$1.7 million.




31




---



Debt





Related Party Debt - As a result of the acquisition of Picotronix, Inc. in May 2005, the
stockholders of Picometrix received four-year API promissory notes in the
aggregate principal amount of $2.9 million ("Related Party Debt"). The notes
bear an interest rate of prime plus 1.0% and are secured by all of the
intellectual property of Picometrix. The interest rate at March 31, 2010 was
4.25%. API has the option of prepaying the debt to related parties without
penalty. Note holders include Robin Risser and Steve Williamson, the Company’s
CFO and CTO, respectively.




The Company’s only
significant related party transactions relate to the payment of principal and
interest on the Related Party Debt. On November 30, 2009, the Company and the
note holders entered into the fourth amendments to the notes to extend the due
date for the remaining principal balance of the notes (in the aggregate amount
of $1,400,500) to March 1, 2011 payable in two installments as
follows:




December 1, 2010
            $
            450,000March 1, 2011
            $
            950,500


Interest payments
made to Related Parties during FY 2010 & FY 2009 were approximately $60,000
and $94,000, respectively.




Bank Debt -
In March 2007, API, as Lessee, entered into a Master Equipment Lease Agreement
with Fifth Third Leasing Company, as Lessor, to finance the purchase of new
manufacturing equipment up to an aggregate of $2.3 million (Lease). API
purchased equipment under the Lease until June 30, 2007. This lease was
accounted for as a capital lease in accordance with FASB accounting literature.
On September 25, 2008, the Company retired the Master Equipment Lease Agreement
with Fifth Third Leasing Company by paying the remaining principal amount of
$1.7 million.




On September 25,
2008, the Company established a credit facility Agreement with The PrivateBank
and Trust Company (the Lender). As part of this banking relationship, the
Company established a three year Line of Credit of $3.0 million at an annual
interest rate of prime plus 1%, adjusted quarterly. The interest rate was 4.25%
on March 31, 2010. In addition, the Company also established an Equipment
Installment Loan of $1.7 million amortized over a term of four years, at an
interest rate of prime plus 1%. The facility contains customary representations,
warranties and financial covenants including minimum debt service coverage
ratio, adjusted EBITDA level and Net Worth requirements (as defined in the
Agreement).The principal loan amount on the Line of Credit is due on December
25, 2011, and the principal loan amount of the term loan is due on September 25,
2011, provided that if existing loans to the Company by the Michigan Economic
Development Corporation have not converted to equity on or before August 31,
2011, the outstanding principal shall be due on August 31, 2011. The
availability under the Line of Credit is determined by the calculation of a
borrowing base that includes a percentage of accounts receivable and
inventory.




On May 29, 2009, the
Company amended the Agreement effective March 31, 2009. According to the terms
of the amended Agreement, the Adjusted EBITDA level is measured on a year to
date basis for the June 26, 2009, September 25, 2009, December 25, 2009 and
March 31, 2010 test dates and thereafter on a trailing four quarter basis. In
addition, the Debt Service Coverage ratio and the Net Worth covenants were
amended. The amended minimum Debt Service Coverage ratio was 1.0 to 1.0 for the
first quarter of FY 2010, 1.25 to 1.0 for the second quarter of FY 2010 and 1.5
to 1.0 thereafter. The amended minimum Net Worth covenant was $15.5 million and
would increase by 10% of Net Income for each fiscal year that the Company
reports net income.




32




---



At December 25, 2009
and March 31, 2010, the Company was not in compliance with the financial
covenants. This constituted an event of default under the terms of the Agreement
which gave the Lender the ability to provide us with notice that they are
exercising their rights under the Agreement by demanding payment in full of the
outstanding indebtedness under the Agreement.




On June 25, 2010, the
Company and the Lender entered into a second amendment to the loan agreement
pursuant to which our Lender waived any event of default under the agreement
resulting from the covenant violations for the fiscal quarters ended December
31, 2009 and March 31, 2010 (the “covenant violations”). This waiver did not
amend or alter in any respect the terms and conditions of the Agreement or any
of the other loan documents, or to constitute a waiver or release by the Lender
of any right, remedy or event of default under the Agreement or any of the other
loan documents, except to the extent expressly set forth under the Second
Amendment to the Loan agreement. The agreement is amended to update the
financial covenants as defined in the amendment and the notes. In addition, the
Second Amendment requires the Company to amend the secured promissory notes
issued to our CFO and CTO in connection with the Company’s’ acquisition of
Picometrix, Inc. on May 2, 2005 (the notes) to defer the payment of the
remaining fourth and fifth installment payments owed under the Notes. Failure to
amend the Notes within 60 days of signing the Second Amendment will constitute
an event of default under the Agreement. The Second Amendment increased the
interest rate from prime plus 1% to prime plus 2%. According to the terms of the
amended Agreement, the Adjusted EBITDA level is measured on a quarterly basis
for the June 30, 2010, September 30, 2010, December 31, 2010 and March 31, 2011
test dates and thereafter on a trailing twelve months basis. In addition, the
Debt Service Coverage ratio and the Net Worth covenants were amended. The
amended minimum Debt Service Coverage ratio is 1.0 to 1.0 for the first three
quarters of fiscal 2011 and 1.2 to 1.0 thereafter. The amended minimum Net Worth
covenant is $13.0 million for the first quarter of FY 2011, $12.5 million for
the second quarter of FY 2011, $12.1 million for the third quarter of FY 2011
and $11.8 million for the fourth quarter of FY 2011. Substantially all of our
tangible assets serve as collateral for the debt that is owed our
Lender.




Based on the amended
loan covenants, the Company anticipates that it is not probable that the
Company will fail the new covenants during fiscal 2011 and as a result has
classified the current and future maturities in accordance with the second
amendment to the loan agreement.




MEDC Debt -
The Michigan Economic Development Corporation (MEDC) entered into two loan
agreements with Picometrix LLC, one in fiscal 2005 (MEDC-loan 1) and one in
fiscal 2006 (MEDC-loan 2). Both loans are unsecured.




The MEDC-loan 1 was
issued in the original principal amount of $1,025,000. Under the original terms
of the MEDC–loan 1, the interest rate was 7% and interest accrued but unpaid
through October 2008 would be added to then outstanding principal balance of the
promissory note issued pursuant to the MEDC-loan 1 and the restated principal
would be amortized over the remaining four years (September 15, 2012). Effective
September 23, 2008, the MEDC-loan 1 was amended and restated to change the start
date of repayment of principal and interest from October 2008 to October
2009.




During the 4th quarter of fiscal 2010, the Company began
negotiations with the MEDC to further amend the MEDC-loan 1 promissory note. The
Company and the MEDC agreed that the payment of restated principal and accrued
interest was to be suspended until the negotiations were completed. In May 2010,
the Company entered into a debt conversion agreement with the MEDC whereby the
MEDC would convert the accrued and unpaid interest as of November 30, 2009
totaling $324,669 into 601,239 unregistered shares of the Class A Common Stock
of the Company at a price per share of $0.54. In addition, the Company granted
the MEDC a put option to sell back to the Company the shares received pursuant
to the debt conversion agreement in the event of a trigger event as defined in
the agreement. In conjunction with the debt conversion agreement, the Company
amended the MEDC-loan 1 promissory note to retroactively change the interest
rate from 7% to 4% beginning in December 2009, and to change the repayment terms
of the outstanding principal and interest such that beginning in October 2010,
the Company is to repay the remaining principal and accrued interest on a
monthly basis through maturity in November 2014.




33




---



MEDC-loan 2, which
was assigned to the Michigan Strategic Fund (MSF) in June 2010, was issued in
the original amount of $1.2 million. Under the original terms of the MEDC–loan
2, the interest rate was 7% and interest accrued, but unpaid in the first two
years of this agreement was added to the then outstanding principal of the
promissory note issued pursuant to the MEDC-loan 2. During the third year of
this agreement, the Company was to pay interest on the restated principal of the
promissory note until October 2008, at which time the Company was to repay the
restated principal over the remaining three years (September 15, 2011).
Effective January 26, 2009, the MEDC-loan 2 of $1.2 million was amended and
restated to change the start date of repayment of principal and interest from
October 2008 to November 2009 and to extend the repayment period to October
2012.




During the 4th quarter of fiscal 2010, the Company began
negotiations with the MEDC to further amend the MEDC-loan 2 promissory note. The
Company and the MEDC agreed that the payment of restated principal and accrued
interest was to be suspended until the negotiations were completed. In May 2010,
the Company entered into a debt conversion agreement with the MEDC whereby the
MEDC would transfer the MEDC-loan 2 promissory note to the MSF which would
convert the accrued and unpaid interest as of October 31, 2009 totaling $237,667
into 440,124 unregistered shares of the Class A Common Stock of the Company at a
price per share of $0.54. In addition, the Company granted the MSF a put option
to sell back to the Company the shares received pursuant to the debt conversion
agreement in the event of a trigger event as defined in the debt conversion
agreement. In conjunction with the debt conversion agreement, the Company
amended the MEDC-loan 2 promissory note to retroactively change the interest
rate from 7% to 4% beginning in November 2009, and to change the repayment terms
of the outstanding principal and interest such that beginning in July 2010, the
Company is to repay the remaining principal and accrued interest on a monthly
basis through maturity in September 2014.




The Company believes
that current cash levels combined with cash generated from operations, our
revolving line of credit and additional debt or equity financing will be
sufficient for our 2011 fiscal year.




34




---



Summary of Contractual Obligations and
Commitments
 
 The following table
sets forth the contractual obligations of the Company at March 31,
2010.
 
 Contractual Obligations
            
            
            Payments due by periodWithin 1
            
            
            
            
            
            
            
            More thanTotal
            
            
            year
            
            1 – 3 years
            
            3 – 5 years
            
            5 yearsBank line of
      credit
            
            $
            1,394,000
            
            
            $
            -
            
            $
            1,394,000
            
            $
            -
            
            $
            -Bank term
      loan
            
            
            1,121,000
            
            
            
            434,000
            
            
            687,000
            
            
            -
            
            
            -Long-term MEDC
      loans
            
            
            2,224,000
            
            
            
            254,000
            
            
            1,593,000
            
            
            377,000
            
            
            -Debt to related
      parties
            
            
            1,401,000
            
            
            
            1,401,000
            
            
            -
            
            
            -
            
            
            -Subtotal–Balance
      Sheet
            
            $
            6,140,000
            
            
            $
            2,089,000
            
            $
            3,674,000
            
            $
            377,000
            
            $
            -Expected
      interest expenseon current
      debt obligations
            
            
            432,000
            
            
            
            234,000
            
            
            194,000
            
            
            4,000
            
            
            -Operating lease
      obligations
            
            
            8,331,000
            
            
            
            1,000,000
            
            
            2,930,000
            
            
            1,779,000
            
            
            2,622,000Purchase obligations
            
            
            1,756,000
            
            
            
            1,730,000
            
            
            26,000
            
            
            -
            
            
            -Total
            
            $
            16,659,000
            
            
            $
            5,053,000
            
            $
            6,824,000
            
            $
            2,160,000
            
            $
            2,622,000


Purchase obligations
represent an estimate of all open purchase orders and contractual obligations in
the ordinary course of business for which we have not yet received the goods or
services. We enter into agreements with suppliers that allow them to procure
inventory based upon agreements defining our material and services requirements.
Although open purchase orders are considered enforceable and legally binding,
the terms generally allow us the option to cancel, reschedule and adjust our
requirements based on our business needs prior to the delivery of goods or the
performance of services.




Off-Balance-Sheet Arrangements




At March 31, 2010 and
March 31, 2009, we did not have any off-balance sheet arrangements or
relationships with unconsolidated entities or financial partnerships, such as
entities often referred to as structured finance or special purpose entities,
which are typically established for the purpose of facilitating off-balance
sheet arrangements or other contractually narrow or limited
purposes.




Recent Accounting Pronouncements




In June 2008, the
FASB ratified guidance that addresses how an entity should evaluate whether an
instrument is indexed to its own stock. The guidance is effective for fiscal
years (and interim periods) beginning after December 15, 2008. The guidance must
be applied to outstanding instruments as of the beginning of the fiscal year in
which the guidance is adopted and should be treated as a cumulative-effect
adjustment to the opening balance of accumulated deficit. The Company adopted
this provision on April 1, 2009. See Note 10 to the financial statements for a
discussion on the impact that the adoption of this guidance had on the Company’s
financial statements.




In April 2009, the
FASB issued new guidance that enhances consistency in financial reporting by
increasing the frequency of disclosures on fair value of financial instruments.
The guidance requires these disclosures on a quarterly basis, providing
qualitative and quantitative information about fair value estimates for all
those financial instruments not measured on the balance sheet at fair value.
This guidance is effective for interim and annual periods ending after June 15,
2009. The adoption of this guidance is reflected in Note 15 to the condensed
consolidated financial statements.




35




---



In July 2009, the
FASB issued a new guidance that establishes the “Accounting Standards Codification”(Codification) as the single official
source of authoritative U.S. accounting and reporting standards for
nongovernmental entities, in addition to guidance issued by the Securities and
Exchange Commission (SEC). All other non-grandfathered, non-SEC accounting
literature not included in the Codification becomes non-authoritative. The ASC
supersedes all existing, non-SEC accounting and reporting standards applied by
non-governmental entities in the preparation of financial statements in
conformity with generally accepted accounting principles (GAAP). The guidance is
effective for interim and annual periods ending after September 15, 2009. As the
Codification does not change GAAP, the implementation did not have a material
impact on the Company’s financial statements.




In August 2009, the
FASB issued new guidance related to measuring certain liabilities at fair value
which provides clarification that in circumstances in which a quoted price in an
active market for the identical liability is not available, an entity is
required to measure fair value utilizing one or more of the following
techniques: (1) a valuation technique that uses quoted prices for identical or
similar liabilities when traded as assets; or (2) another valuation technique
that is consistent with the principles of existing guidance, such as a present
value technique or market approach. The new guidance
became effective for the Company during fiscal 2010 and did not have a material
impact on the Company’s financial statements.




During fiscal year
2010, the Company adopted various accounting standards related to fair value
measurements, non-controlling interests, useful life of intangible assets,
accounting for convertible debt instruments that may be settled in cash upon
conversion, participating securities, and business combinations. The adoption of
these new standards did not have a material effect on the Company’s results of
operations, financial position, or liquidity.




In April 2010, the
FASB issued new guidance concerning revenue recognition related to research and
development projects. It clarifies that revenue can be recognized when a
milestone is achieved if the milestone meet all criteria to be considered
substantive. This guidance is effective for fiscal years beginning on or after
June 15, 2010. The guidance will be reviewed to determine if this change will
have a material impact on the Company’s future financial
statements.




Item 7A. Quantitative and Qualitative
Disclosures About Market Risk




At March 31, 2010,
most of the Company’s interest rate exposure is linked to the prime rate,
subject to certain limitations, offset by cash investment tied to prime rate. As
such, we are at risk to the extent of changes in the prime rate and do not
believe that moderate changes in the prime rate will materially affect our
operating results or financial condition.




All Company sales and
purchases are denominated in U.S. dollars. At March 31, 2010, we were not at
risk to foreign currency exchange fluctuations.




36




---



Item 8. Financial Statements and Supplementary
Data




The following
consolidated financial statements of Advanced Photonix, Inc., prepared in
accordance with Regulation S-X and the Report of the Independent Registered
Public Accounting Firm are included in Item 8:




PageReport of Independent Registered Public
      Accounting Firm
            
            38Financial Statements:Consolidated Balance Sheets, as of March 31, 2010 and March 31,
      2009
            
            39Consolidated Statements of
      Operationsfor the years ended March 31, 2010 and
      March 31, 2009
            
            40Consolidated Statements of Shareholders'
      Equityfor the years ended March 31, 2010 and
      March 31, 2009
            
            41Consolidated Statements of Cash
      Flowsfor the years ended March 31, 2010 and
      March 31, 2009
            
            42Notes to Consolidated Financial
      Statements
            
            43


37




---



REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM




To the Board of Directors and
Shareholdersof Advanced Photonix, Inc. Ann Arbor, Michigan




We have audited the accompanying consolidated
balance sheets of Advanced Photonix, Inc. as of March 31, 2010 and March 31,
2009 and the related consolidated statements of operations, shareholders’ equity
and cash flows for the years then ended. In connection with our audits of the
financial statements, we have also audited the financial statement schedule for
the years ended March 31, 2010 and March 31, 2009 included at Item 15. These
financial statements and schedule are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these financial
statements and schedule based on our audits.




We conducted our audits in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. The Company is not required to have, nor were we engaged to
perform, an audit of its internal control over financial reporting. Our audit
included consideration of internal control over financial reporting as a basis
for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
Company’s internal control over financial reporting. Accordingly, we express no
such opinion. An audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, as
well as evaluating the overall presentation of the financial statements and
schedule. We believe that our audits provide a reasonable basis for our
opinion.




In our opinion, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Advanced Photonix, Inc. at March
31, 2010 and March 31, 2009, and the results of its operations and its cash
flows for the years then ended,
in conformity
with accounting principles generally accepted in the United States of
America.




Also, in our opinion, the financial statement
schedule, when considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.




As discussed in Note 10 to the consolidated
financial statements, the Company changed its method of accounting for free
standing warrants as of April 1, 2009 due to the adoption of new FASB
guidance.




/s/ BDO Seidman LLP Troy, Michigan


June 29, 2010




38




---



ADVANCED PHOTONIX,
  INC.CONSOLIDATED BALANCE
    SHEETS


March 31, 2010
            
            March 31, 2009ASSETSCurrent assets:Cash and cash
      equivalents
            
            $
            1,762,000
            
            
            $
            2 ,072,000Accounts
      receivable, net of allowance for doubtful accounts of$51,000 and
      $62,000, respectively
            
            
            2,679,000
            
            
            
            3,284,000Inventories
            
            
            3,656,000
            
            
            
            3,669,000Prepaid
      expenses and other current assets
            
            
            200,000
            
            
            
            252,000Total current
      assets
            
            
            8,297,000
            
            
            
            9,277,000Equipment and
      leasehold improvements, net
            
            
            3,284,000
            
            
            
            4,322,000Goodwill
            
            
            4,579,000
            
            
            
            4,579,000Intangibles,
      net
            
            
            7,096,000
            
            
            
            8,975,000Restricted
      cash
            
            
            500,000
            
            
            
            500,000Certificate of
      deposit
            
            
            --
            
            
            
            278,000Security
      deposits and other assets
            
            
            99,000
            
            
            
            110,000Total Assets
            
            $
            23,855,000
            
            
            $
            28,041,000LIABILITIES AND SHAREHOLDERS’
      EQUITYCurrent liabilities:Accounts
      payable
            
            $
            1,006,000
            
            
            $
            1,356,000Accrued
      compensation
            
            
            530,000
            
            
            
            1,037,000Accrued
      interest
            
            
            640,000
            
            
            
            513,000Other accrued
      expenses
            
            
            1,182,000
            
            
            
            615,000Current portion
      of long-term debt, related parties
            
            
            1,401,000
            
            
            
            1,401,000Current portion
      of long-term debt, MEDC
            
            
            254,000
            
            
            
            353,000Current portion
      of long-term debt, bank term loan
            
            
            434,000
            
            
            
            434,000Total current
      liabilities
            
            
            5,447,000
            
            
            
            5,709,000Long-term debt,
      less current portion - MEDC
            
            
            1,970,000
            
            
            
            1,871,000Long-term debt
      – bank line of credit
            
            
            1,394,000
            
            
            
            1,394,000Long-term debt,
      less current portion – bank term loan
            
            
            687,000
            
            
            
            1,121,000Total
      liabilities
            
            
            9,498,000
            
            
            
            10,095,000Commitments and contingenciesShareholders' equity:Class A
      redeemable convertible preferred stock, $.001 par value;780,000 shares
      authorized, 2010 and 2009 - 40,000 shares issuedand
      outstanding
            
            
            --
            
            
            
            --Class
      A Common Stock, $.001 par value, 100,000,000
      authorized;2010 –
      24,463,978 shares issued and outstanding; 2009 –24,089,726
      shares issued and outstanding
            
            
            24,000
            
            
            
            24,000Class
      B Common Stock, $.001 par value; 4,420,113
      sharesauthorized,
      2010 and 2009 - 31,691 issued and outstanding
            
            
            --
            
            
            
            --Additional
      paid-in capital
            
            
            50,164,000
            
            
            
            52,400,000Accumulated
      deficit
            
            
            (35,831,000
            )
            
            
            (34,478,000
            )Total
      shareholders' equity
            
            
            14,357,000
            
            
            
            17,946,000Total
      Liabilities and Shareholders’ Equity
            
            $
            23,855,000
            
            
            $
            28,041,000


See Notes to
Consolidated Financial Statements.




39




---



ADVANCED PHOTONIX,
  INC.CONSOLIDATED STATEMENTS OF
      OPERATIONSFor the Fiscal Years Ended March 31,
      2010 and 2009


2010
            
            2009Sales, net
            
            $
            21,075,000
            
            
            $
            29,675,000Cost of
      products sold
            
            
            12,059,000
            
            
            
            16,744,000Gross profit
            
            
            9,016,000
            
            
            
            12,931,000Operating expenses:Research and development
      expenses
            
            
            4,738,000
            
            
            
            4,676,000Sales and marketing expenses
            
            
            1,663,000
            
            
            
            2,659,000General and administrative
      expenses
            
            
            4,160,000
            
            
            
            4,871,000Amortization expense – intangible assets
            
            
            2,071,000
            
            
            
            2,081,000Wafer fabrication
      consolidation expenses
            
            
            40,000
            
            
            
            300,000Total operating expenses
            
            
            12,672,000
            
            
            
            14,587,000Loss
      from operations
            
            
            (3,656,000
            )
            
            
            (1,656,000
            )Other income (expense):Interest income
            
            
            8,000
            
            
            
            28,000Interest expense on bank & MEDC loans
            
            
            (244,000
            )
            
            
            (311,000
            )Change in fair value of
      warrant liability
            
            
            182,000
            
            
            
            --Interest expense, related parties
            
            
            (60,000
            )
            
            
            (94,000
            )Other income
    (expense)
            
            
            7,000
            
            
            
            (2,000
            )Total other income and (expenses)
            
            
            (107,000
            )
            
            
            (379,000
            )Loss
      before benefit for income taxes
            
            
            (3,763,000
            )
            
            
            (2,035,000
            )Benefit for income taxes
            
            
            (85,000
            )
            
            
            --Net
      loss
            
            $
            (3,678,000
            )
            
            $
            (2,035,000
            )Basic and diluted loss per
    share
            
            $
            (0.15
            )
            
            $
            (0.08
            )Weighted average common shares
      outstanding
            
            
            24,368,000
            
            
            
            24,074,000


See Notes to
Consolidated Financial Statements.




40




---



ADVANCED PHOTONIX,
  INC.CONSOLIDATED STATEMENTS OF SHAREHOLDERS’
      EQUITYFor the Fiscal Years Ended
      March 31, 2010 and 2009(In thousands, except share
      data)


Class A
            
            Class A
            
            Class A
            
            Class A
            
            Class B
            
            Class B
            
            AdditionalPreferred
            
            Preferred
            
            Common
            
            Common
            
            Common
            
            Common
            
            Paid-in
            
            AccumulatedShares
            
            Amount
            
            Shares
            
            Amount
            
            Shares
            
            Amount
            
            Capital
            
            Deficit
            
            TotalBALANCE,MARCH 31, 2008
            
            40,000
            
            $
            --
            
            23,977,678
            
            $
            24
            
            31,691
            
            $
            --
            
            $
            52,150
            
            
            $
            (32,443
            )
            
            $
            19,731Exercise of stock
      options
            
            --
            
            
            --
            
            56,310
            
            
            --
            
            --
            
            
            --
            
            
            46
            
            
            
            --
            
            
            
            46Issuance of restricted
      shares
            
            --
            
            
            --
            
            55,738
            
            
            --
            
            --
            
            
            --
            
            
            --
            
            
            
            --
            
            
            
            --Stock based
      compensation
            
            --
            
            
            --
            
            --
            
            
            --
            
            --
            
            
            --
            
            
            204
            
            
            
            --
            
            
            
            204Net loss and
      comprehensive loss
            
            --
            
            
            --
            
            --
            
            
            --
            
            --
            
            
            --
            
            
            --
            
            
            
            (2,035
            )
            
            
            (2,035
            )BALANCE,MARCH 31, 2009
            
            40,000
            
            
            --
            
            24,089,726
            
            
            24
            
            31,691
            
            
            --
            
            
            52,400
            
            
            
            (34,478
            )
            
            
            17,946ASC 815-40 cumulative
      adjustment
            
            --
            
            
            --
            
            --
            
            
            --
            
            --
            
            
            --
            
            
            (2,619
            )
            
            
            2,325
            
            
            
            (294
            )BALANCE,APRIL 1, 2009
            
            40,000
            
            
            --
            
            24,089,726
            
            
            24
            
            31,691
            
            
            --
            
            
            49,781
            
            
            
            (32,153
            )
            
            
            17,652Exercise of stock
      options
            
            --
            
            
            --
            
            30,000
            
            
            --
            
            --
            
            
            --
            
            
            16
            
            
            
            --
            
            
            
            16Issuance of restricted
      shares
            
            --
            
            
            --
            
            344,252
            
            
            --
            
            --
            
            
            --
            
            
            --
            
            
            
            --
            
            
            
            --Stock based
      compensation
            
            --
            
            
            --
            
            --
            
            
            --
            
            --
            
            
            --
            
            
            367
            
            
            
            --
            
            
            
            367Net loss and
      comprehensive loss
            
            --
            
            
            --
            
            --
            
            
            --
            
            --
            
            
            --
            
            
            --
            
            
            
            (3,678
            )
            
            
            (3,678
            )BALANCE,MARCH 31, 2010
            
            40,000
            
            $
            --
            
            24,463,978
            
            $
            24
            
            31,691
            
            $
            --
            
            $
            50,164
            
            
            $
            (35,831
            )
            
            $
            14,357


See Notes to
Consolidated Financial Statements.




41




---



ADVANCED PHOTONIX,
  INC.CONSOLIDATED STATEMENTS OF CASH
      FLOWSFor the fiscal years ended March 31,
      2010 and 2009


2010
            
            2009Cash flows from operating
      activities:Net
      loss
            
            $
            (3,678,000
            )
            
            $
            (2,035,000
            )Adjustments to
      reconcile net loss to net cash provided by operating activitiesDepreciation
            
            
            1,168,000
            
            
            
            1,157,000Amortization
            
            
            2,071,000
            
            
            
            2,081,000Stock based
      compensation expense
            
            
            367,000
            
            
            
            204,000Change in fair
      value of warrant liability
            
            
            (182,000
            )
            
            
            --Changes in
      operating assets and liabilities:Accounts
      receivable
            
            
            605,000
            
            
            
            (82,000
            )Inventories
            
            
            13,000
            
            
            
            462,000Prepaid
      expenses and other assets
            
            
            63,000
            
            
            
            (59,000
            )Accounts
      payable
            
            
            (350,000
            )
            
            
            17,000Accrued
      expenses
            
            
            75,000
            
            
            
            911,000Net cash
      provided by operating activities
            
            
            152,000
            
            
            
            2,656,000Cash flows from investing
      activities:Capital
      expenditures
            
            
            (130,000
            )
            
            
            (721,000
            )Change in
      certificate of deposit
            
            
            278,000
            
            
            
            --Change
      in restricted cash
            
            
            --
            
            
            
            1,000,000Patent
      expenditures
            
            
            (192,000
            )
            
            
            (186,000
            )Net cash
      provided by (used in) investing activities
            
            
            (44,000
            )
            
            
            93,000Cash flows from financing
      activities:Payments on
      capital lease financing
            
            
            --
            
            
            
            (1,917,000
            )Proceeds from
      bank term loan
            
            
            --
            
            
            
            1,736,000Payment
      on bank term loan
            
            
            (434,000
            )
            
            
            (181,000
            )Net borrowings
      on revolving line of credit
            
            
            --
            
            
            
            94,000Net
      payments on MEDC term loan
            
            
            --
            
            
            
            (88,000
            )Payments on
      related party debt
            
            
            --
            
            
            
            (450,000
            )Proceeds from
      exercise of stock options
            
            
            16,000
            
            
            
            46,000Net cash used
      in financing activities
            
            
            (418,000
            )
            
            
            (759,000
            )Net
      increase (decrease) in cash and cash equivalents
            
            
            (310,000
            )
            
            
            1,990,000Cash and cash equivalents, beginning of
      year
            
            
            2,072,000
            
            
            
            82,000Cash
      and cash equivalents, end of year
            
            $
            1,762,000
            
            
            $
            2,072,000Supplemental cash flow
      information:
            
            2010
            
            2009Cash paid for interest
            
            $
            178,000
            
            
            $
            265,000Cash paid for income taxes
            
            $
            --
            
            
            $
            32,000


See Notes to
Consolidated Financial Statements.




42




---



ADVANCED PHOTONIX,
INC. NOTES TO CONSOLIDATED
FINANCIAL STATEMENTSMarch 31, 2010 and
2009




1. The
Company




Advanced Photonix,
Inc. ® (the Company, we or API) was incorporated under the laws of the State of
Delaware in June 1988. The Company is engaged in the development and manufacture
of optoelectronic devices and value-added sub-systems and systems. The Company
serves a variety of global Original Equipment Manufacturers (OEMs) in a variety
of industries. The Company supports its customers from the initial concept and
design phase of the product, through testing to full-scale production. The
Company has two manufacturing facilities located in Camarillo, California and
Ann Arbor, Michigan.




2. Basis of
Presentation and Summary of Significant Accounting
Policies




Principles of Consolidation - The consolidated financial statements
include the financial statements of the Company and its wholly-owned
subsidiaries (Silicon Sensors Inc. & Picometrix LLC). All significant
inter-company balances and transactions have been eliminated in
consolidation.




Reclassifications – Certain prior
year balances have been reclassified in the consolidated financial statements to
conform to the current year presentation.




Operating Segment
Information – Financial
Accounting Standards Board (“FASB”) guidance establishes annual and interim
reporting standards for operating segments and requires certain disclosures
about the products and services an entity provides, the material countries in
which it holds assets and reports revenue, and its major customers. Operating
segments are defined as components of an enterprise that engage in business
activities for which separate financial information is available that is
evaluated regularly by the chief operating decision maker, or decision making
group, in deciding how to allocate resources and in assessing performance. API’s
chief operating decision makers are its chief executive officer and chief
financial officer, who review financial information presented on a consolidated
basis for purposes of allocating resources and evaluating financial performance.
API has one business activity, and there are no segment managers who are held
accountable for operations, operating results and plans for levels or components
below the consolidated unit level, nor does API track gross margins by product,
product line or market served. Accordingly, API considers its business to be in
a single reportable segment. The Company’s
products are light and radiation detection devices. The nature of the production
process is similar for all product lines, and manufacturing for the different
product lines occurs in common facilities. Generally, the same engineers with
the same qualifications design and manufacture products for all product lines.
The types and class of customers are similar across all product lines, and
products are distributed through common channels and distributor
networks.




Pervasiveness of Estimates - The preparation of consolidated financial
statements in conformity with accounting principles generally accepted in the
United States of America requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.




Fair Value of Financial Instruments – The carrying value of all financial
instruments potentially subject to valuation risk (principally consisting of
cash equivalents, accounts receivable, accounts payable, and debt) approximates
fair value based upon the short term nature of these instruments, and in the
case of debt, the prevailing interest rates available to the Company.




43




---



Cash and Cash Equivalents – The Company considers all highly liquid
investments, with an original maturity of three months or less when purchased,
to be cash equivalents.




Compensating Cash Balance – During fiscal 2009, the Company established a
credit facility with The PrivateBank and Trust Company with a minimum
compensating balance requirement of $500,000. This amount has been separately
disclosed on the accompanying balance sheets as restricted cash.




Accounts Receivable – Receivables are stated at amounts estimated by management to be the
net realizable value. The allowance for doubtful accounts is based on specific
identification. Accounts receivable are charged off when it becomes apparent,
based upon age or customer circumstances, that such amounts will not be
collected.




Accounts receivable
are unsecured and the Company is at risk to the extent such amounts become
uncollectible. The Company performs periodic credit evaluations of its
customers’ financial condition and generally does not require collateral. Any
unanticipated change in the customers’ credit worthiness or other matters
affecting the collectability of amounts due from such customers could have a
material effect on the results of operations in the period in which such changes
or events occur. As of March 31, 2010, one customer comprised 10% or more of
accounts receivable. As of March 31, 2009, one customer comprised 10% or more of
accounts receivable. The allowance for doubtful accounts on March 31, 2010 and
March 31, 2009 was $51,000 and $62,000, respectively.




Concentration of Credit Risk – Financial instruments, which potentially
subject the Company to concentrations of credit risk, consist principally of
cash equivalents and trade accounts receivable. The Company maintains cash
balances at four financial institutions that are insured by the Federal Deposit
Insurance Corporation (FDIC) up to $250,000 each. As of March 31, 2010, the
Company had cash at one financial institution in excess of federally insured
amounts. As excess cash is available, the Company invests in short-term and
long-term investments, primarily consisting of Government Securities Money
Market instruments, and Repurchase agreements. As of March 31, 2010, cash
deposits held at financial institutions in excess of FDIC insured amounts of
$250,000 were approximately $1.8 million. As of March 31, 2009, cash deposits
held at financial institutions in excess of FDIC insured amounts of $250,000
were approximately $2.0 million.




Inventories – Inventories, which include
material, labor and manufacturing overhead, are stated at the lower of cost (on
a first in–first out basis) or market. Slow moving and obsolete inventories are
reviewed throughout the year to assess whether a cost adjustment is required.
Our review of slow moving and obsolete inventory begins with a listing of all
inventory items which have not moved regularly within the past 12 months. In
addition, any residual inventory, which is customer specific and remaining on
hand at the time of contract completion, is included in the list. The complete
list of slow moving and obsolete inventory is then reviewed by the production,
engineering and/or purchasing departments to identify items that can be utilized
in the near future. These items are then excluded from the analysis and the
remaining amount of slow-moving and obsolete inventory is then further assessed
and a write down is recorded when warranted. Additionally, non-cancelable open
purchase orders for parts we are obligated to purchase where demand has been
reduced may also be written down. Impairments for open purchase orders where the
market price is lower than the purchase order price are also recorded. The
impairments established for excess, slow moving, and obsolete inventory create a
new cost basis for those items. The cost basis of these parts is not
subsequently increased if the circumstances which led to the impairment change
in the future. If a product that had previously been impaired is subsequently
sold, the amount of reduced cost basis is reflected as cost of goods
sold.




44




---



Equipment and Leasehold Improvements – Equipment and leasehold improvements are
stated at cost. Depreciation and amortization are computed using the
straight-line method over the estimated useful lives of the assets, as follows:




Leasehold improvements
            Term of lease or
      useful life,whichever is lessMachinery
      and equipment
            5 – 7
  yearsFurniture
      and fixtures
            3 – 7
  yearsComputer
      hardware
            3 – 7
  yearsComputer
      software
            3 – 5
  yearsVehicles
            5
  years


Patents - Patents represent costs incurred in
connection with patent applications. Such costs are amortized using the
straight-line method over the useful life of the patent once issued, or expensed
immediately if any specific application is unsuccessful.




Impairment of Long-Lived Assets and Goodwill - In accordance with FASB guidance, goodwill
and  intangible assets that are not subject to
amortization shall be tested for impairment annually or more frequently if
events or changes in circumstances indicate that the asset might be impaired.
The impairment test shall consist of a comparison of the fair value of the asset
with its carrying amount, as defined. This guidance requires a two-step method
for determining goodwill impairment. Step one is to compare the fair value of
the reporting unit with the unit’s carrying amount, including goodwill. If this
test indicates that the fair value is less than the carrying value, then step
two is required to compare the implied fair value of the reporting unit’s
goodwill with the carrying amount of the reporting unit’s goodwill. If the
carrying amount of the asset exceeds its fair value, an impairment loss shall be
recognized in an amount equal to that excess. The Company has selected March 31
as the date for its annual impairment test.




The Company
determines the fair value of our single reporting unit to be equal to our market
capitalization plus a control premium. Market capitalization is determined by
multiplying the shares outstanding on the assessment date by the average market
price of our common stock over a 10-day period before and a 10-day period after
each assessment date. We use this 20-day duration to consider inherent market
fluctuations that may affect any individual closing price. We believe that our
market capitalization alone does not fully capture the fair value of our
business as a whole, or the substantial value that an acquirer would obtain from
its ability to obtain control of our business. As such, in determining fair
value, we add a control premium — which seeks to give effect to the increased
consideration a potential acquirer would be required to pay in order to gain
sufficient ownership to set policies, direct operations and make decisions
related to our Company — to our market capitalization.




The Company’s
evaluation as of March 31, 2010 and March 31, 2009 indicated there were no
impairments. As of March 31, 2010, our market capitalization calculated as
described above was $14.2 million and our carrying value, including goodwill,
was $14.4 million. We applied a 25% control premium to market capitalization to
determine a fair value of $17.8 million. We believe that including a control
premium at this level is supported by recent transaction data in our industry.
Absent the inclusion of a control premium, our carrying value would have
exceeded fair value, requiring a step two analysis which may have resulted in an
impairment of goodwill.




45




---



As of March 31,
2009 our market capitalization, calculated as described above, was $17.1 million
and ourcarrying value, including goodwill, was $17.9 million. We applied
a 25% to market capitalization to determine a fair value of $21.4 million. We
believe that including a control premium at this level is supported by recent
transaction data in our industry. Absent the inclusion of a control premium, our
carrying value would have exceeded fair value, requiring a step two analysis
which may have resulted in an impairment of goodwill.




In accordance with
FASB guidance,  the carrying value of long-lived assets,
including amortizable intangibles and equipment and leasehold improvements, are
evaluated whenever events or changes in circumstances indicate that a potential
impairment has occurred relative to a given asset or assets. Impairment is
deemed to have occurred if projected undiscounted cash flows associated with an
asset are less than the carrying value of the asset. The estimated cash flows
include management’s assumptions of cash inflows and outflows directly resulting
from the use of that asset in operations. The amount of the impairment loss
recognized is equal to the excess of the carrying value of the asset over its
then estimated fair value. The Company’s evaluation for the fiscal year ended
March 31, 2010, indicated there were no impairments.




Revenue Recognition – Revenue is derived principally from the sales of the Company’s
products. The Company recognizes revenue when the basic criteria of Staff
Accounting Bulletin No. 104, Revenue Recognition, are met. Specifically, the
Company recognizes revenue when persuasive evidence of an arrangement exists,
usually in the form of a purchase order, when shipment has occurred since its
terms are FOB source, or when services have been rendered, title and risk of
loss have passed to the customer, the price is fixed or determinable and
collection is reasonably assured in terms of both credit worthiness of the
customer and there are no post shipment obligations or uncertainties with
respect to customer acceptance.




The Company sells
certain of its products to customers with a product warranty that provides
warranty repairs at no cost. The length of the warranty term is one year from
date of shipment. The Company accrues the estimated exposure to warranty claims
based upon historical claim costs. The Company’s management reviews these
estimates on a regular basis and adjusts the warranty provisions as actual
experience differs from historical estimates or as other information becomes
available.




The Company does not
provide price protection or general right of return. The Company’s return policy
only permits product returns for warranty and non-warranty repair or replacement
and requires pre-authorization by the Company prior to the return. Credit or
discounts, which have been historically insignificant, may be given at the
discretion of the Company and are recorded when and if determined.




The Company
predominantly sells directly to original equipment manufacturers with a direct
sales force. The Company sells in limited circumstances through distributors.
Sales through distributors represent approximately 5% of total revenue.
Significant terms and conditions of distributor agreements include FOB source,
net 30 days payment terms, with no return or exchange rights, and no price
protection. Since the product transfers title to the distributor at the time of
shipment by the Company, the products are not considered inventory on
consignment.




Revenue is also
derived from technology research and development contracts. We recognize revenue
from these contracts as the services and/or materials are provided.




Significant Customers – During fiscal years ended March 31, 2010 and
March 31, 2009, no single customer accounted for more than 10% of the Company’s
net sales.




Product Warranty – The Company generally sells products with a limited warranty of
product quality.




46




---



The Company accrues
for known warranty issues if a loss is probable and can be reasonably estimated,
and accrues for estimated incurred but unidentified issues based on historical
activity.




The following table
presents the movement in the product warranty liability for the years ended
March 31, 2010 and March 31, 2009




Years ended March
31,2010
            2009Beginning balance
            $
            138,000
            
            $
            85,000Current period accruals
            
            50,000
            
            
            76,000Used for purpose intended
            
            (102,000
            )
            
            (23,000
            )Ending balance
            $
            86,000
            
            $
            138,000


Shipping and Handling Costs - The Company’s
policy is to classify shipping and handling costs as a component of Costs of
Products Sold in the Statements of Operations.




Research and Development Costs – The Company charges all research and
development costs, including costs associated with development contract
revenues, to expense when incurred. Manufacturing costs associated with the
development of a new fabrication process or a new product are expensed until
such times as these processes or products are proven through final testing and
initial acceptance by the customer. Costs related to revenues on non-recurring
engineering services billed to customers are generally classified as cost of
product sold. The Company generally retains intellectual property rights related
to paid research and development contracts.




Advertising Costs – Advertising costs are expensed as incurred. Advertising expense was
approximately $56,000 and $127,000 in FY 2010 and FY 2009, respectively.




Accounting for Stock Based Compensation –  The Company estimates the
fair value of stock option awards utilizing the Black-Scholes pricing model. The
fair value of the awards is amortized as compensation expense on a straight-line
basis over the requisite service period of the award, which is generally the
vesting period.




Accounting for Income Taxes - Income tax provisions and benefits are made
for taxes currently payable or refundable, and for deferred income taxes arising
from future tax consequences of events that were recognized in the Company’s
financial statements or tax returns. The effects of income taxes are measured
based on enacted tax laws and rates applicable to periods in which the
differences are expected to reverse. If necessary, a valuation allowance is
established to reduce deferred income tax assets to an amount that will more
likely than not be realized.




The calculation of
federal income taxes involves dealing with uncertainties in the application of
complex tax regulations. The Company recognizes liabilities for uncertain tax
positions based on a two-step process. The first step involves evaluating the
tax position for recognition by determining if the weight of available evidence
indicates that it is more likely than not that the position will be sustained on
audit, including resolution of related appeals or litigation processes, if any.
The second step involves estimating and measuring the tax benefit as the largest
amount that is more than 50% likely to be realized upon ultimate settlement. It
is inherently difficult and subjective to estimate such amounts, as we have to
determine the probability of various possible outcomes. Our evaluation of
uncertain tax positions is based on factors including, but not limited to,
changes in facts or circumstances, changes in tax law, effectively settled
issues under audit, and new audit activity. Such a change in recognition or
measurement would result in the recognition of a tax benefit or an additional
charge to the tax provision. The Company has taken no tax positions which would require disclosure. Although the IRS
is not currently examining any of our income tax returns, tax years 2006 to 2009
remain open and are subject to examination.




47




---



Earnings per Share - The Company presents both basic and diluted earnings (loss) per share
(EPS) amounts. Basic EPS is calculated by dividing net income (loss) by the
weighted average number of common shares outstanding during the period. Diluted
EPS amounts are based upon the weighted average number of common and common
equivalent shares outstanding during the period. The Company uses the treasury
stock method to calculate the impact of outstanding stock options and warrants.
Common equivalent shares are excluded from the computation in periods in which
they have an anti-dilutive effect. The total shares excluded from the
computation of diluted earnings per share for the year ended March 31, 2010
totaled 4,734,000 shares, representing outstanding stock options and warrants
exercisable into shares of common stock. The total shares excluded from the
computation of diluted earnings per share for the year ended March 31, 2009
totaled 4,876,000 shares, representing outstanding stock options and warrants
exercisable into shares of common stock.




Recent Pronouncements and Accounting
Changes In June 2008,
the FASB ratified guidance that addresses how an entity should evaluate whether
an instrument is indexed to its own stock. The guidance is effective for fiscal
years (and interim periods) beginning after December 15, 2008. The guidance must
be applied to outstanding instruments as of the beginning of the fiscal year in
which the guidance is adopted and should be treated as a cumulative-effect
adjustment to the opening balance of accumulated deficit. The Company adopted
this provision on April 1, 2009. See Note 10 to the financial statements for a
discussion on the impact that the adoption of this guidance had on the Company’s
financial statements.




In April 2009, the
FASB issued new guidance that enhances consistency in financial reporting by
increasing the frequency of disclosures on fair value of financial instruments.
The guidance requires these disclosures on a quarterly basis, providing
qualitative and quantitative information about fair value estimates for all
those financial instruments not measured on the balance sheet at fair value.
This guidance is effective for interim and annual periods ending after June 15,
2009. The adoption of this guidance is reflected in Note 15 to the financial
statements.




On July 1, 2009, the
FASB issued new guidance that establishes the “ Accounting Standards Codification ” (Codification) as the single official source
of authoritative U.S. accounting and reporting standards for nongovernmental
entities, in addition to guidance issued by the Securities and Exchange
Commission (SEC). All other non-grandfathered, non-SEC accounting literature not
included in the Codification becomes non-authoritative. The ASC supersedes all
existing, non-SEC accounting and reporting standards applied by non-governmental
entities in the preparation of financial statements in conformity with generally
accepted accounting principles (GAAP). The guidance is effective for interim and
annual periods ending after September 15, 2009. As the Codification does not
change GAAP, the implementation did not have a material impact on the Company’s
financial statements.




In August 2009, the
FASB issued new guidance related to measuring certain liabilities at fair value
which provides clarification that in circumstances in which a quoted price in an
active market for the identical liability is not available, an entity is
required to measure fair value utilizing one or more of the following
techniques: (1) a valuation technique that uses quoted prices for identical or
similar liabilities when traded as assets; or (2) another valuation technique
that is consistent with the principles of existing guidance, such as a present
value technique or market approach.  The new guidance became
effective for the Company during fiscal 2010 and did not have a material impact
on the Company’s financial statements.




During fiscal year
2010, the Company adopted various accounting standards related to fair value
measurements, non-controlling interests, useful life of intangible assets,
accounting for convertible debt instruments that may be settled in cash upon
conversion, participating securities, and business combinations. The adoption of
these new standards did not have a material effect on the Company’s results of
operations, financial position, or liquidity.




48




---



In April 2010, the
FASB issued new guidance concerning revenue recognition related to research and
development projects. It clarifies that revenue can be recognized when a
milestone is achieved if the milestone meet all criteria to be considered
substantive. This guidance is effective for fiscal years beginning on or after
June 15, 2010. The guidance will be reviewed to determine if this change will
have a material impact on the Company’s future financial
statements.




3. Inventories




Inventories consisted
of the following at March 31:




2010
            
            2009Raw material
            
            $
            2,375,000
            
            $
            2,511,000Work-in-process
            
            
            867,000
            
            
            808,000Finished products
            
            
            414,000
            
            
            350,000Inventories, net
            
            $
            3,656,000
            
            $
            3,669,000


4. Equipment and Leasehold Improvements




Equipment and
leasehold improvements consisted of the following at March 31:




2010
            
            2009Machinery and equipment
            
            $
            7,984,000
            
            
            $
            8,117,000Furniture and fixtures
            
            
            725,000
            
            
            
            715,000Leasehold improvements
            
            
            1,009,000
            
            
            
            969,000Computer hardware
            
            
            628,000
            
            
            
            611,000Vehicles
            
            
            --
            
            
            
            26,000Capitalized software
            
            
            813,000
            
            
            
            808,000Total assets
            
            
            11,159,000
            
            
            
            11,246,000Accumulated depreciation
            
            
            (7,916,000
            )
            
            
            (7,148,000
            )3,243,000
            
            
            
            4,098,000Construction-in-process
            
            
            41,000
            
            
            
            224,000Net equipment and leasehold
      improvements
            
            $
            3,284,000
            
            
            $
            4,322,000





The estimated cost to complete the
construction-in-process is not considered significant.




Depreciation expense
was approximately $1.2 million for both the fiscal years ended March 31, 2010
and 2009.




5. Intangible Assets and Goodwill




Intangibles Intangible assets that have definite lives
consist of the following (in thousands):




49




---



March 31,
      2010
            
            
            March 31, 2009Weighted
            
            Amortization
            
            Carrying
            
            Accumulated
            
            Intangibles
            
            
            Carrying
            
            Accumulated
            
            IntangiblesAverage
            
            Method
            
            Value
            
            Amortization
            
            Net
            
            
            Value
            
            Amortization
            
            NetLivesNon-Compete
            
            3
            
            Cash Flow
            
            $
            130
            
            $
            130
            
            $
            --
            
            
            $
            130
            
            $
            130
            
            $
            --agreementCustomer list
            
            15
            
            Straight
            
            
            475
            
            
            347
            
            
            128
            
            
            
            475
            
            
            334
            
            
            141LineTrademarks
            
            15
            
            Cash Flow
            
            
            2,270
            
            
            653
            
            
            1,617
            
            
            
            2,270
            
            
            514
            
            
            1,756Customer
            
            5
            
            Cash
    Flow
            
            
            1,380
            
            
            1,380
            
            
            --
            
            
            
            1,380
            
            
            726
            
            
            654relationshipsTechnology
            
            10
            
            Cash Flow
            
            
            10,950
            
            
            6,460
            
            
            4,490
            
            
            
            10,950
            
            
            5,231
            
            
            5,719Patents pending
            
            
            
            
            
            
            535
            
            
            --
            
            
            535
            
            
            
            502
            
            
            --
            
            
            502Patents
            
            10
            
            Straight
            
            
            454
            
            
            128
            
            
            326
            
            
            
            295
            
            
            92
            
            
            203LineTotal Intangibles
            
            
            
            
            
            $
            16,194
            
            $
            9,098
            
            $
            7,096
            
            
            $
            16,002
            
            $
            7,027
            
            $
            8,975


Amortization expense
was approximately $2.1 million for both the years ended March 31, 2010 and 2009.
Patent amortization expense, included above, was approximately $36,000 and
$19,000 in FY 2010 and 2009, respectively. The current patents held by the
Company have remaining useful lives ranging from 2 years to 20
years.




The cash flow method of amortization is based
upon management’s estimate of how the intangible asset contributes to our cash
flows and best represents the pattern of how the economic benefits of the
intangible asset will be consumed or used up. Such amortization is initially
derived from the estimated undiscounted cash flows that were used in determining
the original fair value of the intangible asset at the acquisition date and is
monitored for significant changes in subsequent periods.




Assuming no
impairment to the intangible value, future amortization expense for intangible
assets and patents are as follows:




Intangible Assets
            
            
            Patents (a)2011
            $
            1,584,000
            
            2011
            $
            40,0002012
            
            1,305,000
            
            2012
            
            40,0002013
            
            1,088,000
            
            2013
            
            39,0002014
            
            901,000
            
            2014
            
            39,0002015
            
            593,000
            
            2015
            
            39,0002016 & after
            
            764,000
            
            2016 & after
            
            129,000Total
            $
            6,235,000
            
            Total
            $
            326,000(a)
      Patent pending costs of $535,000 are not included in the chart above.
      These costs will be amortized beginning the month the patents are
      granted.


Goodwill Goodwill reflected on the balance sheets of
March 31, 2010 and 2009 is net of previously recorded impairment charges of
$954,000.




6. Debt Bank Debt – In March 2007,
API, as Lessee, entered into a Master Equipment Lease Agreement with Fifth Third
Leasing Company, as Lessor, to finance the purchase of new manufacturing
equipment up to an aggregate of $2.3 million (Lease). API purchased equipment
under the Lease until June 30, 2007. This lease was accounted for as a capital
lease in accordance with FASB accounting literature. On September 25, 2008, the
Company retired the Master Equipment Lease Agreement with Fifth Third Leasing
Company by paying the remaining principal amount of $1.7 million.




50




---



On September 25,
2008, the Company established a credit facility with The PrivateBank and Trust
Company. As part of this banking relationship, the Company established a three
year Line of Credit of $3.0 million at an annual interest rate of prime plus 1%,
adjusted quarterly. The interest rate was 4.25% at March 31, 2010. In addition,
the Company also established an Equipment Installment Loan of $1.7 million
amortized over a term of four years, at an interest rate of prime plus 1%. The
facility contains customary representations, warranties and financial covenants
including minimum debt service coverage ratio, adjusted EBITDA level and Net
Worth requirements (as defined in the agreement).The principal loan amount on
the Line of Credit is due on December 25, 2011, and the principal loan amount of
the term loan is due on September 25, 2011, provided that if existing loans to
the Company by the Michigan Economic Development Corporation have not converted
to equity on or before August 31, 2011, the outstanding principal shall be due
on August 31, 2011. The availability under the Line of Credit is determined by
the calculation of a borrowing base that includes a percentage of accounts
receivable and inventory.




On May 29, 2009, the
Company amended its credit facility effective March 31, 2009. According to the
terms of the amended loan agreement, the Adjusted EBITDA level is measured on a
year to date basis for the June 26, 2009, September 25, 2009, December 25, 2009
and March 31, 2010 test dates and thereafter on a trailing four quarter basis.
In addition, the Debt Service Coverage ratio and the Net Worth covenants were
amended. The amended minimum Debt Service Coverage ratio is 1.0 to 1.0 for the
first quarter of FY 2010, 1.25 to 1.0 for the second quarter of FY 2010 and 1.5
to 1.0 thereafter. The amended minimum Net Worth covenant is $15.5 million and
will increase by 10% of Net Income for each fiscal year that the Company reports
net income.




The line of credit is
guaranteed by each of API’s wholly-owned subsidiaries and the term loan is
secured by a Security Agreement among API, its subsidiaries and The PrivateBank,
pursuant to which API and its subsidiaries granted to The PrivateBank a
first-priority security interest in certain described assets.




At December 25, 2009
and March 31, 2010, the Company was not in compliance with the Debt Service
Coverage ratio, Net Worth requirements or with the Adjusted EBITDA level. This
constitutes an event of default under the terms of our credit facility agreement
which gave The PrivateBank the ability to provide us with notice that they are
exercising their rights under the credit facility by demanding payment in full
of the outstanding indebtedness under our credit facility.




On June 25 2010, the
Company and the Lender entered into a second amendment to the loan agreement
pursuant to which our Lender waived any event of default under the agreement
resulting from the covenant violations for the fiscal quarters ended December
31, 2009 and March 31, 2010 (the “Covenant Violations”). This waiver did not
amend or alter in any respect the terms and conditions of the agreement or any
of the other loan documents, or to constitute a waiver or release by the Lender
of any right, remedy or event of default under the agreement or any of the other
loan documents, except to the extent expressly set forth under the second
amendment to the loan agreement. The agreement is amended to update the
financial covenants as defined in the amendment and the notes. In addition, the
second amendment requires the Company to amend the secured promissory notes
issued to our CFO and CTO in connection with the Company’s acquisition of
Picometrix, Inc. on May 2, 2005 (the notes) to defer the payment of the
remaining fourth and fifth installment payments owed under the Notes. Failure to
amend the notes within 60 days of signing the second amendment will constitute
an event of default under the agreement. The second amendment increased the
interest rate from prime plus 1% to prime plus 2%. According to the terms of the
amended agreement, the Adjusted EBITDA level is measured on a quarterly basis
for the June 30, 2010, September 30, 2010, December 31, 2010 and March 31, 2011
test dates and thereafter on a trailing twelve months basis. In addition, the
Debt Service Coverage ratio and the Net Worth covenants were amended. The
amended minimum Debt Service Coverage ratio is 1.0 to 1.0 for the first three
quarters of fiscal 2011 and 1.2 to 1.0 thereafter. The amended minimum Net Worth
covenant is $13.0 million for the first quarter of FY 2011, $12.5 million for
the second quarter of FY 2011, $12.1 million for the third quarter of FY 2011
and $11.8 million for the fourth quarter of FY 2011. Substantially all of our
tangible assets serve as collateral for the debt that is owed our Lender.




51




---



Based on the amended
loan covenants, the Company anticipates that it is not probable that the Company
will fail the new covenants during fiscal 2011 and as a result has classified
the current and future maturities in accordance with the Second amendment to the
loan agreement.




MEDC Loans -
The Michigan Economic Development Corporation (MEDC) entered into two loan
agreements with Picometrix LLC, one in fiscal 2005 (MEDC-loan 1) and one in
fiscal 2006 (MSF-loan 2). Both loans are unsecured.




The MEDC-loan 1 was
issued in the original principal amount of $1,025,000. Under the original terms
of the MEDC – loan 1, the interest rate was 7% and interest accrued but unpaid
through October 2008 would be added to then outstanding principal balance of the
promissory note issued pursuant to the MEDC-loan1 and the restated principal
would be amortized over the remaining four years (September 15, 2012). Effective
September 23, 2008, the MEDC-loan 1 was amended and restated to change the start
date of repayment of principal and interest from October 2008 to October
2009.




During the fourth
quarter of fiscal 2010, the Company began negotiations with the MEDC to further
amend the MEDC-loan1 promissory note. The Company and the MEDC agreed that the
payment of restated principal and accrued interest was to be suspended until the
negotiations were completed. In May 2010, the Company entered into a debt
conversion agreement with the MEDC whereby the MEDC would convert the accrued
and unpaid interest as of November 30, 2009 totaling $324,669 into 601,239
unregistered shares of the Class A Common Stock of the Company at a price per
share of $0.54. In addition, the Company granted the MEDC a put option to sell
back to the Company the shares received pursuant to the debt conversion
agreement in the event of a trigger event as defined in the debt conversion
agreement. In conjunction with the debt conversion agreement, the Company
amended the MEDC-loan 1 promissory note to retroactively change the interest
rate from 7% to 4% beginning in December 2009, and to change the repayment terms
of the outstanding principal and interest such that beginning in October 2010,
the Company is to repay the remaining principal and accrued interest on a
monthly basis through maturity in November 2014.




MEDC-loan 2, which
was assigned to the Michigan Strategic Fund (MSF) in June 2010, was issued in
the original principal amount of $1.2 million. Under the original terms of the
MEDC – loan 2, the interest rate was 7% and interest accrued, but unpaid in the
first two years of this agreement was added to the then outstanding principal of
the promissory note issued pursuant to the MEDC-loan2. During the third year of
this agreement, the Company was to pay interest on the restated principal of the
promissory note until October 2008, at which time the Company was to repay the
restated principal over the remaining three years (September 15, 2011).
Effective January 26, 2009, the MEDC-loan 2 was amended and restated to change
the start date of repayment of principal and interest from October 2008 to
November 2009 and to extend the repayment period to October 2012.




52




---



During the fourth
quarter of fiscal 2010, the Company began negotiations with the MEDC to further
amend the MEDC-loan 2 promissory note. The Company and the MEDC agreed that the
payment ofrestated principal and accrued interest was to be suspended
until the negotiations were completed. In May 2010, the Company entered into a
debt conversion agreement with the MEDC whereby the MEDC would transfer the
MEDC-loan 2 promissory note to the MSF which would convert the accrued and
unpaid interest as of October 31, 2009 totaling $237,667 into 440,124
unregistered shares of the Class A Common Stock of the Company at a price per
share of $0.54. In addition, the Company granted the MSF a put option to sell
back to the Company the shares received pursuant to the debt conversion
agreement in the event of a trigger event as defined in the debt conversion
agreement. In conjunction with the debt conversion agreement, the Company
amended the MEDC-loan 2 promissory note to retroactively change the interest
rate from 7% to 4% beginning in November 2009, and to change the repayment terms
of the outstanding principal and interest such that beginning in July 2010, the
Company is to repay the remaining principal and accrued interest on a monthly
basis through maturity in September 2014.




Related Parties Debt - As a result of
the acquisition of Picotronix, Inc., the Company issued four-year promissory
notes in the aggregate principal amount of $2.9 million to the stockholders of
Picometrix. The notes bear interest at a rate of prime plus 1.0% and are secured
by all of the intellectual property of Picometrix. The interest rate at March
31, 2010 was 4.25%. API has the option of prepaying the notes without penalty.
Note holders include Robin Risser and Steve Williamson, the Company’s CFO and
CTO, respectively.




On November 30, 2009,
the Company and the note holders entered into the fourth amendments to the Notes
to extend the due date for the remaining principal balance of the Notes (in the
aggregate amount of $1,400,500) to March 1, 2011 payable in two installments as
follows:




December 1, 2010
            $
            450,000March 1, 2011
            $
            950,500


Interest payments
made to Related Parties during the FY 2010 and FY 2009 were approximately
$60,000 and $94,000, respectively.




Debt Maturity
      Table (in 000’s)FY2016Balance
            Balance
            
            
            
            
            
            
            
            
            
            
            &3/31/09
            3/31/10
            FY2011
            FY2012
            FY2013
            FY2014
            FY2015
            BeyondCredit Line - The Private Bank
            $
            1,394
            $
            1,394
            $
            --
            $
            1,394
            $
            --
            $
            --
            $
            --
            $
            --Term
      Loan – The Private Bank
            
            1,555
            
            1,121
            
            434
            
            434
            
            253
            
            --
            
            --
            
            --Debt
      to Related Parties
            
            1,401
            
            1,401
            
            1,401
            
            --
            
            --
            
            --
            
            --
            
            --MEDC
      loans
            
            2,224
            
            2,224
            
            254
            
            510
            
            531
            
            552
            
            377
            
            --TOTAL
            $
            6,574
            $
            6,140
            $
            2,089
            $
            2,338
            $
            784
            $
            552
            $
            377
            $
            --


The Company performed
an assessment of the amendments made to its related party loans made during FY
2010 to determine whether the amendments constituted a “substantial
modification” in accordance with FASB guidance related to the accounting for a
modification or exchange of debt instruments and concluded that no substantial
modifications were made.




7. Capitalization




The Company’s
Certificate of Incorporation provides for two classes of common stock, a Class A
for which 100,000,000 shares are authorized for issuance and a Class B for which
4,420,113 shares are authorized for issuance. The par value of each class is
$.001. Subject to certain limited exceptions, shares of Class B Common Stock are
automatically converted into an equivalent number of Class A shares upon the
sale or transfer of the Class B Common Stock by the original holder. The holder
of each share of Class A and Class B Common Stock is entitled to one vote per
share.




53




---



The Company has
authorized 10,000,000 shares of Preferred Stock, of which 780,000 shares have
been designated Class A Redeemable Convertible Preferred Stock with a par value
of $.001 per share. At March 31, 2010, 40,000 shares of Class A Redeemable
Convertible Preferred Stock (Class A Preferred) were issued and outstanding. The
Class A convertible preferred stock is redeemable solely at the option of the
Company and can also be mandatorily converted by the Company into Class A Common
Stock at a rate of 3.33 shares of Class A Preferred Stock to one share of Class
A Common Stock. The Class A Preferred Stock contains a liquidation preference of
$.80 per share, or a total of $32,000 with respect to all such shares
outstanding. The Class A Preferred stockholders do not have voting rights except
as required by applicable law.




8. Stock Based
Compensation




The Company has five
stock equity plans: The 1990 Incentive Stock Option and Non-Qualified Stock
Option Plan, the 1991 Directors’ Stock Option Plan (The Directors’ Plan), the
1997 Employee Stock Option Plan, the 2000 Stock Option Plan and the 2007 Equity
Incentive Plan. As of March 31, 2010, under all of our plans, there were
7,200,000 Class A common shares authorized for issuance, with 1,880,010 shares
remaining available for future grant.




Non-director options
typically vest at the rate of 25% per year over four years and are exercisable
up to ten years from the date of issuance. Options granted under the Directors’
Plan typically vests at the rate of 50% per year over two years. Under these
plans, the option exercise price equals the stock’s market price on the date of
grant. Options and restricted stock awards may be granted to employees,
officers, directors and consultants. Under the 2007 Equity Incentive Plan,
restricted stock awards typically vest within one year.




Stock option
transactions for fiscal years 2009 and 2010 are summarized as
follows:




WeightedWeighted
            
            Average
            
            AggregateShares
            
            Average
            
            Term
            
            Intrinsic(000)
            
            Exercise
      Price
            
            (in years)
            
            ValueOutstanding, March 31,
    2008
            2,619
            
            
            $1.92Exercisable, March 31, 2008
            2,198
            
            
            $1.87Outstanding, March 31, 2008
            2,619
            
            
            $1.92Granted
            292
            
            
            $1.52Exercised
            (57
            )
            
            $0.86Expired
            (108
            )
            
            $1.62Outstanding, March 31,
    2009
            2,746
            
            
            $1.92
            
            5.97
            
            $21,000Exercisable, March 31, 2009
            2,374
            
            
            $1.93
            
            5.29
            
            $21,000Vested & expected to Vest, March 31, 2009
            2,676
            
            
            $1.92
            
            5.97
            
            $17,000Outstanding, March 31, 2009
            2,746
            
            
            $1.92Granted
            78
            
            
            $0.63Exercised
            (30
            )
            
            $0.52Expired
            (190
            )
            
            $2.44Outstanding, March
      31, 2010
            2,604
            
            
            $1.85
            
            5.58
            
            $6,000Exercisable, March 31, 2010
            2,402
            
            
            $1.89
            
            4.98
            
            $6,000Vested & expected to Vest, March 31, 2010
            2,537
            
            
            $1.92
            
            5.58
            
            $6,000


54




---



Information regarding
stock options outstanding as of March 31, 2010 is as follows:




Options
      Outstanding(in 000s)
            
            Weighted Average
            
            Weighted AveragePrice
      Range
            Shares
            
            Exercise
      Price
            
            Remaining
      Life$0.50 - $1.25
            748
            
            $0.75
            
            6.16$1.50 - $2.50
            1,201
            
            $1.91
            
            5.56$2.87 - $5.34
            655
            
            $3.03
            
            4.75Options
      Exercisable(in 000s)
            
            Weighted Average
            
            Weighted AveragePrice
      Range
            Shares
            
            Exercise
      Price
            
            Remaining
      Life$0.50 - $1.25
            706
            
            $0.75
            
            3.69$1.50 - $2.50
            1,041
            
            $1.96
            
            5.16$2.87 - $5.34
            655
            
            $3.03
            
            4.75


The
intrinsic value of options exercised in fiscal years 2010 and 2009 was
approximately $7,000 and $47,000, respectively.




During FY
2009 and FY 2010, restricted shares were issued to certain individuals. The
restricted share transactions are summarized below.




WeightedAverage
  GrantShares
      (000)
            
            Date Fair
    ValueUnvested, March 31,
      2008
            --
            
            
            
            --Granted
            56
            
            
            $
            1.68Vested
            (27
            )
            
            $
            1.87Expired
            --
            
            
            
            --Unvested, March 31,
      2009
            29
            
            
            $
            1.50WeightedAverage
  GrantShares
      (000)
            
            Date Fair
    ValueUnvested, March 31,
      2009
            29
            
            
            $
            1.50Granted
            344
            
            
            $
            0.66Vested
            (348
            )
            
            $
            0.73Expired
            --
            
            
            
            --Unvested, March 31,
      2010
            25
            
            
            $
            0.63


The total
fair value of restricted shares vesting during fiscal years 2010 and 2009 was
approximately $242,000 and $17,000, respectively.




55




---



The Company
estimates the fair value of stock options utilizing the Black-Scholes pricing
model. The fair value of the awards is amortized as compensation expense on a
straight-line basis over the requisite service period of the award, which is
generally the vesting period. The fair value calculations involve significant
judgments, assumptions, estimates and complexities that impact the amount of
compensation expense to be recorded in current and future periods. The factors
include:


- The time period that
  stock-based awards are expected to remain outstanding has been determined
  based on the average of the original award period and the remaining vesting
  period in accordance with the SEC’s short-cut approach pursuant to SAB No.
  107, “Disclosure about Fair Value of
  Financial Statements”. As additional evidence develops from the Company’s stock trading
  history, the expected term assumption will be refined to capture the relevant
  trends.
- The future volatility of
  the Company’s stock has been estimated based on the weekly stock price from
  the acquisition date of Picometrix LLC (May 2, 2005) to the date of the latest
  stock grant. As additional evidence develops, the future volatility estimate
  will be refined to capture the relevant trends.
- A dividend yield of zero
  has been assumed for awards issued for the years ended March 31, 2010 and
  March 31, 2009, based on the Company’s actual past experience and the fact
  that Company does not anticipate paying a dividend on its shares in the near
  future.
- The Company has based
  its risk-free interest rate assumption for awards issued during the years
  ended March 31, 2010 and March 31, 2009 on the implied yield available on U.S.
  Treasury issues with an equivalent expected term.
- The forfeiture rate for
  awards issued during the year ended March 31, 2010 was approximately 20.5% and
  March 31, 2009 was approximately 18.7%, and was based on the Company’s actual
  historical forfeiture trend.

YearEndedMarch 31,
2010
            
            March 31,
  2009Option Plan
      Shares:Expected term (in
    years)
            6.3
            
            6.3Volatility
            69.0%
            
            42.5%Expected dividend
            0%
            
            0%Risk-free interest
    rate
            2.2%
            
            2.2%Weighted-average grant date
      fair value
            $0.70
            
            $0.71


The table
below lists the classification of the Stock Based Compensation Expense for the
years ended March 31, 2010 and March 31, 2009.




2010
            
            2009Cost of products
sold
            $
            15,000
            
            $
            12,000Research and development
      expense
            
            71,000
            
            
            48,000General and administrative
      expense
            
            264,000
            
            
            117,000Sales and marketing
      expense
            
            17,000
            
            
            27,000Total Stock Based
      Compensation
            $
            367,000
            
            $
            204,000


56




At March
31, 2010, the total stock-based compensation expense related to unvested stock
awards and restricted shares granted to employees and directors under the
Company’s stock plans but not yet recognized was approximately $87,000. This
expense will be amortized on a straight-line basis over a weighted-average
period of approximately 1.3 years and will be adjusted for subsequent changes in
estimated forfeitures.
  9. Wafer Fabrication
consolidation
  During
fiscal 2010, the Company finalized the consolidation and modernization of its
wafer fabrication facilities. Prior to this consolidation, the Company had
excess wafer fabrication capacity at its three locations (including Dodgeville,
WI), with the Ann Arbor, MI facility having the most modern infrastructure. The
wafer fabrication facilities and equipment in its Wisconsin and California
facilities had similar capabilities and both required substantial upgrade and
improvement in order to maintain production capabilities. Since the Ann Arbor
facility, when equipped, would have the physical capacity to produce all of the
Company’s current and foreseeable wafer requirements and would not significantly
impact current production requirements during any upgrade process, management
decided to consolidate all optoelectronic wafer fabrication into the Ann Arbor
facility. Even though the Company had excess capacity in its Wisconsin and
California production facilities, no abnormally low production levels were
experienced. Unallocated overhead costs were recognized as an expense in the
period in which they were incurred in accordance with FASB guidance related to
inventory costs during the normal course of business.
  The
Company’s total wafer fabrication consolidation expense to complete the
consolidation was approximately $2.4 million. Actual costs consisted of labor
and associated expense of $1.1 million, travel and relocation costs of $169,000,
accelerated depreciation expense on de-commissioned assets of $150,000 and
supplies, consulting and other related costs of $894,000. In accordance with
FASB guidance related to the accounting for cost activities associated with exit
or disposal activities, all costs associated with the consolidation were
recorded as expenses when incurred. The Company expects the wafer fabrication
consolidation to result in cost reduction through elimination of duplicate
expenditures and yield improvements as well as an increase in new product
development capability. The Company recorded $40,000 and $300,000 of expenses
related to this project in the years ended March 31, 2010 and 2009,
respectively.
  10. Equity
  Shareholders’ Equity
Transactions In fiscal years 2005 and 2006, warrants were issued in connection the
issuance of convertible debt that has all been subsequently converted into Class
A Common Stock. The warrants were issued in two tranches with 1,389,082 still
outstanding at March 31, 2010 and March 31, 2009 at an exercise price of $1.744
per share.
  On
September 14, 2007, the Company completed a private placement (the “Offering”).
Each unit sold by the Company in the Offering consisted of four (4) shares of
the Company’s Class A Common Stock, par value $0.001 per share (the “Offering
Shares”) and one (1) five year warrant exercisable for one share of Class A
Common Stock at an exercise price of $1.85 (each a “Warrant”). The Company sold
a total of 741,332 units (consisting of 2,965,332 Offering Shares and 741,332
Warrants), of which 33,000 units (consisting of 132,000 Offering Shares and
33,000 Warrants) were to related parties at the prevailing closing stock price
of $1.83 per share, for an aggregate purchase price of $4.5 million. The offer
and sale of the Offering Shares and Warrants were made pursuant to Rule 506
promulgated pursuant to the Securities Act and each of the investors is an
“accredited investor” as defined by Rule 501 promulgated pursuant to the
Securities Act.
  57
     The
schedule below shows the outstanding warrants at March 31, 2010 and March 31,
2009:
  Warrants Outstanding &
      ExercisableRemainingShares
              Shares
              Exercise
              Life (in yrs)
    at2010
              2009
              Price
              3/31/10Convertible Note – 1stTranche
              694,541
              694,541
              $1.744
              0.1Convertible Note – 2ndTranche
              694,541
              694,541
              $1.744
              1.1Private Placement
              741,332
              741,332
              $1.85
              2.5Total
              2,130,414
              2,130,414
 During FY
2010 and FY 2009, there was no activity regarding warrants outstanding and
exercisable.
  The
exercise price for the Convertible Note warrants are subject to adjustment,
based on a formula contained in the Convertible Note agreement, if common stock
is issued in the future below the $1.744 exercise price. Such adjustments cannot
reduce the exercise price below $1.70 without obtaining shareholder approval.
The exercise price for the Private Placement warrants are subject to adjustment
based on a formula contained in the Private Placement agreement, if common stock
is issued in the future below the $1.85 exercise price. Such adjustments cannot
reduce the exercise price below $1.79 without obtaining shareholder approval.
  As a result
of adopting the FASB’s guidance, effective April 1, 2009, on how an entity
should evaluate whether an instrument is indexed to its own stock, the above
mentioned warrants, which previously were treated as equity, are no longer
afforded equity treatment because of their exercise price reset features. At the
effective date the Company was required to adjust its balance sheet to reflect
the incremental impact of treating the warrants as liabilities since their
original issuance date. On April 1, 2009, the Company reclassified $2,619,000 of
previously recorded debt discount from additional paid-in-capital, as a
cumulative effect adjustment, and recorded the initial recognition of a $294,000
warrant liability, to reflect the fair value of the warrants on that date. These
adjustments resulted in a $2,325,000 decrease to the accumulated deficit. The
fair value liability of these warrants decreased to approximately $112,000 as of
March 31, 2010. As a result, the Company recorded other income of $182,000, from
the change in the fair value of these warrants for the year ended March 31,
2010.
  The fair
value of the warrants was estimated using the Black-Scholes option pricing model
using the following assumptions:
  March 31,
              April 1,2010
              2009Contractual term (in years)
              .1 –
      2.5
              1.1 – 3.5Volatility
              69.8%
      - 85.46%
              72.09%
      - 97.99%Expected dividend
              --
              --Risk-free interest rate
              0.58%
      - 1.16%
              0.58%
      - 1.16%
  58
     Expected
volatility is based primarily on historical volatility using the weekly stock
price for the most recent period equivalent to the term of the warrants. A
dividend yield of zero has been assumed based on the Company’s actual past
experience and the fact that the Company does not anticipate paying a dividend
on its shares in the future. The Company has based its risk-free interest on the
implied yield available on U.S. Treasury issues with equivalent contractual
term.
  The inputs
used to determine the fair value of the warrants are classified as Level 3
inputs. Management classified these as Level 3 measurements as they are based on
unobservable inputs and involve management judgment.
  11. Foreign Sales
  In FY 2010
and FY 2009, the Company had export sales of approximately $3.5 million and $5.4
million, respectively, made primarily to customers in North America, Asia and
Europe . All foreign sales are denominated in
U.S. dollars. Sales to specific countries, stated as a percentage of total
sales, consist of the following:
  2010
              
              2009Canada
              3
              %
              
              5
              %Germany
              2
              %
              
              1
              %Poland
              --
              
              
              1
              %Israel
              --
              
              
              2
              %Japan
              3
              %
              
              --United Kingdom
              2
              %
              
              5
              %All other countries
              6
              %
              
              4
              %Total export
      sales
              16
              %
              
              18
              %
 12. Employees’ Retirement Plan
  The Company
maintains a 401(k) Plan which is qualified under the Internal Revenue Code. All
full-time employees are eligible to participate in the plan after six months of
full time employment. Employees may make voluntary contributions to the plan,
which is matched by the Company at the rate of $1.00 for every $1.00 of employee
contribution up to 3% of wages, and $.50 for every $1.00 of employee
contributions on the next 2% of wages, subject to certain limitations. Employer
contributions are fully vested when earned.
  Effective
April 1, 2009, the Company match portion of the 401K program was suspended
through March 31, 2010 due to the unstable economic environment the country is
currently experiencing. The matching program will continue to be suspended until
economic conditions improve. The Company contributions and administration costs
recognized as expense were approximately $-0- and $279,000 in FY 2010 and 2009,
respectively.
  13 . Income Taxes
  At March
31, 2010, the Company had net operating loss carry forwards (NOL’s) of
approximately $20.8 million for Federal income tax purposes and $5.6 million for
state income tax purposes that expire at various dates through fiscal year 2030.
The tax laws related to the utilization of loss carry forwards are complex and
the amount of the Company’s loss carry forward that will ultimately be available
to offset future taxable income may be subject to annual limitations under IRC
Section 382 resulting from changes in the ownership of the Company’s common
stock.
  59
     The Company
performed an analysis to determine whether an ownership change under Section 382
of the Internal Revenue Code had occurred. The effect of an ownership change
would be the imposition of an annual limitation on the use of the net operating
loss carry forwards attributable to periods before the change. As of March 31,
2010, the Company believes there are no limitations on the use of these Federal
NOLs.
  At March
31, 2010, the Company’s net deferred tax asset before consideration of a
valuation allowance was approximately $7.7 million, mainly consisting of net
operating loss carry-forwards. In assessing the realizability of deferred tax
assets, the Company has determined that at this time it is “more likely than
not” that deferred tax assets will not be realized, primarily due to
uncertainties related to its ability to utilize the net operating loss
carry-forwards before they expire based on the negative evidence of its recent
years history of losses, including tax losses in each of the last three years
and cumulative taxable losses over the past three years, outweighing the
positive evidence of taxable income projections in future years. The ultimate
realization of these deferred tax assets is dependent upon the generation of
future taxable income during those periods in which those temporary differences
become deductible or within the periods before NOL carry forwards expire. As of
both March 31, 2010 and 2009, the Company recorded a full valuation allowance on
its net deferred tax.
  Below are
reconciliations between the provisions for income taxes compared with the
amounts at the United States federal statutory rate:
  Years Ended
              March 31,
2010
              
              March 31,
  2009Federal income tax at
      statutory rates
              $
              (1,295,000
              )
              
              $
              (692,000
              )State income taxes, net of
      federal benefit
              
              (198,000
              )
              
              
              20,000Expiration of NOL
      carry-forwards
              
              662,000
              
              
              
              1,300,000Change in valuation
      allowance
              
              369,000
              
              
              
              (559,000
              )Refundable R&D
      credits
              
              (85,000
              )
              
              
              --Permanent items
              
              187,000
              
              
              
              82,000Provision to return
      adjustments and other
              
              275,000
              
              
              
              (151,000
              )Effective federal income
      tax
              $
              (85,000
              )
              
              $
              --
  The
Company’s net deferred tax assets (liabilities) consisted of the following
components, for fiscal years 2010 and 2009:
  2010
              
              2009Sec. 263A adjustment
              $
              45,000
              
              
              $
              57,000Inventory reserve
              
              400,000
              
              
              
              314,000Accounts receivable
      allowance
              
              18,000
              
              
              
              22,000Accruals
              
              197,000
              
              
              
              178,000NOL carry forwards
              
              7,425,000
              
              
              
              7,716,000Basis difference of
      intangibles
              
              (2,132,000
              )
              
              
              (2,172,000
              )Basis difference of
      equipment
              
              (513,000
              )
              
              
              (748,000
              )R&D credit carry
      forward
              
              2,036,000
              
              
              
              1,561,000Goodwill
amortization
              
              124,000
              
              
              
              322,000Other
              
              74,000
              
              
              
              55,000Total
              $
              7,674,000
              
              
              $
              7,305,000Valuation allowance
              
              (7,674,000
              )
              
              
              (7,305,000
              )Net deferred tax asset
              $
              --
              
              
              $
              --
  60
     At March
31, 2010 the Company’s Federal R&D tax credit carry forwards totaled
approximately $2.0 million. These credits will expire annually at March 31 over
the next twenty (20) years.
  14. Commitments & Contingencies
  Leases - The Company leases all of its
executive offices, research, marketing and manufacturing facilities under
non-cancellable operating leases.
  The lease
for our facility located in Camarillo, California was amended in December 2008
and is now leased through February 2014. The lease payment adjusts annually
based on the change in the Consumer Price Index (CPI).
  In 2001,
the Company entered into a 10-year lease for its Ann Arbor, MI facility with two
5-year options to renew at a lease rate tied to the CPI, with a minimum increase
for each 5-year option. The original lease included the first right of refusal
to purchase the facility and was scheduled to expire in May 31, 2011. In January
2010, the Company amended the lease terms and extended the lease to May 31,
2021. The new lease represents a 19% reduction in lease payments over the new
lease term, or approximately $1.6 million in savings. The Company retained the
right of first refusal to purchase the property during the new lease term. In
addition, the Company negotiated an option to purchase the facility on May 31,
2016 for no less than $7.1 million. Rent will decrease from $58,689 per month to
$50,754 per month commencing January, 2010 through May, 2011, then will decrease
to $48,238 per month from June, 2011 through May, 2016 and will increase to
$52,432 in June, 2016 through the remainder of the lease term.
  Minimum
future lease payments under all non-cancellable operating leases are as follows
for the next five years:
  2011
              
              $
              1,000,0002012
              
              
              983,0002013
              
              
              986,0002014
              
              
              961,0002015
              
              
              579,000Total
              
              $
              4,509,000
  Rent
expense was approximately $1.1 million and $1.2 million in FY 2010 and 2009,
respectively.
  Legal - The Company is, from time to time,
subject to legal and other matters in the normal course of its business. While
the results of such matters cannot be predicted with certainty, management does
not believe that the final outcome of any pending matters will have a material
effect on the financial position and results of operations of the Company.
  61
     15. Quarterly Financial Data
  The table
below lists financial information (unaudited) by quarter for each of the two
fiscal years ended March 31, 2010 and 2009.


2010
              
              First
              
              Second
              
              Third
              
              Fourth
              
              Total
      YearNet Sales
              $
              5,934,000
              
              
              $
              5,424,000
              
              
              $
              4,588,000
              
              
              
              $5,129,000
              
              
              $
              21,075,000Cost of Products
      Sold
              
              2,937,000
              
              
              
              3,360,000
              
              
              
              3,009,000
              
              
              
              2,753,000
              
              
              
              12,059,000Gross Profit
              
              2,997,000
              
              
              
              2,064,000
              
              
              
              1,579,000
              
              
              
              2,376,000
              
              
              
              9,016,000Research &
      DevelopmentExpenses
              
              1,063,000
              
              
              
              1,167,000
              
              
              
              1,183,000
              
              
              
              1,325,000
              
              
              
              4,738,000Selling, General
    &Administrative
    Expenses
              
              2,179,000
              
              
              
              1,917,000
              
              
              
              1,896,000
              
              
              
              1,942,000
              
              
              
              7,934,000Net Income (Loss)
              $
              (296,000
              )
              
              $
              (1,192,000
              )
              
              $
              (1,344,000
              )
              
              $
              (846,000
              )
              
              $
              (3,678,000
              )Basic and diluted Loss
      perCommon Share
              $
              (0.01
              )
              
              $
              (0.05
              )
              
              $
              (0.05
              )
              
              $
              (0.03
              )
              
              $
              (0.15
              )Weighted Average
    CommonShares Outstanding
              
              24,135,000
              
              
              
              24,343,000
              
              
              
              24,483,000
              
              
              
              24,496,000
              
              
              
              24,368,0002009Net Sales
              $
              7,770,000
              
              
              $
              8,188,000
              
              
              $
              7,606,000
              
              
              $
              6,111,000
              
              
              $
              29,675,000Cost of Products
Sold
              
              4,014,000
              
              
              
              4,624,000
              
              
              
              4,329,000
              
              
              
              3,777,000
              
              
              
              16,744,000Gross Profit
              
              3,756,000
              
              
              
              3,564,000
              
              
              
              3,277,000
              
              
              
              2,334,000
              
              
              
              12,931,000Research &
      DevelopmentExpenses
              
              1,128,000
              
              
              
              1,081,000
              
              
              
              1,112,000
              
              
              
              1,355,000
              
              
              
              4,676,000Selling, General
    &Administrative
    Expenses
              
              2,389,000
              
              
              
              2,708,000
              
              
              
              2,415,000
              
              
              
              2,399,000
              
              
              
              9,911,000Net Income (Loss)
              $
              147,000
              
              
              $
              (326,000
              )
              
              $
              (359,000
              )
              
              $
              (1,497,000
              )
              
              $
              (2,035,000
              )Basic and diluted Loss
      perCommon Share
              $
              0.01
              
              
              $
              (0.01
              )
              
              $
              (0.01
              )
              
              $
              (0.06
              )
              
              $
              (0.08
              )Weighted Average
    CommonShares Outstanding
              
              24,010,000
              
              
              
              24,060,000
              
              
              
              24,109,000
              
              
              
              24,121,000
              
              
              
              24,074,000
  Item
      9.
              CHANGES IN AND DISAGREEMENTS
      WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
                
                None
  Item 9A (T). CONTROLS AND PROCEDURES
  Disclosure Controls
                
                Our
      Chief Executive Officer and Chief Financial Officer (the Certifying
      Officers) are responsible for establishing and maintaining disclosure
      controls and procedures for the Company. The Certifying Officers have
      designed such disclosure controls and procedures to ensure that material
      information is made known to them, particularly during the period in which
      this report was prepared. The Certifying Officers have evaluated the
      effectiveness of the Company's disclosure controls and procedures (as such
      terms are defined in Exchange Act Rules 13a-15(e) and 15d-15(e) (the
      Rules) under the Securities Exchange Act of 1934 (or Exchange Act)) as of
      the end of the period covered by this Annual Report and believe that the
      Company's disclosure controls and procedures are effective based on the
      required evaluation.
                
                Management’s Report on
      Internal Control Over Financial Reporting
                
                Our
      management is responsible for establishing and maintaining adequate
      internal control over financial reporting, as such term is defined in Rule
      13a-15(f) under the Exchange Act. Under the supervision and with the
      participation of our management, including the Certifying Officers, we
      conducted an evaluation of the effectiveness of our internal control over
      financial reporting as of March 31, 2010 based on the criteria set forth
      inInternal Control – Integrated
      Frameworkissued by the Committee of Sponsoring Organizations of the Treadway
      Commission. Based on our evaluation under the criteria set forth inInternal Control – Integrated
      Framework,
      our management concluded that our internal control over financial
      reporting was effective as of March 31, 2010.
  62
     This
      Annual Report does not include an attestation report of our independent
      registered public accounting firm regarding internal control over
      financial reporting. We were not required to have, nor have we engaged our
      independent registered public accounting firm to perform, an audit on our
      internal control over financial reporting pursuant to the rules of the
      Securities and Exchange Commission that permit us to provide only
      managements’ report in this Annual Report.
                
                Changes in Internal Controls
                
                During our most recent fiscal quarter, there has not occurred any
      change in our internal control over financial reporting (as such term is
      defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that has
      materially affected, or is reasonably likely to materially affect, our
      internal control over financial reporting.
  Item 9B. OTHER INFORMATION
  In
      June 2010, the Company and the bank entered into a Second Amendment to the
      Loan agreement pursuant to which our Lender waived any event of default
      under the Agreement resulting from the covenant violations for the fiscal
      quarters ended December 31, 2009 and March 31, 2010 (the “Covenant
      Violations”). This waiver is not deemed to amend or alter in any respect
      the terms and conditions of the Agreement or any of the other loan
      documents, or to constitute a waiver or release by the Lender of any
      right, remedy or event of default under the Agreement or any of the other
      loan documents, except to the extent expressly set forth under the Second
      Amendment to the Loan agreement. The agreement is amended to update the
      financial covenants as defined in the amendment and the notes. In
      addition, the Second Amendment requires the Company to amend the secured
      promissory notes issued to our CFO and CTO in connection with the
      Company’s’ acquisition of Picometrix, Inc. on May 2, 2005 (the notes) to
      defer the payment of the remaining fourth and fifth installment payments
      owed under the Notes. Failure to amend the Notes within 60 days of signing
      the Second Amendment will constitute an event of default under the
      Agreement. The Second Amendment increased the interest rate from prime
      plus 1% to prime plus 2%. According to the terms of the amended Agreement,
      the Adjusted EBITDA level is measured on a quarterly basis for the June
      30, 2010, September 30, 2010, December 31, 2010 and March 31, 2011 test
      dates and thereafter on a trailing twelve months basis. In addition, the
      Debt Service Coverage ratio and the Net Worth covenants were amended. The
      amended minimum Debt Service Coverage ratio is 1.0 to 1.0 for the first
      three quarters of fiscal 2011 and 1.2 to 1.0 thereafter. The amended
      minimum Net Worth covenant is $13.0 million for the 1st quarter, $12.5
      million for the 2nd quarter, $12.1
      million for the 3rd quarter and
      $11.8 million for the 4th quarter.
      Substantially all of our tangible assets serve as collateral for the debt
      that is owed our Lender.
  63
     PART III
  In
accordance with General Instruction G (3), and except for certain of the
information called for by Items 10 and 12 which is set forth below, the
information called for by Items 10 through 14 of Part III is incorporated by
reference from the Company’s definitive proxy statement (Proxy Statement) to be
filed pursuant to Regulation 14A promulgated under the Securities Exchange Act
of 1934 in connection with the Company’s 2010 Annual Meeting of Stockholders.
  Item
      10.
              DIRECTORS, EXECUTIVE OFFICERS
      AND CORPORATE GOVERNANCE
                  
                  Code of Ethics --The
      Company has adopted a Code of Ethics for Senior Financial Officers,
      pursuant to the Sarbanes-Oxley Act of 2002. The Code of Ethics is
      published on the Company's web site, www.advancedphotonix.com on the
      Investor Relations page. The Company will also provide a copy of the Code
      of Ethics to any person without charge upon his or her request. Any such
      request should be directed to our Secretary at 2925 Boardwalk, Ann Arbor,
      Michigan 48104. The Company intends to make all required disclosures
      concerning any amendments to or waivers from the Code of Ethics on its
      website.
                    
                    The
      response to the remainder of this item is incorporated by reference from
      the Company’s Proxy Statement.
  Item
      11.
              EXECUTIVE
      COMPENSATION
                
                The
      response to this item is incorporated by reference from the Company’s
      Proxy Statement.
  Item
      12.
              SECURITY OWNERSHIP OF CERTAIN
      BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
                    
                    The
      following table sets forth, as of March 31, 2010, the aggregated
      information pertaining to all securities authorized for issuance under the
      Company’s equity compensation plans:
  64
     Plan Category
              
              Weighted-Number
      of
              averageSecurities to
      be
              exercise
      price
              Number
      ofissued
      upon
              of
              securitiesexercise
      of
              outstanding
              remainingoutstanding
              options,
              available foroptions,
      warrants
              warrants
      and
              futureand
      rights
              rights
              issuanceEquity
      compensation
              2,604,000
              $1.85
              1,880,000(1)plans
      approved byshareholdersEquity
      compensation
              -
              -
              -plans not
      approved byshareholdersTotal
              2,604,000
              $1.85
              1,880,000(1)
  (1)
      Represents shares issuable upon the grant of restricted stock and stock
      options.
                
                The
      response to the remainder of this item is incorporated by reference from
      the Company’s Proxy Statement.
  Item
      13.
              CERTAIN RELATIONSHIPS AND
      RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
                
                The
      response to this item is incorporated by reference from the Company’s
      Proxy Statement.
  Item
      14.
              PRINCIPAL ACCOUNTANT FEES AND
      SERVICES
                
                The
      response to this item is incorporated by reference from the Company’s
      Proxy Statement.
  PART IV
  Item
      15.
              EXHIBITS AND FINANCIAL
      STATEMENT SCHEDULES
                
                The
      following is a list of the financial statements, schedules and exhibits
      filed herewith.
                
                (1)
      Financial Statements: No financial statements have been filed with this
      Form 10-K other than those listed in Item 8.
                
                (2) Financial Statement Schedules: The
      following additional financial statement schedule is furnished herewith
      pursuant to the requirements of Form
10-K.
  65




SCHEDULE IIADVANCED PHOTONIX, INC.




Valuation and Qualifying
Accounts




AdditionsCharged toMarch
      31,
            Charged
      to
            Other
            
            
            March
      31,2009
            Expense
            Accounts
            Deductions
            2010Allowance
      for doubtful accounts
            $
            62,000
            $
            12,000
            $
            --
            $
            23,000
            $
            51,000Warranty
      reserves
            $
            138,000
            $
            50,000
            $
            --
            $
            102,000
            $
            86,000Deferred tax valuation
    allowance
            $
            7,305,000
            $
            --
            $
            369,000
            $
            --
            $
            7,674,000AdditionsCharged toMarch
      31,
            Charged to
            Other
            
            
            March
      31,2008
            Expense
            Accounts
            Deductions
            2009Allowance
      for doubtful accounts
            $
            14,000
            $
            48,000
            $
            --
            $
            --
            $
            62,000Warranty
      reserves
            $
            85,000
            $
            76,000
            $
            --
            $
            23,000
            $
            138,000Deferred
      tax valuation allowance
            $
            7,864,000
            $
            --
            $
            --
            $
            559,000
            $
            7,305,000


All other schedules for which provisions are made in the applicable
accounting regulations of the Securities and Exchange Commission are not
required under the related instructions, or are disclosed in the accompanying
consolidated financial statements, or are inapplicable and, therefore, have been
omitted.




(3) Exhibits: The following is a list of the exhibits filed as part of this Form
10-K.




ExhibitNumber
            
            Description2.1
            
            Stock Purchase Agreement dated December 21, 2004 between Advanced
      Photonix, Inc. and Photonic Detectors, Inc. – incorporated by reference to
      Exhibit 2.1 to the Registrant’s Form 8-K, filed on December 23,
    20042.2
            
            Agreement and Plan of Merger between Advanced Photonix, Inc. and
      Michigan Acquisition Sub, LLC, Picotronix, Inc., Robin Risser and Steven
      Williamson, dated March 8, 2005 – incorporated by reference to Exhibit 2.1
      to the Registrant’s Form 8-K, filed on March 14, 20053.1
            
            Certificate of Incorporation of the Registrant, as amended -
      incorporated by reference to Exhibit 3.1 to the Registrant's Registration
      Statement on Form S-1, filed on November 23,
1990




66




---



3.1.1
            
            Amendment to Certificate of Incorporation of the Registrant, dated
      October 29, 1992-incorporated by reference to the Registrant's March 31,
      1996 Annual Report on Form 10-K3.1.2
            
            Amendment to Certificate of Incorporation of the Registrant, dated
      September 9, 1992-incorporated by reference to the Registrant's March 31,
      1996 Annual Report on Form 10-K3.2
            
            By-laws of the Registrant, as amended – incorporated by reference
      to Exhibit 3.(ii) to the Registrant’s Form 8-K as filed with the
      Securities and Exchange Commission on June 8, 20054.1
            
            Rights Agreement, by and between the Company and Continental Stock
      Transfer and Trust Company, as amended – incorporated by reference to
      Exhibit 4.1 to the Registrant’s Form 8-K, filed on February 9,
    200510.1
            
            Advanced Photonix, Inc. 1991 Special Directors Stock Option Plan –
      incorporated by reference to Exhibit 10.9 to the Registrant's March 31,
      1991 Annual Report on Form 10-K10.2
            
            Advanced Photonix, Inc. 1990 Incentive Stock Option and
      Non-Qualified Stock Option Plan – incorporated by reference to Exhibit No.
      10.11 to the Registrant's Registration Statement on Form S-1, filed with
      the Securities and Exchange Commission on November 23, 199010.3
            
            Advanced Photonix, Inc. 1997 Employee Stock Option Plan –
      incorporated by reference to Exhibit 10.13 to the Registrant’s March 30,
      1997 Annual Report on Form 10-K10.4
            
            Amendment No. 1 to 1997 Employee Stock Option Plan of Advanced
      Photonix, Inc. – incorporated by reference to Exhibit 10.14 to the
      Registrant’s December 28, 1997 Quarterly Report on Form 10-Q10.5
            
            Advanced Photonix, Inc. 2000 Stock Option Plan, as amended –
      incorporated by reference to Exhibit 99.1 to the Registrant's Form 8-K,
      filed on November 19, 200410.6
            
            Advanced Photonix, Inc. 2007 Equity Incentive Plan – incorporated
      by reference to the Registrant’s Exhibit A to the Proxy Statement relating
      to its 2007 Annual Meeting of Stockholders, as filed July 16, 2007 on Form
      14A10.7
            
            Form of Director Restricted Stock Agreement under the 2007 Equity
      Incentive Plan -- incorporated by reference to Exhibit 4.4 to the
      Registrant's Form S-8 on Registration Statement No. 333-147012, filed on
      October 30, 200710.8
            
            Form of Employee Restricted Stock Agreement under the 2007 Equity
      Incentive Plan -- incorporated by reference to Exhibit 4. to the
      Registrant's Form S-8 on Registration Statement No. 333-147012, filed on
      October 30, 2007




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10.9
            
            Form of Employee Stock Option Agreement under the 2007 Equity
      Incentive Plan -- incorporated by reference to Exhibit 4.6 to the
      Registrant's Form S-8 on Registration Statement No. 333-147012, filed on
      October 30, 200710.10
            
            Advanced Photonix, Inc. Executive Incentive Compensation Plan --
      incorporated by reference to Exhibit 10.1 to the Registrant’s December 28,
      2007 Quarterly Report on Form 10-Q10.11
            
            Lease Agreement dated February 23, 1998 between Advanced Photonix,
      Inc. and High Tech No. 1, Ltd. - incorporated by reference to Exhibit 10.9
      to the Registrant's March 29, 1998 Annual Report on Form 10-K10.12
            
            Form of Indemnification Agreement provided to Directors and
      Principal Officers of Advanced Photonix, Inc. - incorporated by reference
      to Exhibit 10.15 to the Registrant’s December 28, 1997 Quarterly Report on
      Form 10-Q10.13
            
            Securities Purchase Agreement, Registration Rights Agreement,
      Senior Subordinated Convertible Note, Warrant to Purchase Class A Common
      Stock, and Additional Investment Right dated October 12, 2004 between
      Advanced Photonix, Inc. and private investors – incorporated by reference
      to Exhibits 10.13 through 10.13.4 to the Registrant’s Form 8-K, filed on
      October 12, 200410.14
            
            Letters of Agreement amending the Securities Purchase Agreement and
      Warrant to Purchase Class A Common Stock, dated March 9, 2005, between
      Advanced Photonix, Inc. and private investors – incorporated by reference
      to Exhibits 10.2 through 10.5 to the Registrant’s Form 8-K, filed on March
      14, 200510.15
            
            Promissory Note between Picotronix, Inc. and Advanced Photonix,
      Inc., dated March 10, 2005 – incorporated by reference to Exhibit 10.1 to
      the Registrant’s Form 8-K, filed on March 14, 200510.16
            
            Secured Promissory Note between Advanced Photonix, Inc. and Robin
      Risser, dated May 2, 2005 – incorporated by reference to Exhibit 10.1 to
      the Registrant’s Form 8-K, filed on May 6, 200510.17
            
            Amendment dated May 1, 2008 to Secured Promissory Note dated May 2,
      2005 by and between Advanced Photonix, Inc. and Robin Risser incorporated
      by reference to Exhibit 10.1 to the Registrant’s Form 8-K, filed on May 2,
      200810.18
            
            Second Amendment dated November 26, 2008 to Secured Promissory Note
      dated May 2, 2005 by and between Advanced Photonix, Inc. and Robin Risser
      – incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K,
      filed on December 1, 2008




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10.19
            
            Secured Promissory Note between Advanced Photonix, Inc. and Steven
      Williamson, dated May 2, 2005 – incorporated by reference to Exhibit 10.2
      to the Registrant’s Form 8-K, filed on May 6, 200510.20
            
            Amendment dated May 1, 2008 to Secured Promissory Note dated May 2,
      2005 by and between Advanced Photonix, Inc. and Steven Williamson –
      incorporated by reference to Exhibit 10.2 to the Registrant’s Form 8-K,
      filed on March 2, 200810.21
            
            Second Amendment dated November 26, 2008 to Secured Promissory Note
      dated May 2, 2005 by and between Advanced Photonix, Inc. and Steven
      Williamson – incorporated by reference to Exhibit 10.1 to the Registrant’s
      Form 8-K, filed on December 1, 200810.22
            
            Convertible Loan Agreement dated September 15, 2004 between
      Picometrix, LLC and the Michigan Economic Development Corporation –
      incorporated by reference to Exhibit 10.2 to the Registrant’s Form 8-K,
      filed on October 30, 200810.23
            
            First Amendment to Convertible Loan Agreement dated December 2,
      2004 between Picometrix, LLC and the Michigan Economic Development
      Corporation – incorporated by reference to Exhibit 10.3 to the
      Registrant’s Form 8-K, filed on October 30, 200810.24
            
            Second Amendment to Convertible Loan Agreement dated March 17, 2005
      between Picometrix, LLC and the Michigan Economic Development Corporation
      – incorporated by reference to Exhibit 10.4 to the Registrant’s Form 8-K,
      filed on October 30, 200810.25
            
            Second Amended and Restated Promissory Note dated September 23,
      2008 by Picometrix, LLC – incorporated by reference to Exhibit 10.1 to the
      Registrant’s Form 8-K, filed on October 30, 200810.26
            
            Loan Agreement, dated September 15, 2005, between Picometrix, LLC
      and the Michigan Economic Development Corporation – incorporated by
      reference to Exhibit 10.1 to the Registrant’s Form 8-K, filed on September
      16, 200510.27
            
            Amended and Restated Promissory Note dated January 26, 2009 by
      Picometrix, LLC – incorporated by reference to Exhibit 10.1 to the
      Registrant’s Form 8-K, filed on January 30, 200910.28
            
            Loan Agreement between Advanced Photonix, Inc. and Fifth Third
      Bank, dated March 6, 2007 – incorporated by reference to Exhibit 10.1 to
      the Registrant’s Form 8-K, filed on March 9, 200710.29
            
            Promissory Note by Advanced Photonix, Inc. in favor of Fifth Third
      Bank, for $2,000,000 dated March 6, 2007 – incorporated by reference to
      Exhibit 10.2 to the Registrant’s Form 8-K, filed on March 9,
  200710.30
            
            Security Agreement among Advanced Photonix, Inc., Silicon Sensors,
      Inc., Picometrix, LLC, and Fifth Third Bank – incorporated by reference to
      Exhibit 10.3 to the Registrant’s Form 8-K, filed on March 9,
  2007




69




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10.31
            
            Master Equipment Lease Agreement between Advanced Photonix, Inc.
      and Fifth Third Leasing Company dated March 6, 2007 – incorporated by
      reference to Exhibit 10.4 to the Registrant’s Form 8-K, filed on March 9,
      200710.32
            
            Interim Funding Schedule between Advanced Photonix and Fifth Third
      Leasing Company – incorporated by reference to Exhibit 10.5 to the
      Registrant’s Form 8-K, filed on March 9, 200710.33
            
            First Amendment dated November 13, 2007 between Advanced Photonix,
      Inc. and Fifth Third Bank to that certain Business Loan Agreement dated as
      of March 6, 2007 – incorporated by reference to Exhibit 10.4 to the
      Registrant’s Form 10-Q/A, filed on June 17, 200810.34
            
            Loan Agreement dated September 25, 2008 between Advanced Photonix,
      Inc. and The PrivateBank and Trust Company – incorporated by reference to
      Exhibit 10.1 to the Registrant’s Form 8-K, filed on September 29,
      200810.35
            
            Promissory Note (Term Loan – Prime) dated September 25, 2008 by
      Advanced Photonix, Inc. in favor of The PrivateBank and Trust Company –
      incorporated by reference to Exhibit 10.2 to the Registrant’s Form 8-K,
      filed on September 29, 200810.36
            
            Promissory Note (Line of Credit – Prime) dated September 25, 2008
      by Advanced Photonix, Inc. in favor of The PrivateBank and Trust Company –
      incorporated by reference to Exhibit 10.3 to the Registrant’s Form 8-K,
      filed on September 29, 200810.37
            
            Continuing Security Agreement dated September 25, 2008 between
      Advanced Photonix, Inc. and The PrivateBank and Trust Company –
      incorporated by reference to Exhibit 10.4 to the Registrant’s Form 8-K,
      filed on September 29, 200810.38
            
            Continuing Guaranty dated September 25, 2008 by Picometrix, LLC and
      Silicon Sensors, Inc. for the benefit of The PrivateBank and Trust Company
      – incorporated by reference to Exhibit 10.5 to the Registrant’s Form 8-K,
      filed on September 29, 200810.39
            
            Form of Patent, Trademark and Security Agreement between Advanced
      Photonix, Inc. and The PrivateBank and Trust Company – incorporated by
      reference to Exhibit 10.6 to the Registrant’s Form 8-K, filed on September
      29, 200810.40
            
            Form of Third Party Subscription Agreement, dated August 31, 2007 –
      incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K,
      filed on September 7, 200710.41
            
            Form of Insiders Subscription Agreement, dated August 31, 2007 –
      incorporated by reference to Exhibit 10.2 to the Registrant’s Form 8-K,
      filed on September 7, 200710.42
            
            Form of 2007 Series Warrant to Purchase Class A Common Stock, dated
      August 31, 2007 – incorporated by reference to Exhibit 10.3 to the
      Registrant’s Form 8-K, filed on September 7,
2007




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10.43
            
            Form of Registration Rights Agreement, dated August 31, 2007 –
      incorporated by reference to Exhibit 10.4 to the Registrant’s Form 8-K,
      filed on September 7, 200710.44
            
            Insider Side Letter regarding the Warrant Exercise Price, dated
      August 31, 2007 – incorporated by reference to Exhibit 10.5 to the
      Registrant’s Form 8-K, filed on September 7, 200710.45
            
            Insider Side Letter regarding the Registration Rights Agreement,
      dated August 31, 2007 – incorporated by reference to Exhibit 10.6 to the
      Registrant’s Form 8-K, filed on September 7, 200710.46
            
            Form of Third Party Subscription Agreement, dated September 14,
      2007 – incorporated by reference to Exhibit 10.1 to the Registrant’s Form
      8-K, filed on September 19, 200710.47
            
            Advanced Photonix, Inc. Executive Incentive Compensation Plan
      (amended and restated as of March 6, 2009) – incorporated by reference to
      Exhibit 10.47 to the Registrant’s Form 10-K, filed on June 29,
    200910.48
            
            Third Amendment dated April 1, 2009 to Secured Promissory Note
      dated May 2, 2005 by and between Advanced Photonix, Inc. and Robin Risser
      – incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K,
      filed on April 24, 200910.49
            
            Third Amendment dated April 1, 2009 to Secured Promissory Note
      dated May 2, 2005 by and between Advanced Photonix, Inc. and Steven
      Williamson – incorporated by reference to Exhibit 10.2 to the Registrant’s
      Form 8-K, filed on April 24, 200910.50
            
            First Amendment to Loan Agreement dated May 29, 2009 between
      Advanced Photonix, Inc. and The PrivateBank and Trust Company. –
      incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K,
      filed on June 2, 200910.51
            
            Employment Agreement dated November 30, 2009, between Advanced
      Photonix, Inc. and Richard Kurtz – incorporated by reference to Exhibit
      10.1 to the Registrant’s Form 8-K, filed on December 3, 200910.52
            
            Employment Agreement dated November 30, 2009, between Advanced
      Photonix, Inc. and Robin Risser – incorporated by reference to Exhibit
      10.2 to the Registrant’s Form 8-K, filed on December 3, 200910.53
            
            Employment Agreement dated November 30, 2009, between Advanced
      Photonix, Inc. and Steve Williamson – incorporated by reference to Exhibit
      10.3 to the Registrant’s Form 8-K, filed on December 3, 200910.54
            
            Fourth Amendment dated November 30, 2009 to Secured Promissory Note
      dated May 2, 2005 by and between Advanced Photonix, Inc. and Robin Risser
      – incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K,
      filed on December 3, 2009




71




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10.55
            
            Fourth Amendment dated November 30, 2009 to Secured Promissory Note
      dated May 2, 2005 by and between Advanced Photonix, Inc. and Steve
      Williamson – incorporated by reference to Exhibit 10.2 to the Registrant’s
      Form 8-K, filed on December 3, 200910.56
            
            Fourth Addendum & Extension Agreement, dated January 8, 2010,
      between Picometrix, LLC and Jagar, L.L.C. – incorporated by reference to
      Exhibit 10.1 to the Registrant’s Form 8-K, filed on January 13,
    201010.57
            
            Debt Conversion Agreement entered into as of May 19, 2010, by and
      among Picometrix, LLC, Advanced Photonix, Inc. and Michigan Economic
      Development Corporation incorporated by reference to Exhibit 10.1 to the
      Registrant’s Form 8-K, filed on May 25, 201010.58
            
            Debt Conversion Agreement entered into as of May 19, 2010, by and
      among Picometrix, LLC, Advanced Photonix, Inc., Michigan Economic
      Development Corporation and Michigan Strategic Fund incorporated by
      reference to Exhibit 10.2 to the Registrant’s Form 8-K, filed on May
      25, 201010.59
            
            Second Amendment dated June 25, 2010 to the Loan Agreement between
      Advanced Photonix, Inc. and The PrivateBank and Trust Company10.60
            
            Second Amendment dated June 25, 2010 to the Promissory Note (Term
      Loan – Prime) by Advanced Photonix, Inc. and The PrivateBank and Trust
      Company10.61
            
            Second Amendment dated June 25, 2010 to the Promissory Note (Line
      of Credit – Prime) by Advanced Photonix, Inc. and The PrivateBank and
      Trust Company21.1
            
            List of Subsidiaries of Registrant23.1
            
            Consent of BDO Seidman, LLP31.1
            
            Certification of the Registrant’s Chairman, Chief Executive Officer
      and Director pursuant to Section 302 of the Sarbanes-Oxley Act of
      200231.2
            
            Certification of the Registrant’s Chairman, Chief Financial Officer
      and Director pursuant to Section 302 of the Sarbanes-Oxley Act of
      200232.1
            
            Certification pursuant to 18 U.S.C. Section 1350, as adopted
      pursuant to Section 906 of the Sarbanes-Oxley Act of
200232.2
            
            Certification pursuant to 18 U.S.C. Section 1350, as adopted
      pursuant to Section 906 of the Sarbanes-Oxley Act of
  2002




72




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SIGNATURES




Pursuant to the
requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.




ADVANCED PHOTONIX, INC.By:
            /s/ Richard KurtzChief Executive Officer and PresidentDate:
      June 29, 2010


Pursuant to the
requirements of the Securities Exchange Act of 1934, this report has been signed
below by the following persons on behalf of the Registrant in the capacities and
on the dates indicated.




Signature
            
            Title
            
            Date/s/ Richard D. Kurtz
            
            Chairman of the Board, President, and
            
            June 29, 2010Richard
      D. Kurtz
            
            Chief
      Executive Officers/ Robin Risser
            
            Chief
      Financial Officer and Director
            
            June 29, 2010Robin
      Risser/s/ M. Scott Farese
            
            Director
            
            June 29, 2010M.
      Scott Farese/s/ Lance Brewer
            
            Director
            
            June 29, 2010Lance
      Brewer/s/ Donald Pastor
            
            Director
            
            June 29, 2010Donald
      Pastor/s/ Stephen P. Soltwedel
            
            Director
            
            June 29, 2010Stephen
      P. Soltwedel


73




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