UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION




Washington,
D.C. 20549




FORM
10-K




x     
annual
report pursuant to section 13 or 15(d)
of the securities exchange act of 1934


For the
fiscal year ended: December 31,
2007




£      transition
report pursuant to section 13 or 15(d)
of the securities exchange act of 1934


For the
transition period from __________________________________




Commission
file number 1-31993




STERLING
CONSTRUCTION COMPANY, INC.


(Exact
name of registrant as specified in its charter)




Delaware
            25-1655321State
      or other jurisdiction of  incorporation or
      organization
            (I.R.S.
      Employer Identification No.)20810
      Fernbush Lane
              Houston,
      Texas
            77073(Address
      of principal executive offices)
            (Zip
      Code)


Registrant's
      telephone number, including area code (281)
      821-9091Securities registered pursuant to
      Section 12(b) of the Act:
            Name
      of each exchange on which registeredTitle
      of each class
            The
      NASDAQ Stock
      MarketNone




Securities
registered pursuant to section 12(g) of the Act:


Common
Stock, $0.01 par value per share


(Title of
Class)




Preferred
Share Purchase Rights


(Title of
Class)




Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.


£
Yes   R
No




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   RNo




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.  R
Yes  £No




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   £




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 definitions of "large accelerated filer," "accelerated
filer" and "smaller reporting company" in Rule 12b-2 of the Exchange
Act.




Large
      accelerated filer £
            Accelerated
      filer RNon-accelerated
      filer   £ (Do not check if a smaller
      reporting company)
            Smaller
      reporting company £




Indicate
by check mark if the registrant is a shell company (as defined in Rule 12b-2 of
the Act). £ Yes 
  RNo




Aggregate
market value of the voting and non-voting common equity held by non-affiliates
at June 30, 2007: $206,642,670.




At March
3, 2008, the registrant had 13,088,692 shares of common stock
outstanding.





DOCUMENTS
INCORPORATED BY REFERENCE


None





1




Sterling
Construction Company, Inc.


Annual
Report on Form 10-K


Table of Contents




PART
      I
            
            4Cautionary Comment Regarding Forward-Looking
      Statements
            4Item 1.
            Business
            5Access to the Company's Filings
            5Developments of the Business
            5Overview of the Company's Business
            5Our Business Strategy
            6Our Markets and Customers
            6Competition
            8Contract Backlog
            8Contracts
            9Employees
            12Item 1A.
            Risk Factors
            12Item 1B.
            Unresolved Staff Comments
            22Item 2.
            Properties
            22Item 3.
            Legal Proceedings
            23Item 4.
            Submission of Matters to a Vote of Security
      Holders
            23PART
      II
            
            23Item 5.
            Market for the Registrant’s Common Equity, Related Stockholder
      Matters
            23Dividend Policy
            23Equity Compensation Plan Information
            24Performance Graph
            24Item 6.
            Selected Financial Data
            25Item 7.
            Management’s Discussion and Analysis of Financial Condition and
      Results of Operation
            27Overview
            27Critical Accounting Policies
            27Results of Operations
            30Historical Cash Flows
            35Liquidity
            36Sources of Capital
            36Uses of Capital
            37Off-Balance Sheet Arrangements
            38Item 7A.
            Quantitative and Qualitative Disclosures About Market
      Risk
            39Item 8.
            Financial Statements and Supplementary Data
            39Item 9.
            Changes in and Disagreements With Accountants on Accounting and
      Financial Disclosure
            39Item 9A.
            Controls and Procedures
            39Evaluation of Disclosure Controls and
      Procedures
            39Management’s Report on Internal Control over Financial
      Reporting
            39Changes in Internal Control over Financial
      Reporting
            40Inherent Limitations on Effectiveness of
      Controls
            40




2




Item 9B.
            Other Information
            40PART
      III
            
            40Item 10.
            Directors and Executive Officers of the
      Registrant
            40Directors
            40Executive Officers
            42Section 16(a) Beneficial Ownership Reporting
      Compliance
            43Code of Ethics
            43The Audit Committee
            43Item 11.
            Executive Compensation
            43Introduction
            43Compensation Discussion and Analysis
            44Employment Agreements of Named Executive
      Officers
            52Potential Payments Upon Termination or
      Change-in-Control
            54Summary Compensation Table for 2007
            56Grants of Plan-Based Awards for 2007
            57Option Exercises and Stock Vested for
    2006
            59Outstanding Equity Awards at December 31,
      2007
            61Director Compensation for 2007
            62Compensation Committee Interlocks and Insider
      Participation
            64Compensation Committee Report
            64Item 12.
            Security Ownership of Certain Beneficial Owners and Management
      and Related Stockholder Matters
            65Equity Compensation Plan Information
            65Security Ownership of Certain Beneficial Owners and
      Management
            65Transactions with Related Persons
            67Policies and Procedures for the Review, Approval or
      Ratification of Transactions with Related Persons
            67Director Independence
            68Item 14.
            Principal Accountant Fees and
    Services
            69Audit and Non-Audit Service Approval
      Policy
            69Procedures
            70PART IV
            
            70Item 15.
            Exhibits, Financial Statement
    Schedules
            70Financial Statements
            70Financial Statement Schedules
            70SIGNATURES
            74




3
 Table of Contents


PART I




Cautionary Comment Regarding Forward-Looking
Statements




This
Report includes statements that are, or may be considered to be,
"forward-looking statements" within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of
1934.  These forward-looking statements are included throughout this
Report, including in the sections entitled "Business," "Risk Factors," and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and relate to matters such as our industry, business strategy, goals
and expectations concerning our market position, future operations, margins,
profitability, capital expenditures, liquidity and capital resources and other
financial and operating information.  We have used the words
"anticipate," "assume," "believe," "budget," "continue," "could," "estimate,"
"expect," "forecast," "future, " "intend," "may," "plan," "potential,"
"predict," "project," "should, " "will," "would" and similar terms and phrases
to identify forward-looking statements in this Report.




Forward-looking
statements reflect our current expectations regarding future events, results or
outcomes.  These expectations may or may not be
realized.  Some of these expectations may be based upon assumptions or
judgments that prove to be incorrect.  In addition, our business and
operations involve numerous risks and uncertainties, many of which are beyond
our control, that could result in our expectations not being realized or
otherwise could materially affect our financial condition, results of operations
and cash flows.




Actual
events, results and outcomes may differ materially from our expectations due to
a variety of factors.  Although it is not possible to identify all of
these factors, they include, among others, the following:




•
            changes
      in general economic conditions and resulting reductions or delays, or
      uncertainties regarding governmental funding for infrastructure
      services;




•
            adverse
      economic conditions in our markets in Texas and
  Nevada;




•
            delays
      or difficulties related to the commencement or completion of contracts,
      including additional costs, reductions in revenues or the payment of
      completion penalties or liquidated
damages;




•
            actions
      of suppliers, subcontractors, customers, competitors and others which are
      beyond our control;




•
            the
      estimates inherent in our percentage-of-completion accounting
      policies;




•
            possible
      cost increases;




•
            our
      dependence on a few significant
customers;




•
            adverse
      weather conditions;




•
            the
      presence of competitors with greater financial resources than we have and
      the impact of competitive services and
pricing;




•
            our
      ability to successfully identify, complete and integrate acquisitions;
      and




•
            the
      other factors discussed in more detail in Item 1A. —Risk
      Factors.




In
reading this Report, you should consider these factors carefully in evaluating
any forward-looking statements and you are cautioned not to place undue reliance
on any forward-looking statements.  Although we believe that our
plans, intentions and expectations reflected in, or suggested by, the
forward-looking statements that we make in this Report are reasonable, we can
provide no assurance that they will be achieved.




The
forward-looking statements included in this Report are made only as of the date
of this Report, and we do not undertake to update any information contained in
this Report or to publicly release the results of any revisions to any
forward-looking statements to reflect events or circumstances that occur, or
that we become aware of after the date of this Report, except as may be required
by applicable securities laws.




4
 Table of Contents




Item 1.
            Business




Access to the
Company's Filings.




The Company's
Website.The Company
maintains a website at www.sterlingconstructionco.com
on which our latest Annual Report on Form 10-K, recent Quarterly Reports on Form
10-Q, recent Current Reports on Form 8-K, any amendments to those filings, and
other filings may be accessed free of charge through a link to the Securities
and Exchange Commission's website where those reports are filed.  Our
website also has recent press releases, the Company's Code of Business Conduct
& Ethics and the charters of the Audit Committee, Compensation Committee,
and Corporate Governance & Nominating Committee of the Board of
Directors.  Information is also provided on the Company’s
“whistle-blower” procedures.  Our website content is made available
for information purposes only.  It should not be relied upon for
investment purposes, and none of the information on the website is incorporated
into this Report by this reference to it.




The Securities and Exchange
Commission (SEC).  The public may read and copy any materials
filed by the Company with the SEC at the SEC's Public Reference Room at 100
F Street, NE, Room 1580, Washington, DC 20549.  The public may
obtain information on the operation of the Public Reference Room by calling the
SEC at 1-800-SEC-0330 (1-800-732-0330).  The SEC also maintains an
Internet site at www.sec.gov on which
you can obtain reports, proxy and information statements and other information
regarding the Company and other issuers that file electronically with the
SEC.




Developmentsof the Business.In December
2007, the Company completed a public offering of 1.840 million shares of common
stock at a price to the public of $20.00 per share that yielded the Company net
proceeds (after underwriters' discounts and commissions) of $ 34.960 million
($19.00 per share.)  Other related direct offering costs reduced the
net proceeds to $34.489 million.




Overview of the
Company's Business.Sterling
Construction Company, Inc. was founded in 1991 as a Delaware
corporation.  Our principal executive offices are located at 20810
Fernbush Lane, Houston, Texas 77073, and our telephone number at this address is
(281) 821-9091.  Our construction business was founded in 1955 by a
predecessor company in Michigan and is now operated by our subsidiaries, Texas
Sterling Construction Co., a Delaware corporation, or TSC and Road and Highway
Builders LLC, a Nevada limited liability company, or "RHB".  The terms
"Company", "Sterling", and "we" refer to Sterling Construction Company, Inc. and
its subsidiaries except when it is clear that those terms mean only the parent
company.


Sterling
is a leading heavy civil construction company that specializes in the building,
reconstruction and repair of transportation and water
infrastructure.  Transportation infrastructure projects include
highways, roads, bridges and light rail.  Water infrastructure
projects include water, wastewater and storm drainage systems. Sterling provides
general contracting services primarily to public sector clients utilizing its
own employees and equipment, including excavating, concrete and asphalt paving,
installation of large-diameter water and wastewater distribution systems;
construction of bridges and similar large structures; construction of light rail
infrastructure; concrete batch plant operations, concrete crushing and
aggregates and asphalt paving operations. Sterling performs the majority of the
work required by its contracts with its own crews, and generally engages
subcontractors only for ancillary services.




Although
we describe our business in this report in terms of the services we provide, our
base of customers and the geographic areas in which we operate, we have
concluded that our operations comprise one reportable segment pursuant to
Statement of Financial Accounting Standards No. 131 – Disclosures about Segments
of an Enterprise and Related Information.  In making this determination, we
considered that each project has similar characteristics, includes similar
services, has similar types of customers and is subject to the same regulatory
environment.  We organize, evaluate and manage our financial information
around each project when making operating decisions and assessing our overall
performance.


Sterling
has a history of profitable growth, which we have achieved by expanding both our
service profile and our market areas. This involves adding services, such as
concrete operations, in order to capture a greater percentage of available work
in current and potential markets.  It also involves strategically
expanding operations, either by establishing a branch office in a new market,
often after having successfully bid on and completed a project in that market,
or by acquiring a company that gives us an immediate entry into a
market.  Sterling extended both its service profile and its geographic
market reach with the recent acquisition of RHB, a Nevada construction
company.




Sterling
operates in Texas and Nevada, two states that management believes benefit from
both positive long-term demographic trends as well as an historical commitment
to funding transportation and water infrastructure projects.  From
2000 to 2006, the population of Texas grew 12.7% and the population of Nevada
24.9%.  Budgeted net expenditures for transportation in 2007 totaled
more than $7.6 billion in Texas, an increase of 4% from 2006. In the recent
November 2007 election, Texas voters approved the issuance of $5 billion of
bonds for highway improvements.  In Nevada, total highway fund revenue
in 2006 reached $1.0 billion, an annual increase of 10.5% from 2001 levels and
up 5% from 2005.  Several large jobs are scheduled to be let over the
next year.  Management anticipates that continued population growth
and increased spending for infrastructure in these markets will positively
affect business opportunities over the coming years.




5
 Table of Contents




Road and Highway
Builders Acquisition.  On October 31, 2007, we completed the
acquisition of privately-owned RHB, which is headquartered in Reno,
Nevada.  RHB is a heavy civil construction business focused on the
construction of roads and highways throughout the state of Nevada.  We
paid $53 million to acquire approximately 91.67% of the equity interest in
RHB.  The remaining 8.33% interest is owned by Richard Buenting, the
chief executive officer of RHB who continues to run RHB as part of our senior
management team; and his ownership interest can be put to or called by us in
2011.


RHB’s
largest customer is the Nevada Department of Transportation, which is
responsible for planning, construction, operation and maintenance of the 5,400
miles of highway and over 1,000 bridges that make up the state highway
system.  RHB is focused on providing timely and profitable execution
of construction projects along with high-value deployment of construction
materials, such as aggregates and mixes for asphalt paving.  RHB has
concentrated its business in suburban and rural highway and road system projects
requiring high-volume production and materials handling.  RHB has not
historically pursued municipal work, such as water or storm water systems or
high density urban projects.  Since its founding in 1999, RHB has
experienced profitable growth, capitalizing on strong market conditions and
solid long-term demographics in Nevada.




Our Business Strategy.  Key features of our
business strategy include:




Continue to Add Construction
Capabilities.  By adding capabilities that augment our core
construction competencies, we are able to improve gross margin opportunities,
more effectively compete for contracts, and compete for contracts that might not
otherwise be available to us.




Increase our Market
Leadership in our Core Markets.  We have a strong presence in a
number of attractive growing markets in Texas and Nevada in which we intend to
continue to expand our presence.




Apply Core Competencies
Across our Markets. We intend to capitalize on opportunities to export
our Texas experience constructing bridges and water and sewer systems into
Nevada markets. Similarly, we believe our experience in aggregates and asphalt
paving materials in Nevada may open new opportunities for us in our Texas
markets.




Expand into Attractive New
Markets and Selectively Pursue Strategic Acquisitions.  We will
continue to seek to identify attractive new markets and opportunities in select
western and southeastern U.S. markets. We will also continue to assess
opportunities to extend our service capabilities and expand our markets through
acquisitions.




Position our Business for
Future Infrastructure Spending. We believe there is a growing awareness
of the need to build, reconstruct and repair our country’s infrastructure,
including water, wastewater and storm drainage systems, as well as
transportation infrastructure such as bridges, highways and mass transit
systems.  We will continue to build our expertise to capture this
infrastructure spending.




Continue to Develop our
Employees. We believe that our employees are key to the successful
implementation of our business strategy, and we will continue allocating
significant resources in order to attract and retain talented managers and
supervisory and field personnel.




OurMarkets and Customers.




We
operate in the heavy civil construction segment for infrastructure projects,
specializing in transportation and water infrastructure. Demand for this
infrastructure depends on a variety of factors, including overall population
growth, economic expansion and the vitality of a market area, as well as unique
local topographical, structural and environmental issues. For example, the City
of Houston experiences flooding and subsidence, which has led to various
municipal mandates requiring substantial new construction to reorganize and
expand the collection, treatment and distribution of water throughout the area.
In addition to these factors, demand for the replacement of infrastructure is
driven by the general aging of infrastructure and the need for technical
improvements to achieve more efficient or safer use of infrastructure and
resources.




6
 Table of Contents




Our
geographic markets have experienced steady and significant growth over the last
10 years. According to the 2006 census, ranked by population, Texas is the
second largest state in the United States with 23.5 million people. The
population in Texas has grown by 12.7% since 2000, almost double the 6.4% growth
rate for the United States as a whole over the same period. According to the
2006 census, Houston ranks as the fourth largest city in the country, San
Antonio as the seventh largest, Dallas as the ninth largest, Austin as the
sixteenth largest and Fort Worth as the nineteenth largest. Nevada has undergone
even more rapid growth, with the state’s population expanding 24.9% since 2000
to 2.5 million in 2006. These rapidly growing population bases continue to
enhance the need for expanded transportation and water
infrastructure.




In
addition to our core geographical markets, we operate in large and growing
construction sectors that have experienced solid and sustained national growth
over the past several years. According to data from the U.S. Census Bureau, the
annual value of public construction put-in-place in the United States for
transportation, highway, street and water/wastewater infrastructure has grown at
a 5.1% compound annual growth rate since 2002 and was $137 billion in 2006, the
last year for which data are available. This includes 4.4% annual growth in the
$99 billion transportation, construction and highway/street market and 7.2%
growth in the $38 billion water/wastewater market. McGraw-Hill, an industry data
source, projects that nationwide construction spending on highways and bridges,
and environmental public works (which include river/harbor improvements, sewers
and water supply systems) is expected to grow by 5% and 3%, respectively, in
2008. Based on dollars spent for construction of highways and bridges and for
sewer systems in 2007, Texas was ranked third in the nation in both categories
by McGraw-Hill.




Our
highway and bridge work is generally funded through federal and state
authorizations. The federal government enacted the SAFETEA-LU bill, which
authorized $286 billion for transportation spending through 2009, an average 30%
increase from the prior spending bill. Of this total, the Texas Department of
Transportation, or TXDOT, and the Nevada Department of Transportation, or NDOT,
were originally allocated approximately $14.5 billion and $1.3 billion,
respectively. Actual SAFETEA-LU appropriations have been somewhat reduced from
the original allocations. We are reliant upon TXDOT and NDOT contracts for a
significant portion of our revenues. Recent public statements by TXDOT officials
indicate potential TXDOT funding shortfalls and reductions in spending.
Transportation leaders have identified $188 billion in needed construction
projects to create an acceptable transportation system in Texas by 2030. NDOT
expenditures totaled $740 million in 2006, and have had an annual increase of
9.9% since 2001.




Our water
and wastewater, underground utility, light transit and non-highway paving work
is generally funded by municipalities and local authorities. The size and growth
rates of these markets is difficult to compute as a whole given the number of
municipalities, the differences in funding sources and the variations in local
budgets. However, management estimates that the municipal markets in which we
could potentially do business are in excess of $1 billion annually.




Our Markets and
Customers.  For decades, we have concentrated our operations in
Texas. We are headquartered in Houston, and we serve the top markets in Texas,
including Houston, San Antonio, Dallas/Fort Worth and Austin. In 2007, we have
expanded our operations into Nevada.




Although
we occasionally undertake contracts for private customers, the vast majority of
our contracts are for public sector customers. In Texas, these customers include
TXDOT, county and municipal public works departments, the Metropolitan Transit
Authority of Harris County, Texas (or Metro), the Harris County Toll Road
Authority, regional transit authorities, port authorities, school districts and
municipal utility districts. In Nevada, our primary public sector customer has
been NDOT.




Our
largest revenue customer is TXDOT. In 2007, contracts with TXDOT represented 66%
of our revenues, and other public sector revenue generated in Texas represented
32% of our revenues. In 2007, contracts with NDOT represented 97% of RHB’s
revenues, and other public sector revenue generated in Nevada represented 3% of
RHB’s revenues. In both Texas and Nevada, we provide services to these customers
exclusively pursuant to contracts awarded through competitive bidding
processes.




7
 Table of Contents




In Texas,
our municipal customers in 2007 included the City of Houston (9% of our 2007
revenues) and Harris County, Texas (3% of our 2007 revenues). In the past, we
have also completed the construction of certain infrastructure for new light
rail systems in Houston, Dallas and Galveston. We anticipate that revenues
obtained from the City of Houston will continue to increase due to the
metropolitan area’s steady gain in population through migration of new
residents, the annexation of surrounding communities and the continuing programs
to expand storm water and flood control systems and deliver water to suburban
communities. We provide services to our municipal customers exclusively pursuant
to contracts awarded through competitive bidding processes.




Competition.  Our
competitors are companies that we bid against for construction contracts. We
estimate that Sterling has approximately 160 competitors in the Texas and Nevada
markets that we primarily serve, and they include large national and regional
construction companies as well as many smaller
contractors.  Historically, the construction business has not
typically required large amounts of capital, which can result in relative ease
of market entry for companies possessing acceptable qualifications. Factors
influencing our competitiveness include price, our reputation for quality, our
equipment fleet, our financial strength, surety bonding capacity and
prequalification, our knowledge of local markets and conditions, and our project
management and estimating abilities. Although some of our competitors are larger
than we are and may possess greater resources or provide more
vertically-integrated services, we believe that we are well-positioned to
compete effectively and favorably in the markets in which we operate on the
basis of the foregoing factors.




We are
unable to determine the size of many competitors because they are privately
owned, but we believe that we are one of the larger participants in our Texas
markets and one of the largest contractors in Houston engaged in municipal civil
construction work. In Nevada, we believe that we are a leading asphalt paving
contractor in suburban and rural highway projects. We believe that being one of
the largest firms in the Houston municipal civil construction market provides us
with several advantages, including greater flexibility to manage our backlog in
order to schedule and deploy our workforce and equipment resources more
efficiently; more cost-effective purchasing of materials, insurance and bonds;
the ability to provide a broader range of services than otherwise would be
provided through subcontractors; and the availability of substantially more
capital and resources to dedicate to each of our contracts. Because we own and
maintain most of the equipment required for our contracts and have the
experienced workforce to handle many types of municipal civil construction, we
are able to bid competitively on many categories of contracts, especially
complex, multi-task projects.




In the
state highway markets, most of our competitors are large regional contractors,
and individual contracts tend to be larger and require more specialized skills
than those in the municipal markets. Some of these competitors have the
advantage of being more vertically-integrated, or they specialize in certain
types of projects such as construction over water. However those competitors,
particularly in Texas, often have the disadvantage of temporarily using a local
workforce to complete each of their state highway contracts. In contrast, we
permanently employ the workers who perform our state highway contracts in Texas,
although we do rely on a temporary, unionized workforce for performance of a
portion of our state highway contracts in Nevada. In 2007, state highway work
accounted for 68% of our consolidated revenues, compared with 67% in 2006 and
39% in 2005. During the same period, state highway work accounted for 97% of
RHB’s revenues, compared with 90% in 2006 and 96% in 2005.




ContractBacklog




Contract
backlog is our estimate of the billings that we expect to make in future periods
on our construction contracts.  We add the revenue value of new
contracts to our contract backlog, when we are the low bidder on a public sector
contract and have determined that there are no apparent impediments to award of
the contract.  As construction on our contracts progresses, we
increase or decrease contract backlog to take account of changes in estimated
quantities under fixed unit price contracts, as well as to reflect changed
conditions, change orders and other variations from initially anticipated
contract revenues and costs, including completion penalties and
bonuses.  We subtract from contract backlog the amounts we bill on
contracts.




8
 Table of Contents




At
December 31, 2007, our contract backlog of approximately $450 million was14%
higher than the $395 million of contract backlog at December 31,
2006.  Of the contract backlog at December 31, 2007, approximately
$279 million is scheduled for completion in 2008.  At December 31,
2007, we included approximately $16 million of contracts in backlog on which we
were the apparent low bidder and expected to be awarded the contracts, but as of
that date, those contracts had not been officially awarded. Historically,
subsequent non-awards of such low bids have not materially affected our backlog
or financial condition.




Substantially
all of the contracts in our contract backlog may be canceled at the election of
the customer; however, we have not been materially adversely affected by
contract cancellations or modifications in the past.  See the section
below entitled "Contract Management Process."




Contracts.




Types of
Contracts.  We provide our services by using traditional
general contracting arrangements, which are predominantly fixed unit price
contracts awarded based on the lowest bid. A small amount of our revenue is
produced under change orders or emergency contracts arranged on a cost plus
basis.




Fixed
unit price contracts are generally used in competitively-bid public civil
construction contracts and, to a lesser degree, building construction contracts.
Contractors under fixed unit price contracts are generally committed to provide
all of the resources required to complete a contract for a fixed price per unit.
Fixed unit price contracts generally transfer more risk to the contractor but
offer the opportunity, under favorable circumstances, for greater profits. These
contracts are generally subject to negotiated change orders, frequently due to a
differences in site conditions from those anticipated when the bid is placed.
Some contracts provide for penalties if the contract is not completed on time,
or incentives if it is completed ahead of schedule.




Contract Management
Process.  We identify potential contracts from a variety of
sources, including through subscriber services that notify us of contracts out
for bid, through advertisements by federal, state and local governmental
entities, through our business development efforts and through meetings with
other participants in the construction industry. After determining which
contracts are available, we decide which contracts to pursue based on such
factors as the relevant skills required, contract size and duration, the
availability of our personnel and equipment, the size and makeup of our current
backlog, our competitive advantages and disadvantages, prior experience, the
contracting agency or customer, the source of contract funding, geographic
location, likely competition, construction risks, gross margin opportunities,
penalties or incentives and the type of contract.




As a
condition to pursuing certain contracts, we are sometimes required to complete a
prequalification process with the applicable agency or customer. Some customers,
such as TXDOT and NDOT, require yearly prequalification, and other customers
have experience requirements specific to the contract. The prequalification
process generally limits bidders to those companies with operational experience
and financial capability to effectively complete the particular contract in
accordance with the plans, specifications and construction
schedule.




There are
several factors that can create variability in contract performance and
financial results compared to our bid assumptions on a contract. The most
significant of these include the completeness and accuracy of our original bid
analysis, recognition of costs associated with added scope changes, extended
overhead due to customer and weather delays, subcontractor performance issues,
changes in productivity expectations, site conditions that differ from those
assumed in the original bid, and changes in the availability and proximity of
materials. In addition, each of our original bids is based on the contract
customer’s estimates of the quantities needed to complete a contract. If the
quantities ultimately needed are different, our backlog and financial
performance on the contract will change. All of these factors can lead to
inefficiencies in contract performance, which can increase costs and lower
profits. Conversely, if any of these or other factors is more positive than the
assumptions in our bid, contract profitability can improve.




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The
estimating process for our contracts in Texas typically involves three phases.
Initially, we consider the level of anticipated competition and our available
resources for the prospective project. If we then decide to continue considering
a project, we undertake the second phase of the contract process and spend up to
six weeks performing a detailed review of the plans and specifications,
summarize the various types of work involved and related estimated quantities,
determine the contract duration and schedule and highlight the unique and
riskier aspects of the contract. Concurrent with this process, we estimate the
cost and availability of labor, material, equipment, subcontractors and the
project team required to complete the contract on time and in accordance with
the plans and specifications. Substantially all of our estimates are made on a
per-unit basis for each line item, with the typical contract containing 50 to
400 line items. The final phase consists of a detailed review of the estimate by
management, including, among other things, assumptions regarding cost, approach,
means and methods, productivity, risk and the estimated profit margin. This
profit amount will vary according to management’s perception of the degree of
difficulty of the contract, the current competitive climate and the size and
makeup of our backlog. Our project managers are intimately involved throughout
the estimating and construction process so that contract issues, and risks, can
be understood and addressed on a timely basis.




The
contracting process for RHB’s contracts in Nevada is primarily the
responsibility of its chief executive officer. He reviews all of the plans and
specifications for a proposed project, estimates the costs to complete the
project and the risks involved, adds an appropriate profit level, and, based on
all of that information, determines whether to submit a bid on the project.
Prior to submittal of any proposals, estimates are reviewed by Sterling
management. As part of our process for integrating RHB into our overall
operations, we anticipate that the process used to bid on contracts in Nevada
will substantially conform to the process used in Texas described
above.




To manage
risks of changes in material prices and subcontracting costs used in tendering
bids for construction contracts, we obtain firm quotations from our suppliers
and subcontractors before submitting a bid. These quotations do not include any
quantity guarantees, and we have no obligation for materials or subcontract
services beyond those required to complete the respective contracts that we are
awarded for which quotations have been provided.




Substantially
all of our contracts are entered into with governmental entities and are
generally awarded to the lowest bidder after a solicitation of bids by the
project owner. Requests for proposals or negotiated contracts with public or
private customers are generally awarded based on a combination of technical
capability and price, taking into consideration factors such as contract
schedule and prior experience.




During
the construction phase of a contract, we monitor our progress by comparing
actual costs incurred and quantities completed to date with budgeted amounts and
the contract schedule and periodically (at a minimum on a monthly basis) prepare
an updated estimate of total forecasted revenue, cost and expected profit for
the contract.




During
the normal course of most contracts, the customer, and sometimes the contractor,
initiates modifications or changes to the original contract to reflect, among
other things, changes in quantities, specifications or design, method or manner
of performance, facilities, materials, site conditions and the period for
completion of the work. In many cases, final contract quantities may differ from
those specified by the customer. Generally, the scope and price of these
modifications are documented in a “change order” to the original contract and
reviewed, approved and paid in accordance with the normal change order
provisions of the contract. We are often required to perform extra or change
order work as directed by the customer even if the customer has not agreed in
advance on the scope or price of the work to be performed. This process may
result in disputes over whether the work performed is beyond the scope of the
work included in the original contract plans and specifications or, even if the
customer agrees that the work performed qualifies as extra work, the price that
the customer is willing to pay for the extra work. These disputes may not be
settled to our satisfaction. Even when the customer agrees to pay for the extra
work, we may be required to fund the cost of the work for a lengthy period of
time until the change order is approved and funded by the customer. In addition,
any delay caused by the extra work may adversely impact the timely scheduling of
other work on the contract (or on other contracts) and our ability to meet
contract milestone dates.




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The
process for resolving contract claims varies from one contract to another but,
in general, we attempt to resolve claims at the project supervisory level
through the normal change order process or, if necessary, with higher levels of
management within our organization and the customer’s organization. Regardless
of the process, when a potential claim arises on a contract, we typically have
the contractual obligation to perform the work and must incur the related costs.
We do not recoup the costs unless and until the claim is resolved, which could
take a significant amount of time.




Most of
our construction contracts provide for termination of the contract for the
convenience of the customer, with provisions to pay us only for work performed
through the date of termination. Our backlog and results of operations have not
been materially adversely affected by these provisions in the past.




We act as
the prime contractor on almost all of the construction contracts that we
undertake. We complete the majority of our contracts with our own resources, and
we typically subcontract specialized activities such as traffic control,
electrical systems, signage and trucking. As the prime contractor, we are
responsible for the performance of the entire contract, including subcontract
work. Thus, we are subject to increased costs associated with the failure of one
or more subcontractors to perform as anticipated. We manage this risk by
reviewing the size of the subcontract, the financial stability of the
subcontractor and other factors. Although we generally do not require that our
subcontractors furnish a bond or other type of security to guarantee their
performance, we require performance and payment bonds on many specialized or
large subcontract portions of our contracts. Disadvantaged business enterprise
regulations require us to use our best efforts to subcontract a specified
portion of contract work performed for governmental entities to certain types of
subcontractors, including minority- and women-owned businesses. We have not
experienced significant costs associated with subcontractor performance
issues.




Insurance and
Bonding.  All of our buildings and equipment are covered by
insurance, which our management believes to be adequate. In addition, we
maintain general liability and excess liability insurance, all in amounts
consistent with our risk of loss and industry practice. We self-insure our
workers’ compensation and health plan claims subject to stop-loss insurance
coverage.




As a
normal part of the construction business, we are generally required to provide
various types of surety and payment bonds that provide an additional measure of
security for our performance under public sector contracts. Typically, a bidder
for a contract must post a bid bond, generally for 5% to 10% of the amount bid,
and on winning the bid, must post a performance and payment bond for 100% of the
contract amount. Upon completion of a contract, before receiving final payment
on the contract, a contractor must post a maintenance bond for generally 1% of
the contract amount for one to two years. Our ability to obtain surety bonds
depends upon our capitalization, working capital, aggregate contract size, past
performance, management expertise and external factors, including the capacity
of the overall surety market. Surety companies consider such factors in light of
the amount of our backlog that we have currently bonded and their current
underwriting standards, which may change from time to time. As is customary, we
have agreed to indemnify our bonding company for all losses incurred by it in
connection with bonds that are issued, and we have granted our bonding company a
security interest in certain assets as collateral for such
obligation.




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Employees.At
February 15, 2008, we had more than 1,200 employees, including 15 project
managers and over 50 superintendents who manage over 125 fully-equipped crews in
our construction business. Of such employees, approximately 50 were located in
our Houston headquarters, with most of the others being field personnel. Of our
Nevada employees, 72 are union members represented by three unions.




Our
business is dependent upon a readily available supply of management, supervisory
and field personnel. Substantially all of our employees who work on our
contracts in Texas are a permanent part of our workforce, and we generally do
not rely on temporary employees to complete these contracts. In contrast, many
of our employees who work on our contracts in Nevada are temporary employees. In
the past, we have been able to attract sufficient numbers of personnel to
support the growth of our operations.




We
conduct extensive safety training programs, which have allowed us to maintain a
high safety level at our worksites. All newly-hired employees undergo an initial
safety orientation, and for certain types of projects, we conduct specific
hazard training programs. Our project foremen and superintendents conduct weekly
on-site safety meetings, and our full-time safety inspectors make random site
safety inspections and perform assessments and training if infractions are
discovered. In addition, all of our superintendents and project managers are
required to complete an OSHA-approved safety course.






Item
      1A.
            Risk Factors




The risks
described below are those we believe to be the material risks we
face.  Any of the risk factors described below could significantly and
adversely affect our business, prospects, financial condition and results of
operations.




Risks Relating to
Our Business.




If we are unable to
accurately estimate the overall risks or costs when we bid on a contract that is
ultimately awarded to us, we may achieve a lower than anticipated profit or
incur a loss on the contract.




Substantially
all of our revenues and backlog are typically derived from fixed unit price
contracts. Fixed unit price contracts require us to perform the contract for a
fixed unit price irrespective of our actual costs. As a result, we realize a
profit on these contracts only if we successfully estimate our costs and then
successfully control actual costs and avoid cost overruns. If our cost estimates
for a contract are inaccurate, or if we do not execute the contract within our
cost estimates, then cost overruns may cause us to incur losses or cause the
contract not to be as profitable as we expected. This, in turn, could negatively
affect our cash flow, earnings and financial position.




The costs
incurred and gross profit realized on such contracts can vary, sometimes
substantially, from the original projections due to a variety of factors,
including, but not limited to:




•
            onsite
      conditions that differ from those assumed in the original
    bid;




•
            delays
      caused by weather conditions;




•
            contract
      modifications creating unanticipated costs not covered by change
      orders;




•
            changes
      in availability, proximity and costs of materials, including steel,
      concrete, aggregates and other construction materials (such as stone,
      gravel, sand and oil for asphalt paving), as well as fuel and lubricants
      for our equipment;




•
            inability
      to predict the costs of accessing and producing aggregates, and purchasing
      oil, required for asphalt paving
projects;  12
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•
            availability
      and skill level of workers in the geographic location of a
      project;




•
            our
      suppliers’ or subcontractors’ failure to
  perform;




•
            fraud
      or theft committed by our
employees;




•
            mechanical
      problems with our machinery or
equipment;




•
            citations
      issued by any governmental authority, including the Occupational Safety
      and Health Administration;




•
            difficulties
      in obtaining required governmental permits or
  approvals;




•
            changes
      in applicable laws and regulations;
and




•
            claims
      or demands from third parties alleging damages arising from our work or
      from the project of which our work is
part.




Many of
our contracts with public sector customers contain provisions that purport to
shift some or all of the above risks from the customer to us, even in cases
where the customer is partly at fault. Our experience has often been that public
sector customers have been willing to negotiate equitable adjustments in the
contract compensation or completion time provisions if unexpected circumstances
arise. If public sector customers seek to impose contractual risk-shifting
provisions more aggressively, we could face increased risks, which may adversely
affect our cash flow, earnings and financial position.




Economic downturns or
reductions in government funding of infrastructure projects could reduce our
revenues and profits and have a material adverse effect on our results of
operations.




Our
business is highly dependent on the amount and timing of infrastructure work
funded by various governmental entities, which, in turn, depends on the overall
condition of the economy, the need for new or replacement infrastructure, the
priorities placed on various projects funded by governmental entities and
federal, state or local government spending levels. Spending on infrastructure
could decline for numerous reasons, including decreased revenues received by
state and local governments for spending on such projects, including federal
funding. For example, state spending on highway and other projects can be
adversely affected by decreases or delays in, or uncertainties regarding,
federal highway funding, which could adversely affect us. We are reliant upon
contracts with the Texas Department of Transportation, or TXDOT, and the Nevada
Department of Transportation, or NDOT, for a significant portion of our
revenues. Recent public statements by TXDOT officials indicate potential TXDOT
funding shortfalls and reductions in spending. In addition, the recent
nationwide declines in home sales and increases in foreclosures could adversely
affect expenditures by state and local governments. Decreases in government
funding of infrastructure projects could decrease the number of civil
construction contracts available and limit our ability to obtain new contracts,
which could reduce our revenues and profits.




The cancellation of
significant contracts could reduce our revenues and profits and have a material
adverse effect on our results of operations.




Contracts
that we enter into with governmental entities can usually be canceled at any
time by them with payment only for the work already completed. In addition, we
could be prohibited from bidding on certain governmental contracts if we fail to
maintain qualifications required by those entities. A sudden cancellation of a
contract or our debarment from the bidding process could cause our equipment and
work crews to remain idled for a significant period of time until other
comparable work became available, which could have a material adverse effect on
our business and results of operations.




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We operate in Texas and
Nevada, and any adverse change to the economy or business environment in Texas
or Nevada could significantly affect our operations, which would lead to lower
revenues and reduced profitability.




We
operate in Texas and Nevada, and our Texas operations are particularly
concentrated in the Houston area. Because of this concentration in specific
geographic locations, we are susceptible to fluctuations in our business caused
by adverse economic or other conditions in these regions, including natural or
other disasters. A stagnant or depressed economy in Texas or Nevada could
adversely affect our business, results of operations and financial
condition.




Our acquisition strategy
involves a number of risks.




In
addition to organic growth of our construction business, we intend to continue
pursuing growth through the acquisition of companies or assets that may enable
us to expand our project skill-sets and capabilities, enlarge our geographic
markets, add experienced management and increase critical mass to enable us to
bid on larger contracts. However, we may be unable to implement this growth
strategy if we cannot reach agreements for potential acquisitions on acceptable
terms or for other reasons. Moreover, our acquisition strategy involves certain
risks, including:




•
            difficulties
      in the integration of operations and
systems;




•
            difficulties
      applying our expertise in one market into another
  market;




•
            the
      key personnel and customers of the acquired company may terminate their
      relationships with the acquired
company;




•
            we
      may experience additional financial and accounting challenges and
      complexities in areas such as tax planning and financial
      reporting;




•
            we
      may assume or be held liable for risks and liabilities (including for
      environmental-related costs and liabilities) as a result of our
      acquisitions, some of which we may not discover during our due
      diligence;




•
            our
      ongoing business may be disrupted or receive insufficient management
      attention; and




•
            we
      may not be able to realize cost savings or other financial benefits we
      anticipated.




Future
acquisitions may require us to obtain additional equity or debt financing, as
well as additional surety bonding capacity, which may not be available on terms
acceptable to us or at all. Moreover, to the extent that any acquisition results
in additional goodwill, it will reduce our tangible net worth, which might have
an adverse effect on our credit and bonding capacity.




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Our industry is highly
competitive, with a variety of larger companies with greater resources competing
with us, and our failure to compete effectively could reduce the number of new
contracts awarded to us or adversely affect our margins on contracts
awarded.




Essentially
all of the contracts on which we bid are awarded through a competitive bid
process, with awards generally being made to the lowest bidder, but sometimes
recognizing other factors, such as shorter contract schedules or prior
experience with the customer. Within our markets, we compete with many national,
regional and local construction firms. Some of these competitors have achieved
greater market penetration than we have in the markets in which we compete, and
some have greater financial and other resources than we do. In addition, there
are a number of national companies in our industry that are larger than we are
and that, if they so desire, could establish a presence in our markets and
compete with us for contracts. In some markets where home building projects have
slowed, construction companies that lack available work in the home building
market have begun on a limited scale bidding on highway and municipal
construction contracts. As a result, we may need to accept lower contract
margins in order to compete against competitors that have the ability to accept
awards at lower prices or have a pre-existing relationship with a customer. If
we are unable to compete successfully in our markets, our relative market share
and profits could be reduced.


Our dependence on
subcontractors and suppliers of materials (including petroleum-based products)
could increase our costs and impair our ability to complete contracts on a
timely basis or at all, which would adversely affect our profits and cash
flow.




We rely
on third-party subcontractors to perform some of the work on many of our
contracts. We generally do not bid on contracts unless we have the necessary
subcontractors committed for the anticipated scope of the contract and at prices
that we have included in our bid, except for trucking arrangements needed for
our Nevada operations. Therefore, to the extent that we cannot engage
subcontractors, our ability to bid for contracts may be impaired. In addition,
if a subcontractor is unable to deliver its services according to the negotiated
terms for any reason, including the deterioration of its financial condition, we
may suffer delays and be required to purchase the services from another source
at a higher price. This may reduce the profit to be realized, or result in a
loss, on a contract.




We also
rely on third-party suppliers to provide most of the materials (including
aggregates, concrete, steel and pipe) for our contracts, except in Nevada where
we source and produce most of our own aggregates. We do not own or operate any
quarries in Texas, and there are no naturally occurring sources of aggregates in
the Houston metropolitan area. We normally do not bid on contracts unless we
have commitments from suppliers for the materials required to complete the
contract and at prices that we have included in our bid, except for some
aggregates we use in our Nevada construction projects. Thus, to the extent that
we cannot obtain commitments from our suppliers for materials, our ability to
bid for contracts may be impaired. In addition, if a supplier is unable to
deliver materials according to the negotiated terms of a supply agreement for
any reason, including the deterioration of its financial condition, we may
suffer delays and be required to purchase the materials from another source at a
higher price. This may reduce the profit to be realized, or result in a loss, on
a contract.




Diesel
fuel and other petroleum-based products are utilized to operate the plants and
equipment on which we rely to perform our construction contracts. In addition,
our asphalt plants and suppliers use oil in combination with aggregates to
produce asphalt used in our road and highway construction projects. Decreased
supplies of such products relative to demand, unavailability of petroleum
supplies due to refinery turnarounds, and other factors can increase the cost of
such products. Future increases in the costs of fuel and other petroleum-based
products used in our business, particularly if a bid has been submitted for a
contract and the costs of such products have been estimated at amounts less than
the actual costs thereof, could result in a lower profit, or a loss, on a
contract.




We may not accurately assess
the quality, and we may not accurately estimate the quantity, availability and
cost, of aggregates we plan to produce, particularly for projects in rural areas
of Nevada, which could have a material adverse effect on our results of
operations.




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Particularly
for projects in rural areas of Nevada, we typically estimate these factors for
anticipated aggregate sources that we have not previously used to produce
aggregates, which increases the risk that our estimates may be inaccurate.
Inaccuracies in our estimates regarding aggregates could result in significantly
higher costs to supply aggregates needed for our projects, as well as potential
delays and other inefficiencies. As a result, our failure to accurately assess
the quality, quantity, availability and cost of aggregates could cause us to
incur losses, which could materially adversely affect our results of
operations.




We may not be able to fully
realize the revenue anticipated by our reported backlog.




Almost
all of the contracts included in backlog are awarded by public sector customers
through a competitive bid process, with the award generally being made to the
lowest bidder. We add new contracts to our backlog, typically when we are the
low bidder on a public sector contract and management determines that there are
no apparent impediments to award of the contract. As construction on our
contracts progresses, we increase or decrease backlog to take account of changes
in estimated quantities under fixed unit price contracts, as well as to reflect
changed conditions, change orders and other variations from initially
anticipated contract revenues and costs, including completion penalties and
bonuses. We subtract from backlog the amounts we bill on contracts.




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Most of
the contracts with our public sector customers can be terminated at their
discretion. If a customer cancels, suspends, delays or reduces a contract, we
may be reimbursed for certain costs but typically will not be able to bill the
total amount that had been reflected in our backlog. Cancellation of one or more
contracts that constitute a large percentage of our backlog, and our inability
to find a substitute contract, would have a material adverse effect on our
business, results of operations and financial condition.




If we are unable to attract
and retain key personnel and skilled labor, or if we encounter labor
difficulties, our ability to bid for and successfully complete contracts may be
negatively impacted.




Our
ability to attract and retain reliable, qualified personnel is a significant
factor that enables us to successfully bid for and profitably complete our work.
This includes members of our management, project managers, estimators,
supervisors, foremen, equipment operators and laborers. The loss of the services
of any of our management could have a material adverse effect on us. Our future
success will also depend on our ability to hire and retain, or to attract when
needed, highly-skilled personnel. Competition for these employees is intense,
and we could experience difficulty hiring and retaining the personnel necessary
to support our business. If we do not succeed in retaining our current employees
and attracting, developing and retaining new highly-skilled employees, our
reputation may be harmed and our future earnings may be negatively
impacted.




In Texas,
we rely heavily on immigrant labor. Any adverse changes to existing laws and
regulations, or changes in enforcement requirements or practices, applicable to
employment of immigrants could negatively impact the availability and cost of
the skilled personnel and labor we need, particularly in Texas. We may not be
able to continue to attract and retain sufficient employees at all levels due to
changes in immigration enforcement practices or compliance standards or for
other reasons.




In
Nevada, a substantial number of our equipment operators and laborers are
unionized. Any work stoppage or other labor dispute involving our unionized
workforce would have a material adverse effect on our operations and operating
results in Nevada.




Our contracts may require us
to perform extra or change order work, which can result in disputes and
adversely affect our working capital, profits and cash
flows.




Our
contracts generally require us to perform extra or change order work as directed
by the customer even if the customer has not agreed in advance on the scope or
price of the extra work to be performed. This process may result in disputes
over whether the work performed is beyond the scope of the work included in the
original project plans and specifications or, if the customer agrees that the
work performed qualifies as extra work, the price that the customer is willing
to pay for the extra work. These disputes may not be settled to our
satisfaction. Even when the customer agrees to pay for the extra work, we may be
required to fund the cost of such work for a lengthy period of time until the
change order is approved by the customer and we are paid by the
customer.




To the
extent that actual recoveries with respect to change orders or amounts subject
to contract disputes or claims are less than the estimates used in our financial
statements, the amount of any shortfall will reduce our future revenues and
profits, and this could have a material adverse effect on our reported working
capital and results of operations. In addition, any delay caused by the extra
work may adversely impact the timely scheduling of other project work and our
ability to meet specified contract milestone dates.




Our failure to meet schedule
or performance requirements of our contracts could adversely affect
us.




In most
cases, our contracts require completion by a scheduled acceptance date. Failure
to meet any such schedule could result in additional costs, penalties or
liquidated damages being assessed against us, and these could exceed projected
profit margins on the contract. Performance problems on existing and future
contracts could cause actual results of operations to differ materially from
those anticipated by us and could cause us to suffer damage to our reputation
within the industry and among our customers.




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Unanticipated adverse
weather conditions may cause delays, which could slow completion of our
contracts and negatively affect our current and future revenues and cash
flow.




Because
all of our construction projects are built outdoors, work on our contracts is
subject to unpredictable weather conditions, which could become more frequent or
severe if general climatic changes occur. For example, evacuations in Texas due
to Hurricane Rita resulted in our inability to perform work on all Houston-area
contracts for several days. Lengthy periods of wet weather will generally
interrupt construction, and this can lead to under-utilization of crews and
equipment, resulting in less efficient rates of overhead recovery. For example,
during the first nine months of 2007, we experienced an above-average number of
days and amount of rainfall across our Texas markets, which impeded our ability
to work on construction projects and reduced our gross profit. During the late
fall to early spring months of the year, our work on construction projects in
Nevada may also be curtailed because of snow and other work-limiting
weather.  While revenues can be recovered following a period of bad
weather, it is generally impossible to recover the inefficiencies, and
significant periods of bad weather typically reduce profitability of affected
contracts both in the current period and during the future life of affected
contracts. Such reductions in contract profitability negatively affect our
results of operations in current and future periods until the affected contracts
are completed.




Timing of the award and
performance of new contracts could have an adverse effect on our operating
results and cash flow.




It is
generally very difficult to predict whether and when new contracts will be
offered for tender, as these contracts frequently involve a lengthy and complex
design and bidding process, which is affected by a number of factors, such as
market conditions, financing arrangements and governmental approvals. Because of
these factors, our results of operations and cash flows may fluctuate from
quarter to quarter and year to year, and the fluctuation may be
substantial.




The
uncertainty of the timing of contract awards may also present difficulties in
matching the size of our equipment fleet and work crews with contract needs. In
some cases, we may maintain and bear the cost of more equipment and ready work
crews than are currently required, in anticipation of future needs for existing
contracts or expected future contracts. If a contract is delayed or an expected
contract award is not received, we would incur costs that could have a material
adverse effect on our anticipated profit.




In
addition, the timing of the revenues, earnings and cash flows from our contracts
can be delayed by a number of factors, including adverse weather conditions such
as prolonged or intense periods of rain, snow, storms or flooding, delays in
receiving material and equipment from suppliers and changes in the scope of work
to be performed. Such delays, if they occur, could have adverse effects on our
operating results for current and future periods until the affected contracts
are completed.




Our dependence on a limited
number of customers could adversely affect our business and results of
operations.




Due to
the size and nature of our construction contracts, one or a few customers have
in the past and may in the future represent a substantial portion of our
consolidated revenues and gross profits in any one year or over a period of
several consecutive years. For example, in 2007, approximately 78% of our
revenue was generated from three customers, and approximately 97% of RHB’s
revenue was generated from one customer. Similarly, our backlog frequently
reflects multiple contracts for individual customers; therefore, one customer
may comprise a significant percentage of backlog at a certain point in time. An
example of this is TXDOT, with which we had 23 contracts representing an
aggregate of approximately 47% of our backlog at December 31, 2007. The loss of
business from any one of such customers could have a material adverse effect on
our business or results of operations. Recent public statements by TXDOT
officials indicate potential TXDOT funding shortfalls and reductions in
spending. Because we do not maintain any reserves for payment defaults, a
default or delay in payment on a significant scale could materially adversely
affect our business, results of operations and financial condition.


18
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We may incur higher costs to
lease, acquire and maintain equipment necessary for our operations, and the
market value of our owned equipment may decline.




We have
traditionally owned most of the construction equipment used to build our
projects. To the extent that we are unable to buy construction equipment
necessary for our needs, either due to a lack of available funding or equipment
shortages in the marketplace, we may be forced to rent equipment on a short-term
basis, which could increase the costs of performing our contracts.




The
equipment that we own or lease requires continuous maintenance, for which we
maintain our own repair facilities. If we are unable to continue to maintain the
equipment in our fleet, we may be forced to obtain third-party repair services,
which could increase our costs. In addition, the market value of our equipment
may unexpectedly decline at a faster rate than anticipated. Such a decline would
reduce the borrowing base under our credit facility, thereby reducing the amount
of credit available to us and impeding our ability to continue to expand our
business.




An inability to obtain
bonding could limit the aggregate dollar amount of contracts that we are able to
pursue.




As is
customary in the construction business, we are required to provide surety bonds
to secure our performance under construction contracts. Our ability to obtain
surety bonds primarily depends upon our capitalization, working capital, past
performance, management expertise and reputation and certain external factors,
including the overall capacity of the surety market. Surety companies consider
such factors in relationship to the amount of our backlog and their underwriting
standards, which may change from time to time. Events that affect the insurance
and bonding markets generally may result in bonding becoming more difficult to
obtain in the future, or being available only at a significantly greater cost.
Our inability to obtain adequate bonding, and, as a result, to bid on new
contracts, could have a material adverse effect on our future revenues and
business prospects.




Our operations are subject
to hazards that may cause personal injury or property damage, thereby subjecting
us to liabilities and possible losses, which may not be covered by
insurance.




Our
workers are subject to the usual hazards associated with providing construction
and related services on construction sites, plants and quarries. Operating
hazards can cause personal injury and loss of life, damage to or destruction of
property, plant and equipment and environmental damage. We self-insure our
workers’ compensation claims, subject to stop-loss insurance coverage. We also
maintain insurance coverage in amounts and against the risks that we believe are
consistent with industry practice, but this insurance may not be adequate to
cover all losses or liabilities that we may incur in our
operations.




Insurance
liabilities are difficult to assess and quantify due to unknown factors,
including the severity of an injury, the determination of our liability in
proportion to other parties, the number of incidents not reported and the
effectiveness of our safety program. If we were to experience insurance claims
or costs above our estimates, we might also be required to use working capital
to satisfy these claims rather than to maintain or expand our operations. To the
extent that we experience a material increase in the frequency or severity of
accidents or workers’ compensation claims, or unfavorable developments on
existing claims, our operating results and financial condition could be
materially and adversely affected.




19
 Table of Contents





Environmental and other
regulatory matters could adversely affect our ability to conduct our business
and could require expenditures that could have a material adverse effect on our
results of operations and financial condition.




Our
operations are subject to various environmental laws and regulations relating to
the management, disposal and remediation of hazardous substances and the
emission and discharge of pollutants into the air and water. We could be held
liable for such contamination created not only from our own activities but also
from the historical activities of others on our project sites or on properties
that we acquire or lease. Our operations are also subject to laws and
regulations relating to workplace safety and worker health, which, among other
things, regulate employee exposure to hazardous substances. Immigration laws
require us to take certain steps intended to confirm the legal status of our
immigrant labor force, but we may nonetheless unknowingly employ illegal
immigrants. Violations of such laws and regulations could subject us to
substantial fines and penalties, cleanup costs, third-party property damage or
personal injury claims. In addition, these laws and regulations have become, and
enforcement practices and compliance standards are becoming, increasingly
stringent. Moreover, we cannot predict the nature, scope or effect of
legislation or regulatory requirements that could be imposed, or how existing or
future laws or regulations will be administered or interpreted, with respect to
products or activities to which they have not been previously applied.
Compliance with more stringent laws or regulations, as well as more vigorous
enforcement policies of the regulatory agencies, could require us to make
substantial expenditures for, among other things, pollution control systems and
other equipment that we do not currently possess, or the acquisition or
modification of permits applicable to our activities.




Our
aggregate quarry lease in Nevada could subject us to costs and liabilities. A
limited environmental assessment report was inconclusive about potential
environmental contamination at the Nevada quarry resulting from various mining
activities and landfill operations that may have occurred on or near the
property. Due to the limited nature of the report, we are unable to assess the
extent of our liability, if any, at the quarry. As lessee and operator of the
quarry, we could be held responsible for any contamination or regulatory
violations resulting from activities or operations at the quarry. Any such costs
and liabilities could be significant and could materially and adversely affect
our business, operating results and financial condition.




We may be unable to sustain
our historical revenue growth rate.




Our
revenue has grown rapidly in recent years. However, we may be unable to sustain
these recent revenue growth rates for a variety of reasons, including limits on
additional growth in our current markets, less success in competitive bidding
for contracts, limitations on access to necessary working capital and investment
capital to sustain growth, limitations on access to bonding to support increased
contracts and operations, inability to hire and retain essential personnel and
to acquire equipment to support growth, and inability to identify acquisition
candidates and successfully acquire and integrate them into our business. A
decline in our revenue growth could have a material adverse effect on our
financial condition and results of operations if we are unable to reduce the
growth of our operating expenses at the same rate.




20
 Table of Contents




Terrorist attacks have
impacted, and could continue to negatively impact, the U.S. economy and the
markets in which we operate.




Terrorist
attacks, like those that occurred on September 11, 2001, have contributed to
economic instability in the United States, and further acts of terrorism,
violence or war could affect the markets in which we operate, our business and
our expectations. Armed hostilities may increase, or terrorist attacks, or
responses from the United States, may lead to further acts of terrorism and
civil disturbances in the United States or elsewhere, which may further
contribute to economic instability in the United States. These attacks or armed
conflicts may affect our operations or those of our customers or suppliers and
could impact our revenues, our production capability and our ability to complete
contracts in a timely manner.




Risks
Related to Our Financial Results and Financing Plans




Actual results could differ
from the estimates and assumptions that we use to prepare our financial
statements.




To
prepare financial statements in conformity with GAAP, management is required to
make estimates and assumptions, as of the date of the financial statements,
which affect the reported values of assets and liabilities, revenues and
expenses, and disclosures of contingent assets and liabilities. Areas requiring
significant estimates by our management include: contract costs and profits and
application of percentage-of-completion accounting and revenue recognition of
contract change order claims; provisions for uncollectible receivables and
customer claims and recoveries of costs from subcontractors, suppliers and
others; valuation of assets acquired and liabilities assumed in connection with
business combinations; and accruals for estimated liabilities, including
litigation and insurance reserves. Our actual results could differ from, and
could require adjustments to, those estimates.




In
particular, as is more fully discussed in Item 7 - “Management’s Discussion and
Analysis of Financial Condition and Results of Operations—Critical Accounting
Policies,” we recognize contract revenue using the percentage-of-completion
method. Under this method, estimated contract revenue is recognized by applying
the percentage of completion of the contract for the period to the total
estimated revenue for the contract. Estimated contract losses are recognized in
full when determined. Contract revenue and total cost estimates are reviewed and
revised on a continuous basis as the work progresses and as change orders are
initiated or approved, and adjustments based upon the percentage of completion
are reflected in contract revenue in the accounting period when these estimates
are revised. To the extent that these adjustments result in an increase, a
reduction or an elimination of previously reported contract profit, we recognize
a credit or a charge against current earnings, which could be
material.




We may need to raise
additional capital in the future for working capital, capital expenditures
and/or acquisitions, and we may not be able to do so on favorable terms or at
all, which would impair our ability to operate our business or achieve our
growth objectives.




Our
growth has been funded in part by our utilization of net operating loss
carry-forwards, or NOLs, to reduce the amounts that we have paid for income
taxes, and we expect our NOLs to be fully utilized in 2008. Paying taxes will
reduce cash flows from operations compared to prior periods, as we will be
required to fund the payment of taxes in 2008 and future periods. To the extent
that cash flow from operations is insufficient to fund future investments, make
acquisitions or provide needed additional working capital, we may require
additional financing from other sources of funds.




Our
ability to obtain such additional financing in the future will depend in part
upon prevailing capital market conditions, as well as conditions in our business
and our operating results; such factors may adversely affect our efforts to
arrange additional financing on terms satisfactory to us. We have pledged the
proceeds and other rights under our construction contracts to our bond surety,
and we have pledged substantially all of our other assets as collateral in
connection with our credit facility and mortgage debt. As a result, we may have
difficulty in obtaining additional financing in the future if such financing
requires us to pledge assets as collateral. In addition, under our credit
facility, we must obtain the consent of our lenders to incur any amount of
additional debt from other sources (subject to certain exceptions). If future
financing is obtained by the issuance of additional shares of common stock, our
stockholders may suffer dilution. If adequate funds are not available, or are
not available on acceptable terms, we may not be able to make future
investments, take advantage of acquisitions or other opportunities, or respond
to competitive challenges.




21
 Table of Contents




We are subject to financial
and other covenants under our credit facility that could limit our flexibility
in managing our business.




We have a
revolving credit facility that restricts us from engaging in certain activities,
including restrictions on the ability (subject to certain exceptions)
to:




•
            make
      distributions and dividends;




•
            incur
      liens or encumbrances;




•
            incur
      indebtedness;




•
            guarantee
      obligations;




•
            dispose
      of a material portion of assets or otherwise engage in a merger with a
      third party;




•
            make
      acquisitions; and




•
            incur
      losses for two consecutive
quarters.




Our
credit facility contains financial covenants that require us to maintain
specified fixed charge coverage ratios, asset ratios and leverage ratios, and to
maintain specified levels of tangible net worth. Our ability to borrow funds for
any purpose will depend on our satisfying these tests. If we are unable to meet
the terms of the financial covenants or fail to comply with any of the other
restrictions contained in our credit facility, an event of default could occur.
An event of default, if not waived by our lenders, could result in the
acceleration of any outstanding indebtedness, causing such debt to become
immediately due and payable. If such an acceleration occurs, we may not be able
to repay such indebtedness on a timely basis. Acceleration of our credit
facility could result in foreclosure on and loss of our operating assets. In the
event of such foreclosure, we would be unable to conduct our business and forced
to discontinue operations.




Item
      1B.
            Unresolved Staff
Comments




None




Item
      2.
            Properties




We own
our 15,000 square-foot headquarters office building in Houston, Texas, which is
located on a seven-acre parcel of land on which our Texas equipment repair
center is also located. We also own land in Dallas and San Antonio on which we
plan to construct regional offices and repair facilities. Pending completion of
these regional offices, we lease office facilities in these locations. In order
to complete most contracts in Texas, we lease small parcels of real estate near
the site of a contract job site to store materials, locate equipment, conduct
concrete crushing and pugging operations, and provide offices for the
contracting customer, its representatives and our employees.




For our
Nevada operations, we lease office space in Reno, Nevada, and we have an office
and repair facilities located on a forty-five acre parcel of land in Lovelock,
Nevada. We also lease a quarry in Carson City, Nevada. Unlike in Texas where we
acquire aggregates from third-party suppliers, in Nevada, we source and produce
our own aggregates, whether from the Carson City quarry or from other sources
near job sites where we enter into short-term leases to acquire the aggregates
necessary for the job. In order to complete most contracts in Nevada, we also
lease small parcels of real estate near the site of a contract job site to store
materials, locate equipment, and provide offices for the contracting customer,
its representatives and our employees.


22
 Table of Contents




Item
      3.
            Legal Proceedings




We are
and may in the future be involved as a party to various legal proceedings that
are incidental to the ordinary course of business. We regularly analyze current
information and, as necessary, provide accruals for probable liabilities on the
eventual disposition of these matters.




In the
opinion of management, after consultation with legal counsel, there are
currently no threatened or pending legal matters that would reasonably be
expected to have a material adverse impact on our consolidated results of
operations, financial position or cash flows.




Item
      4.
            Submission of Matters to a Vote of Security
      Holders




None




PART II




Item
      5.
            Marketfor the Registrant’s Common Equity, Related Stockholder
      Matters and Issuer Purchases of Equity
  Securities.





The
Company's common stock began trading on the Nasdaq National Market on January
20, 2006 under the symbol "STRL" and in June 2006, it was included in the NASDAQ
Global Select Market ("NGS").  For approximately two years prior to
its Nasdaq listing, the common stock was traded on the American Stock Exchange,
or Amex, under the symbol "STV".




The table
below shows the market high and low closing sales prices of the common stock for
2006 and 2007 by quarter and for the period from January 1, through February 29,
2008, on Amex or Nasdaq, as the case may be.




High
            
            
            LowYear Ended December 31,
      2006First
      Quarter
            
            $
            23.76
            
            
            $
            15.39Second
      Quarter
            
            $
            32.19
            
            
            $
            22.00Third
      Quarter
            
            $
            30.13
            
            
            $
            16.67Fourth
      Quarter
            
            $
            25.31
            
            
            $
            19.54Year
      Ended December 31, 2007First
      Quarter
            
            $
            22.74
            
            
            $
            17.42Second
      Quarter
            
            $
            23.86
            
            
            $
            18.90Third
      Quarter
            
            $
            23.97
            
            
            $
            18.64Fourth
      Quarter
            
            $
            26.60
            
            
            $
            20.45January
      1 through February 29, 2008
            
            $
            21.84
            
            
            $
            19.65




On
February 29, 2008, there were approximately 1,250 holders of record of our
common stock.




Dividend Policy.  We have never paid any cash
dividends on our common stock.  For the foreseeable future, we intend
to retain any earnings in our business, and we do not anticipate paying any cash
dividends.  Whether or not we declare any dividends will be at the
discretion of the Board of Directors considering then-existing conditions,
including the Company's financial condition and results of operations, capital
requirements, bonding prospects, contractual restrictions (including those under
the Company's Credit Facility) business prospects and other factors that our
Board of Directors considers relevant.




23
 Table of Contents





Equity Compensation Plan InformationCertain
information about the Company's equity compensation plans is set forth in Item 12. — Security Ownership of
Certain Beneficial Owners and Management and Related Stockholder
Matters.




Performance GraphThe following graph compares
the percentage change in the Company's cumulative total stockholder return on
its common stock for the last five years with the Dow Jones US Total Market
Index, a broad market index, and the Dow Jones US Heavy Construction
Index, a group of companies whose marketing strategy is focused on a
limited product line, such as civil construction.  Both indices are
published in The Wall Street
Journal.




The
returns are calculated assuming that an investment with a value of $100 was made
in the Company's common stock and in each index at the end of 2002 and that all
dividends were reinvested in additional shares of common stock; however, the
Company has paid no dividends during the periods shown.  The graph
lines merely connect the measuring dates and do not reflect fluctuations between
those dates.  The stock performance shown on the graph is not intended
to be indicative of future stock performance.






COMPARISON
OF 5 YEAR CUMLATIVE TOTAL*
 Among
Sterling Construction Company, Inc. The Dow Jones US Index
 And the
Dow Jones US Heavy Construction Index


*$100
invested on 12/31/02 in stock or index-including reinvestment of
dividends.
 Fiscal
year ending December 31.






December
      2002
            
            
            December
      2003
            
            
            December
      2004
            
            
            December
      2005
            
            
            December
      2006
            
            
            December
      2007Sterling
      Construction Company, Inc
            
            
            100.00
            
            
            
            258.86
            
            
            
            296.57
            
            
            
            961.71
            
            
            
            1,243.43
            
            
            
            1,246.86Dow
      Jones US
            
            
            100.00
            
            
            
            130.75
            
            
            
            146.45
            
            
            
            155.72
            
            
            
            179.96
            
            
            
            190.77Dow
      Jones US Heavy Construction
            
            
            100.00
            
            
            
            136.41
            
            
            
            165.42
            
            
            
            239.03
            
            
            
            298.17
            
            
            
            566.39


24
 Table of Contents




Item
      6.
            SelectedFinancial Data




The
following table sets forth selected financial and other data of the Company and
its subsidiaries and should be read in conjunction with both Item 7. —Management’s Discussion and
Analysis of Financial Condition and Results of Operations, which follows,
and Item 8. — Financial
Statements and Supplementary Data.




Year
      Ended December 312007
            
            
            2006
            
            
            2005
            
            
            2004
            
            
            2003(Amounts
      in thousands except per-share data)Operating
      Results:Revenues
            
            $
            306,220
            
            
            $
            249,348
            
            
            $
            219,439
            
            
            $
            132,478
            
            
            $
            149,006Income
      from continuing operations before income taxes and minority
      interest
            
            
            22,421
            
            
            
            19,204
            
            
            
            13,329
            
            
            
            4,109
            
            
            
            8,583Minority
      interest
            
            
            (62
            )
            
            
            —
            
            
            
            —
            
            
            
            (962
            )
            
            
            (1,627
            )Income
      tax (expense)/benefit
            
            
            (7,890
            )
            
            
            (6,566
            )
            
            
            (2,788
            )
            
            
            2,134
            
            
            
            (1,752
            )Income
      from continuing operations
            
            
            14,469
            
            
            
            12,638
            
            
            
            10,541
            
            
            
            5,281
            
            
            
            5,204Income
      (loss) from discontinued operations, including gain on sale in
      2006
            
            
            (25
            )
            
            
            682
            
            
            
            559
            
            
            
            372
            
            
            
            215Net
      income
            
            $
            14,444
            
            
            $
            13,320
            
            
            $
            11,100
            
            
            $
            5,653
            
            
            $
            5,419Basic
      and diluted per share amounts:Basic
      earnings per share fromcontinuing
      operations
            
            $
            1.31
            
            
            $
            1.19
            
            
            $
            1.36
            
            
            $
            0.99
            
            
            $
            1.02Basic
      earnings per share fromdiscontinued
      operations
            
            
            —
            
            
            $
            0.06
            
            
            $
            0.07
            
            
            $
            0.07
            
            
            $
            0.04Basic
      earnings per share
            
            $
            1.31
            
            
            $
            1.25
            
            
            $
            1.43
            
            
            $
            1.06
            
            
            $
            1.06Basic
      weighted average shares outstanding
            
            
            11,044
            
            
            
            10,583
            
            
            
            7,775
            
            
            
            5,343
            
            
            
            5,090Diluted
      earnings per share fromcontinuing
      operations
            
            $
            1.22
            
            
            $
            1.08
            
            
            $
            1.11
            
            
            $
            0.75
            
            
            $
            0.80Diluted
      earnings per share fromdiscontinued
      operations
            
            
            —
            
            
            $
            0.06
            
            
            $
            0.05
            
            
            $
            0.05
            
            
            $
            0.03Diluted
      earnings per share
            
            $
            1.22
            
            
            $
            1.14
            
            
            $
            1.16
            
            
            $
            0.80
            
            
            $
            0.83Diluted
      weighted average shares outstanding
            
            
            11,836
            
            
            
            11,714
            
            
            
            9,538
            
            
            
            7,028
            
            
            
            6,489Cash
      dividends declared
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —Balance
      Sheet:Total
      assets
            
            $
            274,515
            
            
            $
            167,772
            
            
            $
            118,455
            
            
            $
            89,544
            
            
            $
            75,578Long-term
      debt
            
            
            65,556
            
            
            
            30,659
            
            
            
            14,570
            
            
            
            21,979
            
            
            
            19,992Book
      value per share of outstandingcommon
      stock
            
            $
            10.66
            
            
            $
            8.37
            
            
            $
            5.95
            
            
            $
            4.77
            
            
            $
            3.24Equity
            
            
            138,612
            
            
            
            90,991
            
            
            
            48,612
            
            
            
            35,208
            
            
            
            16,636Shares
      outstanding
            
            
            13,007
            
            
            
            10,875
            
            
            
            8,165
            
            
            
            7,379
            
            
            
            5,140







In
January 2006 the Company completed a public offering of approximately 2.0
million shares of its common stock at $15.00 per share.  The Company
received proceeds, net of underwriting commissions, of approximately $28.0
million ($13.95 per share) and paid approximately $907,000 in related offering
expenses.  In addition, the Company received approximately $484,000
from the exercise of warrants and options to purchase 321,758
shares.  These shares were sold by the option and warrant holders in
the offering.  From the proceeds of the offering, the Company repaid
all its outstanding related party promissory notes in January
2006.  Executive management, directors and former directors received
proceeds as follows:




25
 Table of Contents




Name
            
            Principal
            
            
            Interest
            
            
            Total
      PaymentPatrick
      T. Manning
            
            $
            318,592
            
            
            
            2,867
            
            
            $
            321,459James
      D. Manning
            
            $
            1,855,349
            
            
            
            16,698
            
            
            $
            1,872,047Joseph
      P. Harper, Sr.
            
            $
            2,637,422
            
            
            
            23,737
            
            
            $
            2,661,159Maarten
      D. Hemsley
            
            $
            181,205
            
            
            
            1,631
            
            
            $
            182,836Robert
      M. Davies
            
            $
            452,909
            
            
            
            4,076
            
            
            $
            456,985




During
2006, the Company utilized part of the offering proceeds to purchase additional
capital equipment for the construction business, to replenish funds that had
been used for the 2006 acquisition of a drill shaft business.






In
December 2007, the Company completed an additional public offering of 1.84
million shares of its common stock at $20.00 per share.  The Company
received proceeds, net of underwriting commissions, of approximately $35.0
million ($19.00 per share) and paid approximately $0.5 million in related
offering expenses.  A reconciliation of the use of proceeds through
December 31, 2007 is as follows (in thousands, except share data)
(unaudited):




Shares
      issued upon completion of equity offering
            
            
            1,840,000Proceeds
      received from sale of shares
            
            $
            36,800Less:Underwriters’
      commission
            
            $
            (1,840
            )Expenses
      (legal, printing, etc.)
            
            $
            (471
            )Net
      proceeds from sale of shares
            
            $
            34,489Use
      of proceeds:Repayment
      of credit line at a bank
            
            $
            4,951Purchase
      of short term securities(1)
            
            $
            24,708Total
      spent through December 31, 2007
            
            $
            29,659Balance
      retained in working capital
            
            $
            4,830




(1)Between the purchase date of RHB and
the 2007 public offering of stock, the Company used the proceeds from the sale
of its investments in short-term securities to pay off the Credit Facility
borrowings of $22.4 million used to purchase RHB.  The proceeds of the
public stock offering were used to replenish the investment in short-term
securities.




26
 Table of Contents




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




Overview




For an
overview of the Company's business and its associated risks, see Item 1. BusinessandItem 1A. Risk
Factors.




Critical Accounting Policies




Our
significant accounting policies are described in Note 1 of Notes to Consolidated Financial
Statements for the year ended December 31, 2007.




Use
of Estimates.




The
preparation of financial statements in conformity with GAAP 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.  Our business involves making significant
estimates and assumptions in the normal course of business relating to our
contracts due to, among other things, the one-of-a-kind nature of most of our
contracts, the long-term duration of our contract cycle and the type of contract
utilized.  Therefore, management believes that “Revenue Recognition”
is the most important and critical accounting policy.  The most
significant estimates with regard to these financial statements relate to the
estimating of total forecasted construction contract revenues, costs and profits
in accordance with accounting for long-term contracts.  Actual results
could differ from these estimates and such differences could be
material.




Our
estimates of contract revenue and cost are highly detailed.  We
believe, based on our experience, that our current systems of management and
accounting controls allow management to produce reliable estimates of total
contract revenue and cost during any accounting period.  However, many
factors can and do change during a contract performance period, which can result
in a change to contract profitability from one financial reporting period to
another.  Some of the factors that can change the estimate of total
contract revenue, cost and profit include differing site conditions (to the
extent that contract remedies are unavailable), the failure of major material
suppliers to deliver on time, the performance of subcontractors, unusual weather
conditions, our productivity and efficient use of labor and equipment and the
accuracy of the original bid estimate.  Because we have a large number
of contracts in process at any given time, these changes in estimates can
sometimes offset each other without affecting overall
profitability.  However, significant changes in cost estimates on
larger, more complex projects can have a material impact on our financial
statements and are reflected in our results of operations when they become
known.




When
recording revenue from change orders on contracts that have been approved as to
scope but not price, we include in revenue an amount equal to the amount that we
currently expect to recover from customers in relation to costs incurred by us
for changes in contract specifications or designs, or other unanticipated
additional costs.  Revenue relating to change order claims is
recognized only if it is probable that the revenue will be
realized.  When determining the likelihood of eventual recovery, we
consider such factors as evaluation of entitlement, settlements reached to date
and our experience with the customer.  When new facts become known, an
adjustment to the estimated recovery is made and reflected in the current period
results.




Revenue
Recognition.




The
majority of our contracts with our customers are “fixed unit price.” Under such
contracts, we are committed to providing materials or services required by a
contract at fixed unit prices (for example, dollars per cubic yard of concrete
poured or per cubic yard of earth excavated).  To minimize increases
in the material prices and subcontracting costs used in submitting bids, we
obtain firm quotations from our suppliers and subcontractors.  After
we are advised that our bid is the winning bid, we enter into firm contracts
with our materials suppliers and sub-contractors, thereby mitigating the risk of
future price variations affecting those contract costs.  Such
quotations do not include any quantity guarantees, and we therefore have no
obligation for materials or subcontract services beyond those required to
complete the respective contracts that we are awarded for which quotations have
been provided.  The principal remaining risks under fixed price
contracts relate to labor and equipment costs and productivity
levels.  As a result, we have rarely been exposed to material price or
availability risk on contracts in our contract backlog.  Most of our
state and municipal contracts provide for termination of the contract for the
convenience of the owner, with provisions to pay us only for work performed
through the date of termination.




27
 Table of Contents




We use
the percentage of completion accounting method for construction contracts in
accordance with the American Institute of Certified Public Accountants Statement
of Position 81-1, “Accounting for Performance of Construction-Type and Certain
Production-Type Contracts.” Revenue and earnings on construction contracts are
recognized on the percentage of completion method in the ratio of costs incurred
to estimated final costs.  Revenue is recognized as costs are incurred
in an amount equal to cost plus the related expected profit.  Contract
cost consists of direct costs on contracts, including labor and materials,
amounts payable to subcontractors and equipment expense (primarily depreciation,
fuel, maintenance and repairs).  Depreciation is computed using the
straight-line method for construction equipment.  Contract cost is
recorded as incurred, and revisions in contract revenue and cost estimates are
reflected in the accounting period when known.




The
accuracy of our revenue and profit recognition in a given period is dependent on
the accuracy of our estimates of the cost to finish uncompleted
contracts.  Our cost estimates for all of our significant contracts
use a highly detailed “bottom up” approach, and we believe our experience allows
us to produce reliable estimates.  However, our contracts can be
highly complex, and in almost every case, the profit margin estimates for a
contract will either increase or decrease to some extent from the amount that
was originally estimated at the time of bid.  Because we have a large
number of contracts of varying levels of size and complexity in process at any
given time, these changes in estimates can sometimes offset each other without
materially impacting our overall profitability.  However, large
changes in revenue or cost estimates can have a more significant effect on
profitability.




There are
a number of factors that can contribute to changes in estimates of contract cost
and profitability.  The most significant of these include the
completeness and accuracy of the original bid, recognition of costs associated
with scope changes, extended overhead due to customer-related and
weather-related delays, subcontractor performance issues, site conditions that
differ from those assumed in the original bid (to the extent contract remedies
are unavailable), the availability and skill level of workers in the geographic
location of the contract and changes in the availability and proximity of
materials.  The foregoing factors, as well as the stage of completion
of contracts in process and the mix of contracts at different margins, may cause
fluctuations in gross profit between periods, and these fluctuations may be
significant.




Valuation
of Long-Term Assets.




Long-lived
assets, which include property, equipment and acquired identifiable intangible
assets, are reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be
recoverable.  Impairment evaluations involve management estimates of
useful asset lives and future cash flows.  Actual useful lives and
cash flows could be different from those estimated by management, and this could
have a material effect on operating results and financial
position.  In addition, we had goodwill with a value of approximately
$57 million at December 31, 2007, which must be reviewed for impairment at least
annually in accordance with Statement of Financial Accounting
Standards No. 142, or SFAS 142.  The impairment testing
required by SFAS 142 requires considerable judgment, and an impairment charge
may be required in the future.  We completed our annual impairment
review for goodwill during the 4th quarter
of 2007, and it did not result in an impairment.




28
 Table of Contents




Income
Taxes.




Deferred
tax assets and liabilities are recognized based on the differences between the
financial statement carrying amounts and the tax bases of assets and
liabilities. We regularly review our deferred tax assets for recoverability and,
where necessary, establish a valuation allowance. Reflecting management’s
assessment of expected future operating profitability and expectation that the
Company would utilize all remaining net operating loss carry forwards ("NOLs"),
we eliminated our valuation allowance in 2005. We are subject to the alternative
minimum tax (AMT). Because we are still utilizing our NOLs to offset taxable
income, payment of AMT results in a reduction of our deferred tax
liability.


An
ownership change, which may occur if there is a transfer of ownership exceeding
50% of our outstanding shares of common stock in any three-year period, may lead
to a limitation in the usability of, or a potential loss of some or all of, the
NOLs. In order to reduce the likelihood of an ownership change occurring, our
restated and amended certificate of incorporation, as amended, prohibits
transfers of our common stock resulting in, or increasing, individual holdings
in excess of 4.5% of our common stock, unless such transfer is made by us or
with the consent of our board of directors.


Because
the regulations governing NOLs are highly complex and may be changed from time
to time, and because our attempts to prevent an ownership change from occurring
may not be successful, the NOLs could be limited or lost. We believe that the
NOLs are currently available in full, however, and intend to take all reasonable
and appropriate steps to ensure that they will remain available. To the extent
the NOLs become unavailable to us, our future taxable income and that of any
consolidated affiliate will be subject to federal taxation, thus reducing funds
otherwise available for corporate purposes.


Although
our NOLs do not expire until 2020, if unused, we estimate that our deferred tax
assets related to our NOLs will be fully utilized during 2007. After the
expiration or utilization of our NOLs, we have available to us the excess tax
benefit resulting from exercise of a significant number of non-qualified
in-the-money options amounting to $1.3 million as of December 31,
2007. Accordingly, because we will no longer have the significant offsets
provided by the NOLs, a comparison of our future cash flows to our historic cash
flows may not be meaningful.


On
January 1, 2007, we adopted the provisions of Financial Interpretation
No. 48, (FIN 48) which establishes the criteria that an
individual tax position must meet for some or all of the benefits of that
position to be recorded. Adoption of FIN 48 did not have a material impact on
our consolidated financial statements.


Discontinued
Operations.




In August
2005, our board of directors authorized management to sell our distribution
business.  In accordance with the provisions of SFAS 144, we
determined in the third quarter of 2005 that the distribution business became a
long-lived asset held for sale and a discontinued operation.  In
October 2006, we sold the distribution business to an industry-related buyer for
gross proceeds of approximately $5.4 million.  We recognized a pre-tax
gain on the sale in 2006 of approximately $249,000, equal to $121,000 after
taxes.




29
 Table of Contents




Resultsof Operations




Fiscal
Year Ended December 31, 2007 (2007) Compared with Fiscal Year Ended December 31,
2006 (2006).




2007
            
            
            2006
            
            
            %
      Change(Dollar
      amounts in thousands)Revenues
            
            $
            306,220
            
            
            $
            249,348
            
            
            
            22.8
            %Gross
      profit
            
            
            33,686
            
            
            
            28,547
            
            
            
            18.0
            %Gross
      margin
            
            
            11.0
            %
            
            
            11.4
            %
            
            
            (3.5
            )%General
      and administrative expenses, net
            
            
            (13,206
            )
            
            
            (10,825
            )
            
            
            22.0
            %Other
      income
            
            
            549
            
            
            
            276
            
            
            
            98.9
            %Operating
      income
            
            
            21,029
            
            
            
            17,998
            
            
            
            16.8
            %Operating
      margin
            
            
            6.9
            %
            
            
            7.2
            %
            
            
            (4.2
            )%Interest
      income
            
            
            1,669
            
            
            
            1,426
            
            
            
            17.0
            %Interest
      expense
            
            
            (278
            )
            
            
            (220
            )
            
            
            26.5
            %Minority
      Interest
            
            
            (62
            )
            
            
            —
            
            
            
            100.0
            %Income
      from continuing operations before taxes
            
            
            22,359
            
            
            
            19,204
            
            
            
            16.4
            %Income
      taxes
            
            
            7,890
            
            
            
            6,566
            
            
            
            20.2
            %Net
      income from continuing operations
            
            
            14,469
            
            
            
            12,638
            
            
            
            14.5
            %Net
      income (loss) from discontinued operations, includinggain
      on sale
            
            
            (25
            )
            
            
            682
            
            
            
            (103.7
            )%Net
      income
            
            $
            14,444
            
            
            $
            13,320
            
            
            
            8.4
            %Contract
      backlog, end of year
            
            $
            450,000
            
            
            $
            395,000
            
            
            
            13.9
            %






Revenues. Revenues
increased $57 million, or 23%, from 2006 to 2007 reflecting the effect of
continued expansion of our construction fleet, addition of a concrete plant and
addition of crews.  Our workforce grew by 18% year-over-year, and we
purchased over $36 million in property, plant and equipment, including that
acquired in the purchase of RHB, within the twelve month period ending December
31, 2007.  The increased revenue came strictly from the state market
resulting from the Company being the successful low bidder in the state market
which was assisted by an improved bidding climate in 2006 due to a large state
highway program and increased total funding in the Dallas and Houston
areas.  The improvement in the weather in the fourth quarter 2007
offset much of the lower than expected revenue of the first three quarters of
2007 due to heavy rainfall during those months.  Due to seasonality of
the Nevada market, the contracts of RHB had only a modest effect on revenues for
the two months they were included in 2007 revenues. Contract receivables are
directly related to revenues and include both amount currently due and
retainage. The increase of $11.6 million in contracts receivable to $54.4
million at December 31, 2007 versus 2006 is due to the increase in revenue for
the year 2007. The days revenue in contract receivables is approximately 64 days
and 62 days at December 31, 2007 and 2006, respectively.


Gross Profit.  The improvement
in gross profits in 2007 was due principally to the increase in
revenues.  The slight margin reduction was attributable to a decrease
of margin in backlog, due to poor weather for the first three quarters of the
year, and an increase in sales from the state contracts which have historically
had lower gross margin than municipal contracts.  State highway
contracts generally allow us to achieve greater revenue and gross profit
production from our equipment and work crews, although on average the gross
margins on this work tend to be slightly lower than on our water infrastructure
contracts in the municipal markets. The lower margins reflect proportionally
larger material inputs in the state contracts as we typically receive lower
margins on materials than on labor.Partially offsetting the
margin reduction was our ability to continue to redesign some jobs, achieve
incentive awards and maintain good execution levels during dry
weather.  Due to the large number of contracts in different stages of
completion and in different locations, it is not practical to quantify the
impact of each of these matters on revenues and gross profit.




30
 Table of Contents




Contract Backlog.  The increase in
contract backlog is related to the Nevada acquisition where backlog was $116
million at December 31, 2007. There was $16 million included in our 2007
year-end backlog on which we were the apparent low bidder and have subsequently
been officially awarded these contracts. Historically, subsequent non-awards of
such low bids have not materially affected our backlog or financial
condition.




General and Administrative
Expenses, Net of Other Income and Expense.  The increase in
general and administrative expenses, or G&A, in 2007 was principally due to
higher employee expenses, including an increase in staff, and higher
professional fees.  Despite these increases in G&A expenses in
support of our growing business, our ratio of G&A expenses to revenue
remained essentially unchanged from 2006 to 2007, at 4%.




Operating Income.  The 2007
increase in operating income resulted principally from the higher revenues and
gross profits as discussed above.




Interest Income Net of
Interest Expense.  The interest
income net of interest expense remained virtually unchanged from 2006 to 2007
given the high cash and short term investments maintained throughout the year
and the offering completed in December 2007.  A total of $53,000 of
interest expense was capitalized as part of our office and shop
expansion.




Minority
Interest.  As discussed in Part I, Item 1. Business, on October
31, 2007, the Company acquired a 91.67% interest in RHB.  The minority
interest's share of RHB's income before income taxes was $62,000 for the two
months ended December 31, 2007 that was included in the consolidated results of
operations.




Income Taxes.  Income taxes
increased due to increased income, the Texas margin tax and increases in the
statutory tax rate.




Net Income from Continuing
Operations.  The 2007
increase in net income from continuing operations was the result of the various
factors discussed above.




Discontinued Operations, Net
of Tax.  Discontinued
operations for 2007 and 2006 represent the results of operations of our
distribution business, which was operated by Steel City Products,
LLC.




The distribution business was sold on
October 27, 2006.  The Company recorded proceeds from the sale of
approximately $5.4 million and recorded a pre-tax gain on the sale of
approximately $249,000 and recorded $128,000 in income tax expense related to
that gain in 2006.




31
 Table of Contents




Fiscal Year Ended
December 31, 2006 (2006) Compared with Fiscal Year Ended
December 31, 2005 (2005).






2006
            
            
            2005
            
            
            % Change(Dollar amounts in
      thousands)Revenues
            
            $
            249,348
            
            
            $
            219,439
            
            
            
            13.6
            %Gross
      profit
            
            
            28,547
            
            
            
            23,756
            
            
            
            20.2
            %Gross
      margin
            
            
            11.4
            %
            
            
            10.8
            %
            
            
            5.6
            %General
      and administrative expenses and other
            
            
            10,549
            
            
            
            9,091
            
            
            
            15.0
            %Operating
      income
            
            
            17,998
            
            
            
            14,665
            
            
            
            22.7
            %Operating
      margin
            
            
            7.2
            %
            
            
            6.7
            %
            
            
            7.5
            %Interest
      income
            
            
            1,426
            
            
            
            150
            
            
            
            850.6
            %Interest
      expense
            
            
            220
            
            
            
            1,486
            
            
            
            (85.2
            )%Income
      from continuing operations before taxes
            
            
            19,204
            
            
            
            13,329
            
            
            
            44.1
            %Income
      taxes
            
            
            6,566
            
            
            
            2,788
            
            
            
            135.5
            %Net
      income from continuing operations
            
            
            12,638
            
            
            
            10,541
            
            
            
            19.9
            %Net
      income from discontinued operations, including gain on
sale
            
            
            682
            
            
            
            559
            
            
            
            22.0
            %Net
      income
            
            $
            13,320
            
            
            $
            11,100
            
            
            
            20.0
            %Backlog,
      end of year
            
            $
            395,000
            
            
            $
            307,000
            
            
            
            28.7
            %






Revenues. Our revenue
increase of $29.9 million, or 14%, from 2005 to 2006 included a substantial
increase in revenues from state highway work of $89.0 million, or 114%, to
$166.3 million as we took advantage of the very strong bidding climate in
this sector and the resultant increase in the proportion of state highway
contracts in our backlog. In particular, we saw a near-tripling of revenues in
the Dallas market, where we won several major contracts in early 2006, and also
good growth in the San Antonio market. State highway contracts generally
allow us to achieve greater revenue and gross profit production from our
equipment and work crews, although on average the gross margins on this work are
slightly lower than on our water infrastructure contracts in the municipal
markets because of the cost of larger material inputs into the state contracts.


At the
same time there was a decrease in our municipal revenues of $59.0 million,
or 41.5%, to $83 million due to a decrease in the market for large diameter
water line infrastructure construction.


The
overall revenue expansion was facilitated by an increase of over two hundred
employees in 2006, and a significant increase in our equipment fleet. The
increase was achieved despite a generally wetter year in 2006 in most of our
markets than in 2005, which adversely affected production rates, and the impact
of some significant delays in starting certain contracts in the first three
quarters of 2006, which were due to factors outside our control.


Gross Profit. The
improvement in gross profits in 2006 was due principally to the increase in
revenues, combined with the higher gross margins. This margin improvement was
attributable principally to a better margin mix in backlog resulting from the
improved bidding climate since 2004, and to efficiencies resulting from the
higher revenue levels achieved in 2006. These factors overcame the negative
impact on gross margins of the wetter weather in 2006 and the delay in starting
certain contracts, as described above. They also helped offset the downward
pressure on gross margins arising from the increased percentage of state highway
work, from 39% in 2005 to 67% in 2006. In both years, we achieved a number of
incentive awards upon the successful completion of contract
milestones.
 32
 Table of Contents


Backlog. The
$88 million increase in backlog in 2006 reflected the on-going broadening
of our service platform and the generally good bidding environment in our
markets, especially in the Dallas/Fort Worth area where our backlog
expanded significantly during the year.


General and Administrative Expenses,
Net of Other Income and Expense. The increase in general and
administrative expenses, or G&A, in 2006 was principally due to higher
employee expenses, including an increase in staff, increased stock-based
compensation expense resulting from our higher share price in 2006, and higher
legal and accounting fees. Despite these increases in G&A expenses in
support of the growing business, our ratio of G&A expenses to revenue
remained essentially unchanged from 2005 to 2006, at 4%.


Operating Income. The
2006 increase in operating income resulted principally from the higher revenues
and gross profits, which led to an increase in operating margin from 6.7% to
7.2%.


Interest Expense Net of Interest
Income. In 2006, we invested cash raised in our public stock
offering on which we earned over $1.4 million of interest. In 2005, we paid
$1.5 million of interest expense primarily on related party debt which was
repaid in January 2006 from the proceeds of our public offering.


Income Taxes. In 2005,
we recorded a reduction in the valuation allowance related to the deferred tax
asset following management’s review of the likelihood that tax loss
carryforwards would be substantially utilized in the future. This resulted in an
effective tax rate of 21% in 2005. In 2006, we recorded a more normal tax charge
at 34.2% of income.


Net Income From Continuing
Operations. The 2006 increase in net income from continuing
operations was the result of the various factors discussed above.
  Effect of Income Tax
Benefits. Although we have had the benefit of significant NOLs,
which offset most of our income from federal income taxes, we are required to
reflect a full tax charge in our financial statements through an adjustment to
the deferred tax asset. In addition, certain adjustments resulting from our
recovery of the deferred tax asset are recorded in the income statement. Those
adjustments resulted in a benefit of $1.4 million in 2005. Assuming an
income tax rate of 34%, and disregarding adjustments to our deferred tax asset
and other timing differences, net income would have been $8.797 million for
2005 so that, on a comparative basis, the income from continuing operations
level of $12.675 million for 2006 represents an increase of approximately
44%. Similarly, basic and fully diluted earnings from continuing operations per
common share for 2005, reflecting an effective tax rate of 34%, would have been
$1.13 and $0.92, respectively, for 2005. A reconciliation of reported income
from continuing operations for 2006 and 2005 to net income as if a 34% tax rate
had been applied is set forth in the table below.


2006
            
            
            2005(Amounts in thousands, except
      per share data)Income
      from continuing operations before income taxes, as
reported
            
            $
            19,204
            
            
            $
            13,329Provision
      for income taxes (assuming a 34% effective rate)
            
            
            6,529
            
            
            
            4,532Net
      income from continuing operations as if a 34% rate had been
      applied
            
            $
            12,675
            
            
            $
            8,797Basic
      income from continuing operations per common share as if a 34% effective
      tax rate had been applied
            
            $
            1.20
            
            
            $
            1.13Diluted
      income from continuing operations per common share as if a 34% effective
      tax rate had been applied
            
            $
            1.08
            
            
            $
            0.92




Discontinued Operations, Net of
Tax. Discontinued operations for 2006 and 2005 represent the results
of operations of our distribution business, which was operated by Steel City
Products, LLC. The increase in the net income from discontinued operations was
primarily due to increases in gross margins from 16% in 2005 to 16.5% in 2006
through the date of sale.
 33
 Table of Contents


The
distribution business was sold on October 27, 2006. We recorded proceeds
from the sale of approximately $5.4 million and paid $3.8 million to
retire the Steel City Products, LLC revolving line of credit. We recorded a
pre-tax gain on the sale of $249,000 and recorded $128,000 in income tax expense
related to that gain.
 34
 Table of Contents


Historical Cash Flows




The
following table sets forth information about our cash flows for the years ended
December 31, 2007, 2006 and 2005.


Year
      Ended December 31,2007
              
              
              2006
              
              
              2005(Amounts
      in thousands)Cash
      and cash equivalents (at end of period)
              
              $
              80,649
              
              
              $
              28,466
              
              
              $
              22,267Net
      cash provided by (used in)Continuing
      operations:Operating
      activities
              
              
              29,567
              
              
              
              23,089
              
              
              
              31,266Investing
      activities
              
              
              (47,935
              )
              
              
              (52,358
              )
              
              
              (10,972
              )Financing
      activities
              
              
              70,576
              
              
              
              35,468
              
              
              
              (1,476
              )Discontinued
      operationsOperating
      activities
              
              
              (25
              )
              
              
              495
              
              
              
              (294
              )Investing
      activities
              
              
              --
              
              
              
              4,739
              
              
              
              --Financing
      activities
              
              
              --
              
              
              
              (5,357
              )
              
              
              349Supplementary
      information:Capital
      expenditures
              
              
              26,319
              
              
              
              24,849
              
              
              
              11,392Working
      capital (at end of  period)
              
              
              82,063
              
              
              
              62,874
              
              
              
              18,354


Operating
Activities.




Significant
non-cash items included in operating activities were:




•
            depreciation
      and amortization, which totaled $9.5 million, an increase of $2.5 million
      from 2006, which was $7.0 million, an increase of $2.0 million over 2005,
      as a result of the continued increase in the size of our construction
      fleet;




•
            deferred
      tax expense was $6.6 million in 2007, an increase of $0.3 million over
      2006.  We accelerate the depreciation of our fixed assets for
      tax purposes. The significant additions to fixed assets in 2007 and 2006
      increased our deferred tax liability and certain other timing differences
      are recorded in the income statement. Such tax expense in 2006 increased
      $3.7 million over 2005 due to the increased depreciation and a reduction
      in the valuation allowance related to the deferred tax
    asset.




Significant
components of the changes in working capital are as follows:




•
            contracts
      receivable increased by $6.6 million in 2007 and $7.9 million in 2006,
      principally reflecting the revenue increase and related level of customer
      retentions;




•
            billings
      in excess of costs and estimated earnings on uncompleted contracts
      increased by $0.6 million in 2007, while in 2006 there was an increase of
      $7.9 million.  These changes principally reflect fluctuations in
      the timing and amount of mobilization payments to assist in the start-up
      on certain contracts;




•
            trade
      payables increased by $6.1 million in 2007 compared with a decrease of
      $3.0 million in 2006, reflecting an increase in our volume of business;
      and




•
            there
      was a decrease of $0.6 million in costs and estimated earnings in excess
      of billings on uncompleted contracts in 2007 compared with an increase of
      $1.0 million in 2006.  These changes reflect timing differences
      as contracts progress.




Investing
Activities.




Expenditures
to expand our construction fleet were $26.3 million in 2007 compared with $24.8
million in 2006.  The much enlarged contract backlog required a
significant expansion and upgrade of our fleet in 2007 and
2006.  Additionally, in October 2007, we purchased a 91.67% interest
in RHB which we acquired for $53.0 million in order to expand our construction
operations into Nevada.  In connection with the acquisition, we incurred
$1.1 million of direct costs of the acquisition.  In January 2006, we
purchased certain assets of Rathole Drilling, Inc. for $2.2 million also in
order to expand our construction capabilities. In 2007 and 2006, we invested a
portion of the funds raised in our public sale of common stock in cash and cash
equivalents and short-term auction-rate securities, respectively.




35
 Table of Contents




Financing
Activities.


The
increase in cash provided by financing activities in 2007 and 2006 was
principally due to the sale of common stock to the public in December 2007 and
January 2006, in which our net proceeds were approximately $34.5 million and
$27.0 million, respectively.  In addition, we received proceeds of
approximately $513,000 and $913,000 in 2007 and 2006, respectively, from the
exercise of stock options and warrants.  Funds received from the
exercise of warrants by North Atlantic Smaller Companies Investment Trust plc,
or NASCIT, and the exercise of options by employees and directors totaled $0.8
million during 2005.  In 2006 and 2005 we used approximately $8.6
million and $2.8 million, respectively, to pay long-term debt, which included
payments on notes to related parties in 2006 and 2005.  During 2007,
2006 and 2005, there were net increases in borrowings under the lines of credit
of $35.0 million, $16.2 million and $0.5 million, respectively, because capital
expenditures, long-term debt repayments and working capital requirements
exceeded cash provided by operations.


Liquidity




The level
of working capital for our construction business varies due to fluctuations in
the levels of costs and estimated earnings in excess of billings, billings in
excess of cost and estimated earnings, the size and status of contract
mobilization payments, levels of customer receivables and contract retentions,
and the level of amounts owed to suppliers and subcontractors.  Some
of these fluctuations can be significant.  The significant increase in
our working capital level in 2007 and 2006 has been an important element in
enabling us to expand our bonding facilities and therefore to continue to bid on
larger and longer-lived projects.  The Company believes that it has
sufficient financial resources to fund its requirements for the next twelve
months of operations.




Sources of Capital




In
addition to cash provided from operations, we use our revolving lines of credit
to finance working capital needs and capital expenditures.




Lines
of Credit




We have a
Credit Facility with Comerica Bank entered into on October 31, 2007 which
replaced a similar $35.0 million revolver that had been renewed in April
2006.  The Credit Facility has a maturity date of October 31, 2012,
borrowing capacity of $75.0 million and is secured by all assets of the Company,
other than proceeds and other rights under our construction contracts which are
pledged to our bond surety.  Borrowings under the Credit Facility were
used to finance the RHB acquisition, repay indebtedness outstanding under the
Revolver, and finance working capital. At December 31, 2007, the aggregate
borrowings outstanding under the Credit Facility were $65.0 million, and
the aggregate amount of letters of credit outstanding under the new Credit
Facility was $1.5 million, which reduces availability under the Credit
Facility.
  At our
election, the loans under the new Credit Facility bear interest at either a
LIBOR-based interest rate or a prime-based interest rate. The unpaid principal
balance of each LIBOR-based loan bears interest at a variable rate equal to
LIBOR plus an amount ranging from 1.25% to 2.25% depending on the pricing
leverage ratio that we achieve. The “pricing leverage ratio” is determined by
the ratio of our average total debt, less cash and cash equivalents, to earnings
before interest, taxes, depreciation and amortization ("EBITDA") that we achieve
on a rolling four-quarter basis. The pricing leverage ratio is measured
quarterly. If we achieve a pricing leverage ratio of (a) less than 1.00 to
1.00; (b) equal to or greater than 1.00 to 1.00 but less than 1.75 to 1.00;
or (c) greater than or equal to 1.75 to 1.00, then the applicable LIBOR
margins will be 1.25%, 1.75% and 2.25%, respectively. Interest on LIBOR-based
loans is payable at the end of the relevant LIBOR interest period, which must be
one, two, three or six months. The new Credit Facility is subject to our
compliance with certain covenants, including financial covenants relating to
fixed charges, leverage, tangible net worth, asset coverage and consolidated net
losses.


36
 Table of Contents




The
unpaid principal balance of each prime-based loan will bear interest at a
variable rate equal to Comerica’s prime rate plus an amount ranging from 0% to
0.50% depending on the pricing leverage ratio that we achieve. If we achieve a
pricing leverage ratio of (a) less than 1.00 to 1.00; (b) equal to or
greater than 1.00 to 1.00 but less than 1.75 to 1.00; or (c) greater than
or equal to 1.75 to 1.00, then the applicable prime margins will be 0.0%, 0.25%
and 0.50%.  The interest rate on funds borrowed under this revolver
during the year ended December 31, 2007 ranged from 7.50% to 7.75%.




In
December 2007, Comerica syndicated the Credit Facility with three other
financial institutions under the same terms discussed above.




Management
believes that the new Credit Facility will provide adequate funding for the
Company’s working capital, debt service and capital expenditure requirements,
including seasonal fluctuations at least through December 31, 2008.




As
discussed above, the Credit Facility contains restrictions on the ability
to:




·
            Make
      distributions and dividends;


·
            Incur
      liens and encumbrances;


·
            Incur
      further indebtedness;


·
            Guarantee
      obligations;


·
            Dispose
      of a material portion of assets or merge with a third
    party;


·
            Incur
      negative income for two consecutive
quarters.





The
Company was in compliance with all covenants under the Credit Facility as of
December 31, 2007.




Other Debt




Mortgages.




In 2001
we completed the construction of a new headquarters building on land owned by us
adjacent to our equipment repair facility in Houston.  The building
was financed principally through an additional mortgage of $1.1 million on the
land and facilities at a floating interest rate which at December 31, 2007 was
7.5% per annum, repayable over 15 years.  This mortgage is
cross-collateralized with a prior mortgage on the land and equipment repair
facilities, which were purchased in 1998, in the original amount of $500,000,
repayable over 15 years with an interest rate of 9.3% per annum.  In
addition, we have available to us a long-term facility of up to $1.5 million
repayable over 15 years to finance the expansion of our office building and
maintenance facilities.




Usesof Capital




Contractual
Obligations.




The
following table sets forth our fixed, non-cancelable obligations at December 31,
2007.




Payments due by PeriodTotal
            
            
            Less
      Than
              One Year
            
            
            1—3 Years
            
            
            4—5
              Years
            
            
            More
      Than
              5
      Years(Amounts
      in thousands)Credit
      Facility
            
            $
            65,000
            
            
            $
            —
            
            
            $
            —
            
            
            $
            65,000
            
            
            $
            —Operating
      leases
            
            
            2,999
            
            
            
            920
            
            
            
            2,009
            
            
            
            70
            
            
            
            —Mortgages
            
            
            654
            
            
            
            98
            
            
            
            220
            
            
            
            146
            
            
            
            190$
            68,653
            
            
            $
            1,018
            
            
            $
            2,229
            
            
            $
            65,216
            
            
            $
            190






Our
obligations for interest are not included in the table above as these amounts
vary according to the levels of debt outstanding at any
time.  Interest on our Credit Facility is paid monthly and fluctuates
with the balances outstanding during the year, as well as with fluctuations in
interest rates.  In 2007 interest on the Credit Facility and Revolver
was approximately $239,000.  The mortgages are expected to have future
annual interest expense payments of approximately $47,200 in less than one year,
$106,700 in one to three years, $43,600 in four to five years and $23,800 for
all years thereafter.




37
 Table of Contents




To manage
risks of changes in the material prices and subcontracting costs used in
submitting bids for construction contracts, we generally obtain firm quotations
from our suppliers and subcontractors before submitting a bid.  These
quotations do not include any quantity guarantees, and we have no obligation for
materials or subcontract services beyond those required to complete the
contracts that we are awarded for which quotations have been
provided.




Capital
Expenditures.




Our
capital expenditures during 2007 were $36.0 million, including property, plant
and equipment acquired with the purchase of RHB, and during 2006 were $27.1
million including the purchase of the RDI equipment, and consisted almost
exclusively of expenditures to purchase heavy construction equipment. In 2008 we
expect that our capital expenditure spending will be less than the 2006
level.




Off-Balance Sheet
Arrangements




We have
no off-balance sheet arrangements.




New
Accounting Pronouncements




In
September 2006, the FASB issued Statement of Financial Accounting Standards No.
157, “Fair Value Measurements” (SFAS 157) which establishes a framework for
measuring fair value and requires expanded disclosure about the information used
to measure fair value.  The statement applies whenever other
statements require or permit assets or liabilities to be measured at fair value,
and does not expand the use of fair value accounting in any new
circumstances.  In February 2008, the FASB delayed the effective date
by which companies must adopt the provisions of SFAS 157. The new effective date
of SFAS 157 defers implementation to fiscal years beginning after November 15,
2008, and interim periods within those fiscal years.  The adoption of
this standard is not anticipated to have a material impact on our financial
position, results of operations, or cash flows.




In
December 2007, the FASB revised Statement of Accounting Standards No. 141,
“Business Combinations” (SFAS 141(R)).  This Statement establishes
principles and requirements for how the acquirer: (a) recognizes and measures in
its financial statements the identifiable assets acquired, the liabilities
assumed, and any non-controlling interest in the acquiree; (b) recognizes and
measures the goodwill acquired in the business combination or a gain from a
bargain purchase and (c) determines what information to disclose to enable users
of the financial statements to evaluate the nature and financial effects of the
business combination.  Also, under SFAS 141(R), all direct costs of
the business combination must be charged to expense on the financial statements
of the acquirer at the time of acquisition.  SFAS 141(R), revises
previous guidance as to the recording of post-combination restricting plan costs
by requiring the acquirer to record such costs separately from the business
combination.  This statement is effective for acquisitions occurring
on or after January 1, 2009, with early adoption not permitted.  The
effect of SFAS 141 (R) on future financial statements cannot be determined at
this time; however, had this statement been in effect for 2007, the charge of
$5.4 million to additional paid-in capital related to the acquisition of RHB
would have instead been in the costs allocated to nets assets acquired,
including goodwill, and $1.14 million of direct costs related to such
acquisition would have been charged to expense instead of being included in the
costs of the acquisition.




In
February 2007, the Financial Accounting Standards Board (FASB) issued SFAS
No. 159, “The Fair Value
Option for Financial Assets and Financial Liabilities – Including an amendment
to FASB Statement No. 115” (“SFAS No. 159”). This statement allows a
company to irrevocably elect fair value as a measurement attribute for certain
financial assets and financial liabilities with changes in fair value recognized
in the results of operations.  SFAS No. 159 also establishes
presentation and disclosure requirements designed to facilitate comparisons
between companies that choose different measurement attributes for similar types
of assets and liabilities.  SFAS No. 159 is effective for fiscal
years beginning after November 15, 2007. The Company is currently
evaluating the impact of adoption on its results of operations and financial
position.


In
December 2007, the FASB issued Statement of Accounting Standards No. 160,
“Non-controlling Interests in Consolidated Financial Statements” (SFAS
160).  SFAS 160 clarifies previous guidance on how consolidated
entities should account for and report non-controlling (minority) interests in
consolidated subsidiaries.  The statement standardizes the
presentation of non-controlling interests for both the consolidated balance
sheet and income statement.  The statement also standardizes the
accounting for changes in a parent company’s interest in a subsidiary for
situations where the change results in a deconsolidation and for situations
where it does not result in a deconsolidation.  This Statement is effective for our
fiscal year ending December 31, 2009, and all interim periods within that fiscal
year, with early adoption not permitted.When this Statement
is adopted by the Company, the Minority Interest in RHB and any similar
subsequent acquisitions will be a separate component of stockholders equity
instead of a liability and earnings per common share will be segregated between
EPS per common share and EPS of Minority Interest.




38
 Table of Contents




Item 7A.
            Quantitative
      and Qualitative Disclosures about Market
  Risk.




Changes
in interest rates are our primary sources of market risk.  At December
31, 2007, $65 million of our outstanding indebtedness was at floating interest
rates.  Based on our average debt outstanding during 2007, we estimate
that an increase of 1.0% in the interest rate would have resulted in an increase
in our interest expense of approximately $11,000 in 2007.




Item
      8.
            Financial Statements and Supplementary
  Data




Financial
statements start on page F-1.




Item
      9.
            Changes in and Disagreements with Accountants on Accounting
      and Financial Disclosure




None




Item
      9A.
            Controls and
Procedures




Evaluationof Disclosure Controls and
Procedures




Disclosure
controls and procedures include, without limitation, controls and procedures
designed to ensure that information required to be disclosed by an issuer in the
reports that it files or submits under the Securities Exchange Act of 1934 is
accumulated and communicated to the issuer’s management, including the principal
executive and principal financial officers, or persons performing similar
functions, as appropriate to all timely decisions regarding required
disclosure.




The
Company’s principal executive officer and principal financial officer reviewed
and evaluated the Company’s disclosure controls and procedures (as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934).  Based on that evaluation, the Company’s principal executive
officer and principal financial officer concluded that the Company’s disclosure
controls and procedures were effective at December 31, 2007 to ensure that the
information required to be disclosed by the Company in this Annual Report on
Form 10-K is recorded, processed, summarized and reported within the time
periods specified in the Securities and Exchange Commission’s rules and forms
and is accumulated and communicated to the Company's management including the
principal executive and principal financial officers, as appropriate to allow
timely decisions regarding required disclosure.




Management’s Report on Internal Control over Financial
Reporting




The
Company’s management is responsible for establishing and maintaining adequate
internal control over financial reporting (as defined in Rule 13a-15(f)) under
the Securities Exchange Act of 1934).  Under the supervision and with
the participation of the Company’s management, including the principal executive
officer and principal financial officer, the Company conducted an evaluation of
the effectiveness of internal control over financial reporting at December 31,
2007.  In making this assessment, management used the criteria set
forth by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO) in Internal Control-Integrated Framework.  The Company’s
management has concluded that, at December 31, 2007, the Company’s internal
control over financial reporting is effective based on these
criteria.


39
 Table of Contents




As
permitted by guidance provided by the staff of the Securities and Exchange
Commission, the scope of management’s assessment of the effectiveness of the
Company’s internal control over financial reporting as of December 31, 2007, did
not include the internal controls of RHB which are included in the 2007
consolidated financial statements of Sterling Construction Company, Inc. and
Subsidiaries. We acquired RHB on October 31, 2007 and its business represents
approximately 5.6% and 6.9% of the Company’s total assets and liabilities,
respectively, as of December 31, 2007, and approximately 2.3% and 3.1% of the
Company’s total revenues and net income from continuing operations,
respectively, for the year then ended. The Company will include the RHB business
in the scope of management’s assessment of internal control over financial
reporting beginning in 2008.




Our
internal control over financial reporting has been audited by Grant Thornton
LLP, an independent registered public accounting firm, as stated in their report
included herein.




Changes in Internal Control over Financial
Reporting




We
maintain a system of internal control over financial reporting that is designed
to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with accounting principles generally accepted in the United States. Based on the
most recent evaluation, we have concluded that no significant changes in our
internal control over financial reporting occurred during the last fiscal
quarter that have materially affected or are reasonably likely to materially
affect, our internal control over financial reporting.




InherentLimitations on Effectiveness of
Controls




Internal
control over financial reporting may not prevent or detect all errors and all
fraud.  Also, projections of any evaluation of effectiveness of
internal control to future periods are subject to the risk that controls may
become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.






Item 9B.
              Other
      Information.




None




PART III






Item
      10.
            Directors and Executive Officers of the
      Registrant




Directors.  The
following table sets forth the name and age of each of the Company's current
directors and the positions each held on February 15, 2008.




Name
            Position
            Age
            Director
      Since
            Year
              Term
      of Office ExpiresPatrick
      T. Manning
            Chairman
      of the Board of Directors & Chief Executive Officer
            62
            2001
            2008Joseph
      P. Harper, Sr.
            President,
      Treasurer & Chief Operating Officer, Director
            62
            2001
            2008John
      D. Abernathy
            Director
            70
            1994
            2009Robert
      W. Frickel
            Director
            64
            2001
            2009Donald
      P. Fusilli, Jr.
            Director
            56
            2007
            2010Maarten
      D. Hemsley
            Director
            58
            1998
            2010Christopher
      H. B. Mills
            Director
            55
            2001
            2010Milton
      L. Scott
            Director
            51
            2005
            2009David
      R. A. Steadman
            Director
            70
            2005
            2008


40
 Table of Contents




Patrick T.
Manning. 
Mr. Manning joined the predecessor of Texas Sterling Construction Co., the
Company's Texas construction subsidiary, which along with its predecessors is
referred to as TSC, in 1971 and led its move from Detroit, Michigan into the
Houston market in 1978. He has been TSC’s President and Chief Executive Officer
since 1998 and Chairman of the Board of Directors and Chief Executive Officer of
the Company since July 2001.  Mr. Manning has served on a variety
of construction industry committees, including the Gulf Coast Trenchless
Association and the Houston Contractors’ Association, where he served as a
member of the board of directors and as President from 1987 to 1993. He attended
Michigan State University from 1969 to 1972.




Joseph P.
Harper, Sr.Mr. Harper
has been employed by TSC since 1972. He was Chief Financial Officer of TSC for
approximately 25 years until August 2004, when he became Treasurer of
TSC.  In addition to his financial responsibilities, Mr. Harper
has performed both estimating and project management
functions.  Mr. Harper has been a director and the Company's
President and Chief Operating Officer since July 2001, and in May 2006 was
elected Treasurer.  Mr. Harper is a certified public
accountant.




John D.
Abernathy. 
Mr. Abernathy was Chief Operating Officer of Patton Boggs LLP, a Washington
D.C. law firm, from January 1995 through May 2004 when he retired.  He
is also a director of Par Pharmaceutical Companies, Inc., an NYSE-listed
company that manufactures generic and specialty drugs, and Neuro-Hitech, Inc., a
development-stage drug company.  Mr. Abernathy is a certified
public accountant.  In December 2005, Mr. Abernathy was elected
Lead Director by the independent members of the Board of Directors.




Robert W.
Frickel. 
Mr. Frickel is the founder and President of R.W. Frickel
Company, P.C., a public accounting firm that provides audit, tax and
consulting services primarily to companies in the construction
industry.  Prior to the founding of R.W. Frickel Company in 1974,
Mr. Frickel was employed by Ernst &
Ernst.  Mr. Frickel is a certified public
accountant.




Donald P.
Fusilli, Jr.Mr. Fusilli is the Chief Executive Officer of a marine services
subsidiary of David Evans and Associates, Inc., a company that provides
underwater mapping and analysis services.  From May 1973 until
September 2006, Mr. Fusilli served in a variety of capacities at Michael
Baker Corporation, a public company listed on the American Stock Exchange that
provides a variety of professional engineering services spanning the complete
life cycle of infrastructure and managed asset
projects.  Mr. Fusilli joined Michael Baker Corporation as an
engineer and over the course of his career rose to president and chief executive
officer in April 2001.  From September 2006 to January 2008,
Mr. Fusilli was an independent consultant providing strategic planning,
marketing development and operations management
services.  Mr. Fusilli is a director of RTI International Metals,
Inc., a New York Stock Exchange-listed company that is a leading
U.S. producer of titanium mill products and fabricated metal
components.  He holds a Civil Engineering degree from Villanova
University, a Juris Doctor degree from Duquesne University School of Law and
attended the Advanced Management Program at the Harvard Business
School.




Maarten D.
Hemsley. 
Mr. Hemsley served as the Company's President and Chief Operating Officer
from 1988 until 2001, and as Chief Financial Officer from 1998 until August
2007.  From January 2001 to May 2002, Mr. Hemsley was also a
consultant to, and thereafter has been an employee of, JO Hambro Capital
Management Limited, which is part of JO Hambro Capital Management Group Limited,
or JOHCMG, an investment management company based in the United
Kingdom.  Mr. Hemsley has served since 2001 as Fund Manager
of JOHCMG’s Leisure & Media Venture Capital Trust, plc, and since
February 2005, as Senior Fund Manager of its Trident Private Equity II
LLP investment fund.  Mr. Hemsley is a director of Tech/Ops
Sevcon, Inc., a U.S. public company that manufactures electronic controls
for electric vehicles and other equipment, and of a number of privately-held
companies in the United Kingdom.  Mr. Hemsley is a Fellow of the
Institute of Chartered Accountants in England and Wales.




41
 Table of Contents




Christopher H. B.
Mills. 
Mr. Mills is a director of JOHCMG.  Prior to founding JOHCMG in
1993, Mr. Mills was employed by Montagu Investment Management and its
successor company, Invesco MIM, as an investment manager and director, from 1975
to 1993.  He is the Chief Executive of North Atlantic Smaller
Companies Investment Trust plc, which is a part of JOHCMG and a 3.82% holder of
the Company's common stock.  Mr. Mills is a director of two
U.S. public companies, W-H Energy Services, Inc., a New York Stock
Exchange-listed company that is in the oilfield services industry, and SunLink
Healthcare Systems, Inc., a non-urban community healthcare provider for seven
hospitals and related businesses in four states in the Southwest and
Midwest.  Mr. Mills also serves as a director of a number of
public and private companies outside of the U.S. in which JOHCMG funds have
investments.




Milton L. Scott.  Mr. Scott is
Chairman and Chief Executive Officer of the Tagos Group, a strategic advisory
and services company in supply chain management, transportation and logistics,
and integrated supply.  He was previously associated with Complete
Energy Holdings, LLC, a company of which he was Managing Director until January
2006 and which he co-founded in January 2004 to acquire, own and operate power
generation assets in the United States.  From March 2003 to January
2004, Mr. Scott was a Managing Director of The StoneCap Group, an entity
formed to acquire, own and operate power generation assets.  From
October 1999 to November 2002, Mr. Scott served as Executive Vice President
and Chief Administrative Officer at Dynegy Inc., a public company that was a
market leader in power distribution, marketing and trading of gas, power and
other commodities, midstream services and electric distribution.  From
July 1977 to October 1999, Mr. Scott was with the Houston office of Arthur
Andersen LLP, a public accounting firm, where he served as partner in charge of
the Southwest Region Technology and Communications
practice.  Mr. Scott is currently the lead director and chairman
of the audit committee of W-H Energy Services,




David R. A.
Steadman. 
Mr. Steadman is President of Atlantic Management Associates, Inc., a
management services and investment group.  An engineer by profession,
Mr. Steadman served as Vice President of the Raytheon Company from 1980 until
1987 where he was responsible for commercial telecommunications and data systems
businesses in addition to setting up a corporate venture capital
portfolio.  Subsequent to that and until 1989, Mr. Steadman was
Chairman and Chief Executive Officer of GCA Corporation, a manufacturer of
semiconductor production equipment.  Mr. Steadman serves as a
director of Aavid Thermal Technologies, Inc., a provider of thermal management
solutions for the electronics industry, a privately-held
company.  Mr. Steadman also serves as Chairman of Tech/Ops
Sevcon, Inc., a public company that manufactures electronic controls for
electric vehicles and other equipment.  Mr. Steadman is a
Visiting Lecturer in Business Administration at the Darden School of the
University of Virginia.




Executive Officers.In
addition to Messrs. Manning and Harper, whose backgrounds are described above,
the following are the Company's other executive officers:




James H.
Allen, Jr.Mr. Allen became the Company's Senior Vice President & Chief
Financial Officer in August 2007.  He spent approximately
30 years with Arthur Andersen & Co., including 19 years as an
audit and business advisory partner and as head of the firm’s Houston office
construction industry practice.  After being retired for several
years, he became chief financial officer of a process chemical manufacturer and
served in that position for over three years prior to joining the
Company.  Mr. Allen is a certified public
accountant.




Roger M. Barzun.  Mr. Barzun has
been the Company's Vice President, Secretary and General Counsel since August
1991.  He was elected a Senior Vice President from May 1994 until July
2001 and again in March 2006.  Mr. Barzun has been a lawyer since
1968 and is a member of the bar of New York and
Massachusetts.  Mr. Barzun also serves as general counsel to
other corporations from time to time on a part-time basis.




42
 Table of Contents




Section 16(a) Beneficial Ownership Reporting
Compliance  Section 16(a) of the Exchange Act requires the
Company’s officers and directors, and persons who own more than 10% of the
Company’s equity securities, or insiders, to file with the Securities and
Exchange Commission (SEC) reports of beneficial ownership of those securities
and certain changes in beneficial ownership on Forms 3, 4 and 5, and to give the
Company a copy of those reports.




Based
solely upon a review of Forms 3 and 4 and amendments to them furnished to the
Company during 2007, any Forms 5 and amendments to them furnished to the Company
relating to 2007, and any written representations that no Form 5 is required,
all Section 16(a) filing requirements applicable to the Company’s insiders were
satisfied except as follows:




Mr.
Fusilli failed to timely file a Form 3, which was required by his election as a
director of the Company on March 14, 2007.  His Form 3 was filed with
the SEC on April 10, 2007.




In
September 2007, Mr. Hemsley failed to timely file a Form 4 covering sales on
September 10 and September 18, 2007 totaling 14,000 shares of the Company's
common stock.  A Form 4 reporting those sales was filed with the SEC
on October 1, 2007.




In August
2007, Mr. Mills shared voting and investment power over 600,000 shares of the
Company's common stock with North Atlantic Smaller Companies Investment Trust
plc, or NASCIT, of which he is chief executive officer.  Mr. Mills
failed to timely file a Form 4 covering sales by NASCIT on August 14, 2007
of 200 shares.  A Form 4 reporting that sale was filed with the SEC on
August 21, 2007.




Codeof Ethics.  The Company has adopted a Code of Business
Conduct & Ethics that complies with SEC rules.  The Code applies
to all the officers and in-house counsel of the Company and its subsidiaries,
and is posted on the Company’s website at www.sterlingconstructionco.com.




The Audit Committee.  The Company has a standing
audit committee established in accordance with Section 3(a)(58)(A) of the
Securities Exchange Act of 1934.  The members of the Audit Committee
are  John D. Abernathy, Chairman, Donald P. Fusilli, Jr., Milton L.
Scott and David R. A. Steadman.




Each of
the members of the Audit Committee is an independent director under the
independence standards of both Nasdaq and the SEC.  The Board of
Directors has determined that each of Messrs. Abernathy and Scott is an audit
committee financial expert.  The independent members of the Board have
appointed Mr. Abernathy Lead Director.




Item
      11.
            ExecutiveCompensation




Introduction




ThisItem 11 has two main
parts, the first contains information about the compensation of certain
executive officers of the Company and the second contains information about the
compensation of directors who are not also executive officers.




The
Company is required under applicable rules and regulations to furnish
information about the compensation of five of its executive
officers.  Because these executive officers are named in the Summary Compensation Table for 2007in this Item 11, theyare sometimes referred
to as the named executive officers.  The named executive officers are
as follows:




Patrick
T. Manning, Chairman & Chief Executive Officer


Joseph P.
Harper, Sr., President, Treasurer & Chief Operating Officer


Maarten
D. Hemsley, Chief Financial Officer (until August 10, 2007)


James H.
Allen, Jr., Chief Financial Officer (since August 10, 2007)






43
 Table of Contents




The
compensation of these executives is described and discussed in the subsections
listed below:




·
            The
      Compensation Discussion
      and Analysis, which covers how and why executive compensation was
      determined.




·
            The
      Employment Agreements of
      Named Executive Officers, which describes the important terms of
      the executives' employment
agreements.




·
            The
      Potential Payments upon
      Termination and Change-in-Control, which as its name indicates,
      describes particular provisions of the executives' employment agreements
      relating to the termination of their employment and a change in control of
      the Company.




·
            The
      Summary Compensation
      Table for 2007, which shows the cash and equity compensation the
      Company paid to the named executive officers for
  2007.




·
            The
      table of Grants of
      Plan-Based Awards for 2007, which shows details of both equity and
      non-equity awards made to the named executive officers for 2007 and
      describes the plans under which the Company made those
    awards.




·
            The
      table of Option
      Exercises and Stock Vested for 2007, which shows the number of
      shares named executive officers purchased under their stock options in
      2007 and the dollar value of the difference between the option exercise
      price and the market value of the shares on the date of
      exercise.




·
            The
      table of Outstanding
      Equity Awards at December 31, 2007, which as its name indicates,
      shows the stock options held by the named executive officers at year's end
      and gives other details of their option
awards.





44
 Table of Contents




Compensation Discussion and Analysis




Introduction.  This
discussion and analysis of executive compensation is designed to show how and
why the compensation of the named executive officers was
determined.  Their compensation is determined by the Compensation
Committee of the Board of Directors, or the Committee, whose members are three
independent directors of the Company.




During
the first half of 2007, the Company compensated Messrs. Manning and Harper under
three-year employment agreements that expired on July 18, 2007, referred to as
the prior agreements.  During the second half of 2007, the Company
compensated Messrs. Manning and Harper under employment agreements entered into
as of July 19, 2007, referred to as the new agreements.  The Company
hired Mr. Allen in July 2007 and has compensated him since then under the
terms of his employment agreement, which contains essentially the same basic
terms as those of Messrs. Manning and Harper except for compensation
levels.




Mr. Hemsley's
employment agreement was to expire on July 18, 2007 as well, but the Committee
extended its term through October 31, 2007 in order to provide a transition
period for Mr. Allen, who became Chief Financial Officer on August 10,
2007.  Following the expiration of Mr. Hemsley's employment
agreement, he ceased to be an employee, but remains a director of the
Company.




Compensation
Objectives.  The Committee's compensation objectives for each
of the named executive officers as well as for other management employees is to
provide the employee with a rate of pay for the work he does that is appropriate
in comparison to similar companies in the industry and that is considered fair
by the executive; to give the executive a significant incentive to make the
Company financially successful; and to give him an incentive to remain with the
Company.




Employment
Agreements.  The Company believes that compensating an
executive under an employment agreement has the benefit of assuring the
executive of continuity, both as to his employment and the amounts and elements
of his compensation.  At the same time, an employment agreement gives
the Company some assurance that the executive will remain with the Company for
the duration of the agreement and enables the Company to budget salary costs
over the term of the agreement.  All elements of the compensation of
the named executive officers are paid according to the terms of their employment
agreements.




The Prior
Agreements.  Under the prior agreements, executive compensation
has three main elements: a salary paid in cash, an annual cash incentive bonus,
in which payment is contingent on the Company's financial performance, and a
long-term equity element that the Company provides through the award of options
to purchase the Company's common stock.




Elements of
Compensation.  Salary is intended to reward the executive for
his current, day-to-day work.  The cash incentive bonus is intended to
be a reward for the executive's contribution to the financial success of the
Company in a given year.  Awards of equity are intended to create a
longer-term incentive for the executive to remain with the Company because the
benefit is realized, if at all, over a multi-year period.




Compensation
Levels.  The Committee based the salary levels under the prior
agreements primarily on the executive's prior salary and his level of
responsibility in the Company.  Before entering into the prior
agreements, the Committee made a relatively informal review of
publicly-available industry trade publications to ensure that the executives'
compensation fell within the range of comparable companies, both as to salary
and as to incentive compensation.




The
amount of the cash incentive bonus for Messrs. Manning, Harper and Hemsley under
the prior agreements is based on the annual budgeted earnings before payment of
interest charges, taxes, and charges for depreciation and amortization, referred
to as EBITDA, and the extent to which the budget is achieved or
exceeded.




45
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Plus
            Interest
      expense for the period;


Plus
            Depreciation
      and amortization expense for the
period;


Plus
            Federal
      and state income tax expense incurred for the
  period;


Plus
            Extraordinary
      items (to the extent negative) if any, for the
  period;


Plus
            Any
      and all fees paid to Menai Capital, LLC, and any fees paid to non-employee
      directors;


Plus
            Any
      and all parent-company charges for corporate overhead or similar
      non-operating charges;


Minus
            Extraordinary
      items (to the extent positive) if any;
and


Minus
            Interest
      income for the period.




In the
case of Messrs. Manning and Harper, the EBITDA of the Company's operating
subsidiary Texas Sterling Construction Co., or TSC, is used, and in the case of
Mr. Hemsley, the EBITDA of the Company on a consolidated basis is
used.  The budgeted EBITDA for each year must have been approved by
the Board of Directors, which has a majority of directors who are not employees
of the Company.  The cash incentive bonus plan does not have any
portion based on the executive's achievement of personal goals or
objectives.




For
Messrs. Manning and Harper, the cash incentive bonus plan has a discretionary
element that comes into effect if EBITDA exceeds a predetermined percentage of
budgeted EBITDA.  In exercising this discretion, members of the
Committee use their personal judgment of appropriate amounts after taking into
account information about the executive's work during the year, his past
compensation, his perceived contribution to the Company generally, his level of
responsibility, and any notable individual achievements or failings in the year
in question.




For
Mr. Hemsley, any additional cash incentive bonus above that earned upon the
achievement of the budgeted EBITDA target is in the discretion of the
Committee.  In exercising its discretion, the Committee takes into
account the Company's consolidated financial results, the number of non-routine
business transactions to which Mr. Hemsley devoted substantial time during
the year and any other matters the Committee deems relevant.




The
Committee believes that the award of an option to buy the Company's common stock
is a long-term element of compensation because on the date of the award, the
exercise price, or purchase price, of the shares subject to the option is the
same as the price of those shares on the open market.  Since the
recipient of a stock option will only realize its value if the market price of
the shares increases over the life of the option, the award gives the executive
an incentive to remain with the Company.




When the
prior employment agreements of Messrs. Manning and Harper were negotiated in
July 2004, they each agreed to accept stock option awards over the life of the
agreement in place of a portion of their salary to save the Company
cash.  To accomplish this, the prior agreements provide for annual
stock option awards that are larger than would otherwise have been
made.




Under the
prior agreements, the Company paid Messrs. Manning and Harper car allowances to
reflect the fact that they use their own automobiles for business purposes, such
as visiting construction sites, attending meetings with customers and providing
transportation to out-of-town business colleagues.  The Company paid
their country club dues because the clubs are often used for business purposes
and as accommodation for out-of-town business colleagues.  The payment
of Mr. Hemsley's term life insurance and long-term disability insurance
premiums is a benefit that the Company has provided to him for many years and
was continued because of that fact.




The New
Agreements.In anticipation
of the expiration of the prior agreements, in May 2007, the Committee began a
discussion of new employment agreements for Messrs. Manning and
Harper.




The
Committee's starting point was a written salary and cash incentive bonus
proposal from Messrs. Manning and Harper for themselves and for the five senior
managers of TSC.  In connection with the proposal, Messrs. Manning and
Harper stressed the importance of a team approach to compensation, which is
designed to avoid the disruptive influence of variations in compensation levels
between managers of equal importance and responsibility.  The
Committee discussed management's proposal in the course of several
meetings.  No member of senior management, including Messrs Manning or
Harper, was present at any of the Committee's deliberations and
discussions.


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 Table of Contents




Compensation Principles and
Policies.  In the course of their discussions, members of the
Committee came to a consensus on the following general compensation principles
as a guide for their further discussion of the compensation of Messrs. Manning,
Harper and Allen as well as of the five senior managers of TSC:




·
            Compensation
      should consist of two main elements, base salary and cash incentive bonus
      for the reasons discussed above.




·
            Equity
      compensation should not be an element of compensation for executives who
      already hold a substantial number of shares of the Company's common stock
      or options to purchase a substantial number of shares of common stock, or
      both.




·
            The
      cash incentive bonus element of compensation should be divided into two
      parts: one part, 60%, of the incentive bonus based on the achievement by
      the Company, on a consolidated basis, of financial goals, and the other
      part, 40%, based on the achievement by the executive of personal goals and
      objectives to be established annually by the Committee in consultation
      with the executive.




·
            Perquisites
      such as car allowances, reimbursement of club dues and the like should not
      be an element of compensation because salaries are designed to be
      sufficient for the executive to pay these items
  personally.




·
            The
      Committee should determine at the end of each year the extent to which
      each of Messrs. Manning, Harper and Allen have achieved his personal goals
      as provided in the committee’s
charter.




·
            In
      determining individual compensation levels, the Committee should take into
      account, among other things, the
following:




·
            The
      elimination of stock options as an element of compensation (except for
      Mr. Allen, who is a new
employee.)




·
            The
      executives' existing salaries.




·
            Salaries
      of comparable executives in the
industry.




·
            Wage
      inflation from 2004 through 2007, to the extent
  applicable.




·
            The
      Company's growth since July 2004 when the prior agreements became
      effective and the resulting increase in senior management
      responsibilities.




·
            The
      total amount that is appropriate for the Company to allocate to the
      compensation of all seven members of the Company's senior management given
      the Company's size and industry.




·
            The
      elimination of perquisites.




Compensation
Consultant.  To assist them in evaluating management's proposed
salary and bonus structure, in May 2007, the Committee authorized its Chairman
to retain the services of Hay Group, a large firm that performs a number of
consulting services, including the benchmarking of executive
compensation.  The Committee's Chairman instructed Hay Group to
prepare an analysis of the levels of compensation payable under the prior
agreements to Messrs. Manning, Harper and the five senior managers of TSC, and
to compare them to a representative group of similar
companies.  Mr. Allen joined the Company in July 2007 just before
Hay Group's report was finished and as a result, its analysis did not cover his
compensation.




The peer
group was selected by Hay Group in consultation with the Chairman of the
Committee and Messrs. Manning and Harper.  The peer group consisted of
eight engineering and construction companies with 2006 revenues of between $85
million and $651 million.  The following is a list of companies in the
peer group:




·
            Devcon
      International Corp.  47
 Table of Contents




·
            Furmanite
      Corporation




·
            Modtech
      Holdings Inc.




·
            Meadow
      Valley Corporation




·
            SPARTA,
      Inc. (Delaware)




·
            Great
      Lakes Dredge & Dock Company




·
            Insituform
      Technologies Inc.




·
            Michael
      Baker Corporation




The
Committee determined that although these companies are in different areas of the
construction and engineering industry, they present an appropriate range in size
and types of construction-related businesses to which to compare the
Company.




After
distributing its report to members of the Committee, two representatives of Hay
Group reviewed its findings in detail at a meeting of the Committee held at the
end of July 2007.   Hay Group performed no other services for the
Committee.  Because of the work it did for the Committee, the
Corporate Governance & Nominating Committee retained Hay Group to do a
similar analysis and report on non-employee director compensation.


The
following is a summary of the Hay Group's Executive
Compensation Report:




·
            Except
      for net income, the Company is at or about the median of the peer group in
      sales, assets, market capitalization and number of
      employees.  In total shareholder return, growth in income before
      interest and taxes, and return on investment, the Company is ahead of the
      peer group.




·
            The
      Company's 2006 net income was above the peer group and its stockholders'
      equity was 135% of the peer-group
median.




·
            Using
      the peer group, the base salaries of Messrs. Manning and Harper under the
      prior agreements were 64% and 81%, of the median, respectively; the sum of
      their base salaries and annual incentive awards were 130% and 150% of the
      median, respectively; and their total direct compensation (which includes
      equity compensation) was 86% and 93% of the median,
      respectively.




·
            Using
      Hay Group's so called national general industry database updated to July
      2007, the prior agreements' base salaries of Messrs. Manning and Harper
      were below the median, 91% and 81% respectively, but their total cash
      compensation was above the median, 144% and 132%,
      respectively.




These
numbers demonstrated to the Committee that it is the financial success of the
Company that causes the total compensation of Messrs. Manning and Harper to be
above the median.




Compensation
Levels.  It was the consensus of the Committee that both the
salary and cash incentive bonus levels of Messrs. Manning and Harper should be
significantly above the peer-group median to reflect the following:




·
            The
      Company's excellent, above-median performance in net income and
      stockholders' equity;




·
            The
      growth of the Company since 2004 and the resulting increase in the
      complexity of the business; and




·
            The
      elimination of equity as an element of
  compensation.




To
account for the elimination of long-standing perquisites, the Committee added
$25,000 to the proposed base salaries of both executives.  In
addition, the Committee took into account the fact that under the accounting
rules of FAS 123R, the elimination of equity compensation causes the proposed
$3.41 million of total compensation for the seven-person management group
consisting of Messrs. Manning, Harper and the five TSC senior managers, to be
below the total of prior years.




48
 Table of Contents




Because
of management's expressed desire for a team concept of compensation, the
Committee agreed with Messrs. Manning's and Harper's proposal that their
salaries and cash incentive bonuses be the same, reflecting their belief that
each has different but equal levels of responsibility and
expertise.




The
Committee determined that performance-based compensation should be approximately
equal to base salary after disregarding the $25,000 that represents the
elimination of perquisites.  In the case of Mr. Allen, his
performance-based compensation when combined with his equity compensation is
approximately 60% of his base salary.




As noted
above, Mr. Allen's compensation was not a subject of Hay Group's report
because he joined the Company just before the report was
presented.  The Committee established his salary based on a number of
factors, including Mr. Allen's thirty years of experience in Houston with a
major public accounting firm, including nineteen years of concentration in the
construction industry; his financial and business experience; the compensation
package requested by Mr. Allen; and Committee members' own judgment of what
are reasonable levels of compensation.  The Committee granted him the
stock option described above so that like other members of senior management, he
would have a long-term equity interest in the Company.  The Committee
determined that Mr. Allen would be compensated under the same form of
employment agreement as the one eventually agreed upon with Messrs. Manning and
Harper.




Cash Incentive Bonus Performance
Goals.  The Committee's first inclination was to have cash
incentive bonuses tied solely to a financial measurement found in the Company's
annual financial statements.  Mr. Harper advised the Committee
that EBITDA was used in the past as a measure of financial performance because
it was the number on which management believes that its performance has the most
direct effect.  Mr. Harper also noted that the threshold for
bonus achievement was 75% instead of 100% of budgeted EBITDA because base
salaries were set at a relatively low level, a fact supported by the Hay Group
report.  The relatively easily achieved cash incentive bonus together
with base salary was intended to yield fair base compensation, but was also
intended to conserve cash by keeping salaries low in years in which the Company
had especially poor financial performance and did not even achieve 75% of
budgeted EBITDA.




The
Committee agreed to maintain this concept, but determined that it would be
better structured by revising the base salary arrangements.  The
Committee divided base salary into two parts; the larger part to be paid in
periodic installments through the payroll system, or base payroll salary, and
the balance to be deferred (base deferred salary) to be paid in a lump sum after
year end only if 75% of budgeted EBITDA is achieved.  EBITDA is
defined in the new agreements in the same way as in the prior agreements,
described above.




In
keeping with its principle of basing 60% of the cash incentive bonus on the
achievement of a financial measurement that can be determined by direct
reference to the Company's financial statements, the Committee decided to use
budgeted earnings-per-share in the belief that it is a measure that most
directly affects a stockholder's investment in the Company.




2007 Transition
Terms.  The new agreements provide that the cash incentive
bonuses for 2007 under the prior agreements and the base deferred salaries under
the new agreements are to be prorated based on the number of days during 2007
that each agreement was in effect.  In 2007, the Company achieved the
75% of budgeted EBITDA goal, so that each of Messrs. Manning and Harper earned a
portion of the cash incentive bonus provided for in the prior agreements and a
portion of the base deferred salary provided for under the new
agreements.  No such transition terms are applicable to
Mr. Hemsley's bonus. Mr. Allen's base deferred salary is prorated
based on the number of days during 2007 that he was an employee.




The new
agreements also provide that cash incentive bonuses for 2007 will be based
solely on the terms of the new agreements.  Although the new
employment agreements became effective as of July 19, 2007, they were not
completed and signed until early January 2008.  As a result, no 2007
personal goals and objectives were established for Messrs. Manning, Harper or
Allen.  In light of this, the Committee agreed that the award of any
or all of the portion of the cash incentive bonus (40%) that would have been
based on the achievement of 2007 personal goals and objectives would be solely
in the discretion of the Committee.




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Termination
Events.  The obligations of the Company under the new
employment agreements in the event of the termination of the employment of the
named executive officers or a change in control of the Company are described in
detail in the section entitled Potential Payments Upon Termination
and Change-in-Control, below.




The
Committee's principle in setting termination provisions was based on the belief
that absent a termination for cause, an employee should at least receive the
base deferred salary and cash incentive bonus that he would have earned had his
employment not terminated, prorated for the portion of the year that he was an
employee.  The Committee made an exception to this in the event the
executive voluntarily resigns, in which case the Committee determined that
payment of any cash incentive bonus is not warranted because incentive bonuses
in part are designed to encourage the employee to remain in the Company's
employ.




In the
event that termination is by the Company without cause or because of an uncured
breach by the Company of the employment agreement, the executive should also
receive the benefit of his base salary for the balance of the term of the
agreement, but at least for twelve months.




The
Committee did not believe that any special payments should be made to executives
in the event of a change in control of the Company because the protections
afforded by their employment agreements against termination without cause are
unaffected by a change in control.  The executives' stock options by
their terms vest in full in the event of a change in control.  The
acceleration of vesting is based on the assumption that a change in control
often results in a change in senior management.  Absent accelerated
vesting, a termination without cause after a change in control could unfairly
reduce or eliminate the benefit of a stock option depending on when the change
occurs.  If the executive is terminated for cause, all of the
executives' stock options immediately terminate.




2007 Cash Bonus
and Incentive Awards.  In 2007, the Company achieved both its
budgeted EBITDA and its earnings-per-share goals.  As a result, each
of Messrs. Manning and Harper became entitled to the prorated portion of his
bonus under the prior agreements and his base deferred salary under the new
agreements as well as 60% of the cash incentive bonus under the new
agreements.  In the exercise of its discretion, the Committee in
February, 2007 awarded each of Messrs. Manning and Harper the entire 40% balance
of their cash incentive bonuses.  Although Mr. Allen's employment
agreement provides that for 2007 his maximum base deferred salary and cash
incentive bonus are to be prorated based on the 46% of the year in which he was
an employee, the Committee nevertheless awarded Mr. Allen two-thirds of his
annual base deferred salary and maximum cash incentive bonus.




In
exercising its discretion, the Committee took into account the following 2007
accomplishments by the Company, in each of which Messrs. Manning, Harper and
Allen played a significant role:




·
            In
      spite of adverse weather conditions in 2007, the achievement of budgeted
      EBITDA and earnings per share
goals.




·
            The
      completion of a major acquisition
(RHB);




·
            The
      completion of a refinancing of the Company's revolving line of credit;
      and




·
            The
      completion of a public offering of 1.8 million shares of the Company's
      common stock.




The
Committee awarded Mr. Barzun a discretionary cash incentive bonus of
$75,000 based on the significant role he also played in the acquisition, the
refinancing and the public offering, all of those transactions being outside his
normal duties as General Counsel, and increased his annual salary to
$75,000.




50
 Table of Contents




Because
the Company in 2007 achieved 75% of EBITDA, the Committee awarded
Mr. Hemsley a cash incentive bonus of $50,000 as provided in his employment
agreement.


All cash
incentive bonuses, including base deferred salary payments for 2007, are more
fully described in the following sections:




·
            Employment
      Agreements of Named Executive
Officers




·
            Summary
      Compensation Table for 2007




·
            Grants
      of Plan-Based Awards for 2007




51
 Table of Contents


Employment Agreements of Named Executive
Officers




During
2007, Messrs. Manning, Harper and Hemsley were compensated under similar
employment agreements that expired on July 18, 2007 (the prior agreements)
except that in the case of Mr. Hemsley, the Compensation Committee, or the
Committee, extended the expiration date of his agreement through October 31,
2007, when he ceased to be an employee of the Company.  Mr. Allen
became an employee of the Company on July 16, 2007 and was elected Senior Vice
President & Chief Financial Officer effective August 10, 2007.




Effective
July 2007, Messrs. Manning, Harper and Allen entered into new employment
agreements with the Company (the new employment agreements).  In the
case of Messrs. Manning and Harper, the new agreements became effective with the
expiration of their prior agreements.




The Prior
Agreements.  The following table describes the material
financial features of each of the prior employment agreements.




Mr. Manning
            
            
            Mr. Harper
            
            
            Mr. HemsleyBase
      Salary
            
            $
            240,000
            
            
            $
            215,000
            
            
            $
            135,000Threshold Cash Incentive
      Bonus(1)
            
            $
            125,000
            
            
            $
            125,000
            
            
            $
            50,000Maximum Additional Cash
      Incentive Bonus(1)
            
            $
            240,000
            
            
            $
            215,000
            
            
            $
            75,000Annual Option Grant(Shares)(2)
            
            
            10,000
            
            
            
            10,000
            
            
            
            2,800Vacation
      Time
            
            
            (3)
            
            
            
            (3)
            
            
            Not
      specifiedBenefits Paid by the
      Company(4)Car
      Allowance
            
            $700/month
            
            
            $700/month
            
            
            NoCountry
      Club Dues
            
            Yes
            
            
            Yes
            
            
            NoPayment
      of Commuting Expenses
            
            Yes
            
            
            Yes
            
            
            NoCompany-Paid
      Long-Term Disability Insurance
            
            No
            
            
            No
            
            
            $7,500/month
      benefitCompany-Paid
      Term Life Insurance
            
            No
            
            
            No
            
            
            $100,000
      death benefit




(1)
            This
      cash incentive bonus was based on the financial performance of TSC for
      Messrs. Manning and Harper, and of the Company for
      Mr. Hemsley.  The calculation of the cash incentive bonus
      and the additional cash incentive bonus is described below in this Item 11
      in footnote (1) to the table of Grants of Plan-Based Awards
      for 2007.




(2)
            The
      terms of these stock options are described below in this Item 11 in
      footnote (2) to the table of Grants of Plan-Based Awards
      for 2007.




(3)
            Mr. Manning
      was entitled to eight weeks of vacation per year and Mr. Harper was
      entitled to 18 weeks of vacation each year.  Mr. Harper
      could take additional vacation by forfeiting salary at the rate of $4,000
      per week and he could forfeit his vacation time and be paid for it at the
      rate of $4,000 per week.




(4)
            For
      the Company's cost of these benefits in 2007, see footnote (3) of the
      Summary Compensation
      Table for 2007, below.  52
 Table of Contents




The New
Agreements.  The new employment agreements of Messrs. Manning,
Harper and Allen became effective in July 2007 and expire on December 31,
2010.  The following table describes the material financial features
of each of the new employment agreements.




Mr. Manning
            
            
            Mr. Harper
            
            
            Mr. AllenBase
      Salary
            
            $
            365,000
            
            
            $
            365,000
            
            
            $
            250,000Base
      Deferred Salary
            
            $
            162,500
            
            
            $
            162,500
            
            
            $
            75,000Maximum
      Incentive Bonus
            
            $
            162,500
            
            
            $
            162,500
            
            
            $
            75,000Equity
      Compensation
            
            None
            
            
            None
            
            
            13,707-share
      stock option award (1)Vacation
            
            Discretionary
      (2)
            
            
            Discretionary
      (2)
            
            
            5
      weeksBenefits
      Paid by the Company
            
            None
            
            
            None
            
            
            None(3)




(1)
            The
      terms of this August 7, 2007 stock option are described below in the
      section entitled Grants
      of Plan-Based Awards for
2007.




(2)
            The
      executive is entitled to take so many days vacation per year as he
      believes is appropriate in light of the needs of the
    business.




(3)
            When
      he joined the Company, the Company, at Mr. Allen's request, agreed
      that he would continue his then current health plan rather than
      participate in the Company's health plan and would be reimbursed for up to
      $1,000 of the monthly premiums.  This arrangement is less
      expensive for the Company than if Mr. Allen had joined the Company's
      health plan.




Mr. Barzun's
Employment Agreement.  Mr. Barzun's employment agreement
became effective in March 2006 and continues until terminated by the Company or
by Mr. Barzun.  His base salary in 2007 under the terms of the
employment agreement was $62,500, subject to merit increases, and an annual cash
incentive bonus in the discretion of the Committee.  Because he is a
part-time employee, there is no provision in his agreement for paid vacation
time.




All of
the foregoing agreements provide for the election of the executive to his
current positions with the Company.  The new employment agreements of
Messrs. Manning, Harper and Allen provide that they may not compete with the
Company after termination of employment for a period of twelve months or for the
period, if any, during which the Company is obligated to continue to pay him his
base payroll salary, whichever period is longer




53
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Potential Payments upon Termination or
Change-in-Control




The
following table describes the payment and other obligations of the Company and
the named executive officers under the new agreements in the event of a
termination of employment or a change in control of the Company.  The
table also shows the estimated cost to the Company had the executive's
employment been terminated on December 31, 2007.




Patrick
T. Manning, Joseph P. Harper, Sr.& James H. Allen, Jr.




Event
            Payment
      and/or Other Obligations *1.
            Termination
      by the Company without cause(1)
            The
      Company must —·
            Continue
      to pay the executive his base salary for the balance of the term of his
      employment agreement or for one year, whichever period is
      longer;·
            Continue
      to cover him under its medical and dental plans provided the executive
      reimburses the Company the COBRA cost thereof, in which event the Company
      must reimburse the amount of the COBRA payments to the executive;
      and·
            Pay
      him a portion of any base deferred salary and cash incentive bonus that he
      would have earned had he remained an employee of the Company through the
      end of the calendar year in which his employment is terminated, based on
      the number of days during the year that he was an employee of the
      Company.Estimated
      December 31, 2007 termination payments:Messrs.
      Manning & Harper (each)
            $1,095,000
      in monthly installments plus COBRA payment reimbursement, which currently
      would be approximately $48,400 for Mr. Manning and $29,200 for Mr. Harper
      for the three year period.Mr.
      Allen
            $786,000
      in monthly installments2.
            Termination
      by reason of the executive's death
            The
      Company is obligated to pay the executive a portion of any base deferred
      salary and of any cash incentive bonus that he would have earned had he
      remained an employee of the Company through the end of the calendar year
      in which his employment terminated, based on the number of days during the
      year that he was an employee of the Company.Estimated
      termination payments:
            None3.
            Termination
      by the Company for cause(1)
            The
      Company is required to pay the executive any accrued but unpaid base
      payroll salary through the date of termination and any other
      legally-required payments through that date.
              All
      of the executive's stock options terminate.Estimated
      termination payments:
            None4.
            Involuntary
      resignation of the executive(2)
            An
      involuntary resignation, also known as a constructive termination, is
      treated under the agreement as a termination by the Company without
      cause.Estimated
      termination payments:
            See
      Event 1, above.5.
            Voluntary
      resignation by the executive
            The
      Company is obligated to pay the executive a portion of any base deferred
      salary that he would have earned had he remained an employee of the
      Company through the end of the calendar year in which he resigned, based
      on the number of days during the year that he was an employee of the
      Company.Estimated
      December 31, 2007 termination payments:
            None


6.
            A
      change in control of the Company.
            All
      the executives' unexercisable in-the-money stock options become
      exercisable in full and at December 31, 2007,  had the following
      value based upon their market value at that date less their exercise
      price:Mr.
      Manning
            $43,883Mr.
      Harper
            $4,536Mr.
      Allen
            $38,791Mr.
      Barzun
            $3,024


54
 Table of Contents




*
            The
      base payroll salaries, base deferred salaries and cash incentive bonus
      eligibility of the executives are set forth above under the heading Employment Agreements of Named
      Executive Officers.




(1)
            The
      term cause is defined in the employment agreements and means what is
      commonly referred to as cause in employment matters, such as gross
      negligence, dishonesty, insubordination, inadequate performance of
      responsibilities after notice and the like.  A termination
      without cause is a termination for any reason other than for cause, death
      or voluntary resignation.




(2)
            The
      executive is entitled to resign in the event that the Company commits a
      material breach of a material provision of his employment agreement and
      fails to cure the breach within thirty days, or, if the nature of the
      breach is one that cannot practicably be cured in thirty days, if the
      Company fails to diligently and in good faith commence a cure of the
      breach within the thirty-day
period.




Roger M.
Barzun.  In the event that Mr. Barzun's employment is
terminated for cause, the Company is only obligated to pay him his salary
through the date of termination and his outstanding options terminate on that
date.  In the event that his employment is terminated without cause,
or by reason of his death or permanent disability, the Company is obligated to
pay him his salary then in effect for a period of six months, which at December
31, 2007 would be $31,250, and to pay him within thirty days of his termination
a portion of any cash incentive bonus to which he would otherwise have been
entitled had his employment not been terminated, based on the number of days
during the year that he was an employee of the Company.  For purposes
of determining the amount of the cash incentive bonus to which he would have
been entitled, the Company is required to make such reasonable assumptions as it
determines in good faith.  In the event of a change in control of the
Company, all of Mr. Barzun’s options become exercisable in full.




Maarten D.
Hemsley.  As noted elsewhere in this Item 11,
Mr. Hemsley's employment terminated on October 31, 2007 by reason of his
voluntary resignation with the result that no termination payments were made to
him.




55
 Table of Contents





Summary Compensation Table for 2007




The
following table sets forth for calendar years 2006 and 2007 all compensation
awarded to, earned by, or paid to, Patrick T. Manning, the Company's principal
executive officer; James H. Allen, Jr., its principal financial officer, who
joined the Company on July 16, 2007; and Maarten D. Hemsley, its former
principal financial officer.




The table
also shows the same compensation information of Joseph P. Harper, Sr., the
Company's President, Treasurer & Chief Operating Officer, and Roger M.
Barzun, its Senior Vice President, Secretary & General Counsel, who are the
only other executive officers whose compensation for 2007 exceeded
$100,000.




The
Company does not pay Messrs. Manning or Harper additional compensation for
service on the Board of Directors.  The Company pays compensation to
these executive officers according to the terms of their employment
agreements.  The amounts include any compensation that was deferred by
the executive through contributions to his defined contribution plan account
under Section 401(k) of the Internal Revenue Code.  All amounts are
rounded to the nearest dollar.




Name
              and
              Principal
      Position
            Year
            
            Salary
              ($)
            
            
            Option
              Awards(1)
              ($)
            
            
            Non-Equity
              Incentive
      Plan
              Compensation(2)
              ($)
            
            
            All
      Other
              Compensation
              ($)(3)
            
            
            Total
              ($)Patrick
      T. Manning
            2006
            
            
            240,000
            
            
            
            82,883
            
            
            
            341,000
            
            
            
            38,950
            
            
            
            702,833Chairman
      of the Board &
      Chief ExecutiveOfficer
      (principal executive officer)
            2007
            
            
            296,500
            
            
            
            —
            
            
            
            325,000
            
            
            
            31,258
            
            
            
            652,758Joseph
      P. Harper, Sr.
            2006
            
            
            235,800*
            
            
            
            82,883
            
            
            
            318,500
            
            
            
            21,150
            
            
            
            658,333President,
      Treasurer & Chief Operating Officer
            2007
            
            
            282,500
            
            
            
            —
            
            
            
            325,000
            
            
            
            14,396
            
            
            
            621,896James
      H. Allen, Jr.
            2007
            
            
            115,500
            
            
            
            14,553
            
            
            
            100,000
            
            
            
            865
            
            
            
            230,918Senior
      Vice President & Chief Financial OfficerMaarten
      D. Hemsley
            2006
            
            
            129,808
            
            
            
            22,862
            
            
            
            117,500
            
            
            
            12,350
            
            
            
            282,520Chief Financial Officer
      (former principal financial officer)
            2007
            
            
            106,500
            
            
            
            27,640
            
            
            
            50,000
            
            
            
            6,823
            
            
            
            190,963Roger
      M. Barzun
              Senior
      Vice President & General Counsel, Secretary
            2007
            
            
            62,500
            
            
            
            —
            
            
            
            75,000
            
            
            
            
            
            
            
            137,500




*
            This
      includes $20,800 paid to Mr. Harper for foregoing approximately five
      weeks of the vacation he was entitled to under his prior employment
      agreement, which expired in July
2007.




(1)
            The
      value of these stock option awards is the total dollar cost of the award
      recognized by the Company in the year of grant for financial reporting
      purposes in accordance with FAS 123R.  No amounts earned by the
      executive officers have been capitalized on the balance sheet for
      2007.  The cost does not reflect any estimates made for
      financial statement reporting purposes of forfeitures by the executive
      officers related to service-based vesting
  conditions.




The
valuation of these options was made on the equity valuation assumptions
described in Note 8 of Notes
to Consolidated Financial Statements.  None of the awards has
been forfeited.  The following section, entitled Grants of Plan-Based Awards for
2007, contains a description of the basis on which these stock options
were awarded and their full grant date fair market value.




(2)
            Cash
      incentive bonuses were calculated and approved by the Committee in March
      2007 and February and March 2008.  The bonuses for 2006 were
      determined in part by the application of a formula found in the prior
      employment agreement of each executive officer and in part by the
      Committee exercising its discretion as to the amount of additional cash
      incentive bonus within the range provided for in his employment
      agreements.  Footnotes (1) and (2) to the table in the following
      section, entitled Grants
      of Plan-Based Awards for 2007, contain a description of the formula
      and its application.  56
 Table of Contents




(3)
            The
      following table shows a breakdown of the amounts shown above in the All Other Compensation
      column.  The dollar amounts are the costs of the items to the
      Company.




Type
      of Other Compensation
            Year
            
            Mr. 
      Manning
            
            
            Mr. Harper
            
            
            Mr. Hemsley
            
            
            Mr.
      AllenCar
      allowance
            2006
            
            $
            8,400
            
            
            $
            8,400
            
            
            
            —
            
            
            
            —2007
            
            $
            5,000
            
            
            $
            5,000
            
            
            
            —
            
            
            
            —Expenses
      of commuting to work
            2006
            
            $
            2,500
            
            
            $
            1,800
            
            
            
            —
            
            
            
            —2007
            
            $
            2,400
            
            
            $
            1,750
            
            
            
            —
            
            
            
            —Country
      club dues
            2006
            
            $
            25,000
            
            
            $
            4,500
            
            
            
            —
            
            
            
            —2007
            
            $
            15,000
            
            
            $
            3,420
            
            
            
            —
            
            
            
            —Company
      contribution to 401(k) Plan account
            2006
            
            $
            3,050
            
            
            $
            6,450
            
            
            $
            7,500
            
            
            
            —2007
            
            $
            8,858
            
            
            $
            4,226
            
            
            $
            6,407
            
            
            $
            865Long-term
      disability insurance premium
            2006
            
            
            —
            
            
            
            —
            
            
            $
            4,502
            
            
            
            —2007
            
            
            —
            
            
            
            —
            
            
            $
            152
            
            
            
            —Term
      life insurance premium
            2006
            
            
            —
            
            
            
            —
            
            
            $
            348
            
            
            
            —2007
            
            
            —
            
            
            
            —
            
            
            $
            264
            
            
            
            —




Grants of Plan-Based Awards for 2007




The
following table shows each grant of an award for 2007 to a named executive
officer under a Company plan.  The Company did not award any SAR's,
stock, restricted stock, restricted stock units, or similar instruments to any
of the named executive officers in 2007.




Name
            Grant
      Date
            
            Estimated
      Future Payouts
              Under
      Non-Equity Incentive
              Plan Awards(1)
              ($)
            
            
            All Other Option Awards: Number
      of Securities Underlying Options(2)
              (#)
            
            
            Exercise or Base Price of
      Option Awards(3)
              ($/share)
            
            
            GrantDateFair
              Value
      ofOption
              Awards(4)
              ($)Threshold
            
            
            Target
            
            
            MaximumPatrick
      T. Manning
            7/19/2007
            
            
            142,156
            
            
            
            239,656
            
            
            
            304,656
            
            
            
            -0-
            
            
            
            N/A
            
            
            
            N/AJoseph
      P. Harper, Sr.
            7/19/2007
            
            
            142,156
            
            
            
            239,656
            
            
            
            304,656
            
            
            
            -0-
            
            
            
            N/A
            
            
            
            N/AJames
      H. Allen, Jr.
            8/7/2007
            
            
            50,000
            
            
            
            50,000
            
            
            
            100,000
            
            
            
            13,707
            
            
            
            18.99
            
            
            $
            172,692Maarten
      D. Hemsley
            7/18/2007
            
            
            50,000
            
            
            
            75,000
            
            
            
            125,000
            
            
            
            2,800
            
            
            
            21.60
            
            
            $
            27,640Roger
      M. Barzun
            
            
            
            75,000
            
            
            
            75,000
            
            
            
            75,000
            
            
            
            -0-
            
            
            
            N/A
            
            
            
            N/A




(1)
            Non-Equity
      Incentive Plan Awards.




Messrs. Manning and
Harper.Under their
prior employment agreements, which expired in July 2007, each of Messrs. Manning
and Harper is entitled to an annual bonus of $125,000 for any year in which TSC
achieves 75% or more of its budgeted EBITDA, which is a term defined in their
agreements.  Under their new employment agreements, which took effect
upon the expiration of their prior employment agreements, each of them is
entitled to what is referred to as a base deferred salary of $162,500 for any
year in which the Company, on a consolidated basis, achieves 75% or more of its
budgeted EBITDA.  In 2007, both TSC and the Company reached the 75%
EBITDA goal.




The
transition terms of the new employment agreements provide for the pro-ration of
the prior agreement's bonus and the new agreement's base deferred salary based
on the number of days during 2007 that each agreement was in
effect.  As a result of the pro-ration, the Company paid each
executive 54.25% of his bonus under the prior agreement and 45.75% of the base
deferred salary under his new agreement.  The sum of these two amounts
is the Threshold amount
in the table above.




Under the
new agreements, the Company agrees to pay each of Messrs. Manning and Harper a
cash incentive bonus of up to $162,500.  Sixty percent of the cash
incentive bonus is payable for a year in which the Company reaches its budgeted
earnings-per-share goal, which it did in 2007.  The sum of the Threshold amount and the 60%
portion of the cash incentive bonus is the Target amount in the table
above.




57
 Table of Contents




Under the
same transition terms of the new agreements, the Compensation Committee may pay
the 40% balance of the cash incentive bonus for 2007 is in its sole discretion,
which it did.  The sum of the Target amount and the 40%
portion of the cash incentive bonus is the Maximum amount in the table
above.




In
subsequent years, the 40% portion of the cash incentive bonus will be payable
based on the extent to which the executive achieves his personal goals for the
year.




Mr. Allen.  Mr. Allen's
employment agreement has the same goal for earning a base deferred salary
($75,000) and a cash incentive bonus ($75,000) as do the new employment
agreements of Messrs. Manning and Harper, except that since Mr. Allen was an
employee for slightly less than half of 2007, his employment agreement provides
for the pro-ration of his base deferred salary and cash incentive bonus based on
the 169 days or 46% of 2007 that he was an employee.




As
described above in the Compensation Discussion &
Analysis, the Compensation Committee decided to award Mr. Allen
two-thirds of his base deferred salary and two-thirds of both the 60%
earnings-per-share portion and the 40% discretionary portion of his cash
incentive bonus.  Accordingly, in the table above, the Thresholdamount is
two-thirds of Mr. Allen's base deferred salary,the Target amount is the sum of
the Threshold amount
and two-thirds of the 60% portion of his cash incentive bonus, and the Maximumamount is the sum of
the Target amount and
two-thirds of the 40% portion of his cash incentive bonus.




Mr. Hemsley.  Under
his employment agreement, which expired by extension on October 31, 2007,
Mr. Hemsley is entitled to a cash incentive bonus of $50,000 for any year
during the term of his agreement in which the Company on a consolidated basis
achieves 75% or more of its budgeted EBITDA.  He is also eligible for
an additional cash incentive bonus not to exceed $75,000 in the discretion of
the Compensation Committee.  In exercising their discretion, members
of the Committee are to consider the Company's consolidated financial results
for the year in question, the number of non-routine business transactions to
which Mr. Hemsley devoted substantial time during the year and such other
matters as they considered relevant.  Accordingly, the Maximum amount is the sum of
the Threshold and the
Target
amounts.




Mr. Barzun.  Mr. Barzun's
cash incentive bonus for a given year is entirely in the discretion of the
Committee and is based on the Company's consolidated financial results for the
year, the number of non-routine legal transactions to which he devoted
substantial time during the year, and such other matters as the Committee deems
relevant.  Accordingly, for Mr. Barzun, his Threshold, Target and Maximum in the table above is
the bonus amount awarded to him for 2007.




(2)
            Stock
      Option Awards.The stock
      option awards in this column were all granted under the Company's 2001
      Stock Incentive Plan.  In addition to the vesting dates of these
      options, described below, they vest in full if there is a change in
      control of the Company.




The July 18, 2007 Stock
Option Award.




·
            This
      stock option was granted to Mr. Hemsley pursuant to the terms of his
      employment agreement.




·
            The
      option has a five-year term and vests, or becomes exercisable, in full on
      the date of grant.




·
            The
      exercise or purchase price of the shares subject to this option is the
      closing price of the common stock on the NASDAQ Global Select Market on
      the date of grant.  58
 Table of Contents




·
            Had
      Mr. Hemsley's employment been terminated by the Company for cause,
      which is defined in the stock option agreement, or for good cause, which
      is defined in his employment agreement, all of his options would have
      immediately terminated.




·
            Because
      his employment terminated upon the expiration of his employment agreement,
      he may exercise this stock option from the date it became exercisable
      through its expiration date.  Mr. Hemsley's employment
      agreement is described above in the section entitled Employment Agreements of Named
      Executive Officers.




The August 7, 2007 Stock
Option Award.




·
            This
      stock option was awarded by the Committee in the exercise of its
      discretion in connection with Mr. Allen's election as Senior Vice
      President & Chief Financial Officer of the
  Company.




·
            The
      option has a ten-year term and vests, or becomes exercisable, in three
      substantially equal installments on each of the first three anniversaries
      of the date of the grant.




·
            The
      exercise price, or purchase price, of the shares subject to this stock
      option is the closing price of the Company's common stock on August 7,
      2007, which was the date of the meeting of the Committee at which the
      stock option was approved.




·
            If
      Mr. Allen's employment terminates by reason of his permanent
      disability or death, or if he dies within three months after he ceases to
      be an employee, then he, his legal representative, his estate, or his
      beneficiaries (depending on the circumstances of the termination) may
      exercise the option for a period of one year or until the option's
      expiration date, whichever comes first, but only for the number of shares
      that had become exercisable on the date his employment
      terminated.




·
            If
      Mr. Allen's employment is terminated for cause, which is defined in
      the option agreement, the option immediately
  terminates.




·
            If
      Mr. Allen's employment terminates for any other reason, he may
      exercise the option for a period of ninety days after his employment
      terminates or until the expiration date of the option, whichever comes
      first, but only for the number of shares that had become exercisable on
      the date his employment terminated.




(3)
            Establishing the Option
      Exercise Price.  It is the Company's policy to use the
      closing price of the common stock on the date of the meeting at which a
      stock option award is approved as the option's per-share exercise
      price.  In the case of a stock option awarded on a date
      specified in an employment agreement, the exercise price is the closing
      price of the common stock on that
date.




(4)
            The
      grant date fair value is the value computed for financial reporting
      purposes in accordance with FAS 123R.  The valuation was made on
      the equity valuation assumptions described in Note 8 of Notes to Consolidated
      Financial Statements.




Option Exercises and Stock Vested for 2007




The
following table contains information on an aggregated basis about each exercise
of a stock option during 2007 by each of the named executive
officers.




Option
      AwardsName
            
            Number
      of Shares Acquired
              on
      Exercise
              (#)
            
            
            Value
      Realized Upon
              Exercise(1)
              ($)Patrick
      T. Manning
            
            
            —
            
            
            
            —Joseph
      P. Harper, Sr.
            
            
            —
            
            
            
            —James
      H. Allen, Jr.
            
            
            —
            
            
            
            —


59
 Table of Contents




Option
      AwardsName
            
            Number
      of Shares Acquired
              on
      Exercise
              (#)
            
            
            Value
      Realized Upon
              Exercise(1)
              ($)Maarten
      D. Hemsley
            
            
            128,424
            
            
            $
            2,714,821Roger
      M. Barzun
            
            
            9,990
            
            
            $
            207,503




(1)
            SEC
      regulations define the "Value Realized Upon Exercise" as the difference
      between the market price of the shares on the date of the purchase, and
      the option exercise price of the shares, whether or not the shares are
      sold, or if they are sold, whether or not the sale occurred on the date of
      the exercise.  60
 Table of Contents
  Outstanding Equity Awards at December 31, 2007




The
following table shows certain information concerning unexercised stock options
and stock options that have not vested outstanding on December 31, 2007 for each
named executive officer.  No other equity awards have been made to the
named executive officers.




Option
      AwardsName
            
            Number
      of
              Securities
              Underlying
              Unexercised
              Options
              (#)
              Exercisable
            
            
            Number
      of
              Securities
              Underlying
              Unexercised
              Options
              (#)
              Unexercisable
            
            
            Option
              Exercise
              Price/Share
              ($)
            
            Option
              Grant
              Date
            Option
              Expiration
              Date
            
            Vesting
      Date
              FootnotesPatrick
      T. Manning
            
            
            200
            
            
            
            800
            
            
            $
            25.21
            
            8/08/2006
            9/08/2011
            
            
            (1)10,000
            
            
            
            —
            
            
            $
            24.96
            
            7/18/2006
            7/18/2011
            
            
            (2)600
            
            
            
            900
            
            
            $
            16.78
            
            8/12/2005
            9/12/2010
            
            
            (1)10,000
            
            
            
            —
            
            
            $
            9.69
            
            7/18/2005
            7/18/2010
            
            
            (2)2,100
            
            
            
            1,400
            
            
            $
            3.10
            
            8/12/2004
            8/12/2014
            
            
            (1)10,000
            
            
            
            —
            
            
            $
            3.10
            
            8/12/2004
            8/12/2009
            
            
            (2)2,800
            
            
            
            700
            
            
            $
            3.05
            
            8/20/2003
            8/20/2013
            
            
            (1)3,500
            
            
            
            —
            
            
            $
            1.725
            
            7/24/2002
            7/24/2012
            
            
            (1)3,700
            
            
            
            —
            
            
            $
            1.50
            
            7/23/2001
            7/23/2011
            
            
            (1)Joseph
      P. Harper, Sr.
            
            
            200
            
            
            
            800
            
            
            $
            25.21
            
            8/08/2006
            9/08/2011
            
            
            (1)10,000
            
            
            
            —
            
            
            $
            24.96
            
            7/18/2006
            7/18/2011
            
            
            (2)600
            
            
            
            900
            
            
            $
            16.78
            
            8/12/2005
            9/12/2010
            
            
            (1)10,000
            
            
            
            —
            
            
            $
            9.69
            
            7/18/2005
            7/18/2010
            
            
            (2)3,500
            
            
            
            —
            
            
            $
            3.10
            
            8/12/2004
            8/12/2014
            
            
            (3)10,000
            
            
            
            —
            
            
            $
            3.10
            
            8/12/2004
            8/12/2009
            
            
            (2)3,500
            
            
            
            —
            
            
            $
            3.05
            
            8/20/2003
            8/20/2013
            
            
            (3)3,500
            
            
            
            —
            
            
            $
            1.725
            
            7/24/2002
            7/24/2012
            
            
            (3)3,700
            
            
            
            —
            
            
            $
            1.50
            
            7/23/2001
            7/23/2011
            
            
            (1)James
      H. Allen, Jr.
            
            
            —
            
            
            
            13,707
            
            
            $
            18.99
            
            8/7/2007
            8/7/2012
            
            
            (3)Maarten
      D. Hemsley
            
            
            2,800
            
            
            
            —
            
            
            $
            21.60
            
            7/18/2007
            7/18/2012
            
            
            (4)2,800
            
            
            
            —
            
            
            $
            24.96
            
            7/18/2006
            7/18/2011
            
            
            (2)2,800
            
            
            
            —
            
            
            $
            9.69
            
            7/18/2005
            7/18/2010
            
            
            (2)5,000
            
            
            
            —
            
            
            $
            3.10
            
            8/12/2004
            1/29/2008
            
            
            (5)75,000
            
            
            
            —
            
            
            $
            0.875
            
            1/13/1998
            10/27/2013
            
            
            (6)Roger
      M. Barzun
            
            
            120
            
            
            
            480
            
            
            $
            25.21
            
            8/8/2006
            9/8/2011
            
            
            (1)400
            
            
            
            600
            
            
            $
            16.78
            
            8/12/2005
            9/12/2010
            
            
            (1)2,000
            
            
            
            —
            
            
            $
            3.10
            
            8/12/2004
            8/12/2014
            
            
            (4)1,190
            
            
            
            —
            
            
            $
            0.875
            
            2/4/1998
            2/4/2008
            
            
            (4)




Vesting of Stock
Options.  If there is a change-in-control of the Company, all
the stock options then held by a named executive officer become exercisable in
full.  Absent a change in control of the Company, the options listed
above vest as described in the following footnotes:




(1)
            This
      option vests in equal installments on the first five anniversaries of its
      grant date.


(2)
            This
      option vested in a single installment on July 18,
  2007.


(3)
            This
      option vests in equal installments on the first three anniversaries of its
      grant date.


(4)
            This
      option vested in a single installment on its grant
  date.


(5)
            This
      option vests in equal installments on the grant date and the first three
      anniversaries of its grant date.


(6)
            This
      option vested in a single installment on December 18,
  1998.  61
 Table of Contents




Director Compensation for 2007




The
Company does not pay additional compensation for serving on the Board of
Directors to directors who are employees of the Company, namely Messrs. Manning,
Harper and through October 2007, Mr. Hemsley.  The following
table contains information concerning the compensation paid for 2007 to
non-employee directors.  All dollar numbers are rounded to the nearest
dollar.




Name
            
            Fees
      Earned
              or
      Paid in
              Cash
              ($)
            
            
            Stock
              Awards
              (1)(3)
              ($)
            
            
            Total(2)
              ($)John
      D. Abernathy (Lead director)
            
            $
            33,300
            
            
            $
            35,000
            
            
            $
            68,300Chairman
      of the Audit CommitteeMember
      of the Compensation CommitteeRobert
      W. Frickel
            
            $
            21,700
            
            
            $
            35,000
            
            
            $
            56,700Chairman
      of the Compensation CommitteeMember
      of the Corporate Governance & Nominating CommitteeDonald
      P. Fusilli, Jr.
            
            $
            17,350
            
            
            $
            35,000
            
            
            $
            52,350Member
      of the Audit CommitteeMember
      of the Compensation CommitteeMaarten
      D. Hemsley (for November and December 2007)
            
            $
            5,550
            
            
            
            —
            
            
            $
            5,550Christopher
      H. B. Mills
            
            $
            12,600
            
            
            $
            35,000
            
            
            $
            47,600Milton
      L. Scott
            
            $
            23,400
            
            
            $
            35,000
            
            
            $
            58,400Member
      of the Audit CommitteeMember
      of the Corporate Governance & Nominating CommitteeDavid
      R. A. Steadman
            
            $
            24,600
            
            
            $
            35,000
            
            
            $
            59,600Chairman
      of the Corporate Governance & Nominating CommitteeMember
      of the Audit Committee




(1)
            The
      aggregate value of these restricted stock awards was $210,000, including
      $140,000 recognized in 2007 for financial reporting purposes in accordance
      with FAS 123R.  No amounts earned by a director have been
      capitalized on the balance sheet for 2007.  The cost does not
      reflect any estimates made for financial statement reporting purposes of
      future forfeitures related to service-based vesting
      conditions.  The valuation of the awards was made on the equity
      valuation assumptions described in Note 8 of Notes to Consolidated
      Financial Statements.  None of the awards has been
      forfeited to date.




(2)
            During 2007, none
      of the non-employee directors received any other compensation for any
      service provided to the Company.  All directors are reimbursed
      for their reasonable out-of-pocket expenses incurred in attending meetings
      of the Board and Board committees.  Directors living outside of
      North America, currently only Mr. Mills, have the option of attending
      regularly-scheduled in-person meetings by telephone, and if they choose to
      do so, they are paid an attendance fee as if they had attended in
      person.




(3)
            The
      following table shows for each non-employee director the grant date fair
      value of each stock award that has been expensed, the aggregate number of
      shares of stock awarded, and the number of shares underlying stock options
      that were outstanding on December 31,
2007.  62
 Table of Contents




Name
            Grant
      Date
            
            Securities
      Underlying Option Awards Outstanding
              at
      December 31, 2007
              (#)
            
            
            Aggregate
      Stock Awards Outstanding
              at
      December 31, 2007
              (#)
            
            
            Grant
      Date Fair
              Value
      of Stock and
              Option
      Awards
              ($)John
      D. Abernathy
            5/1/1998
            
            
            3,000
            
            
            
            
            
            
            †5/1/1999
            
            
            3,000
            
            
            
            
            
            
            †5/1/2000
            
            
            3,000
            
            
            
            
            
            
            †5/1/2001
            
            
            1,166
            
            
            
            
            
            
            †7/23/2001
            
            
            12,000
            
            
            
            
            
            
            57,6005/19/2005
            
            
            5,000
            
            
            
            
            
            
            27,9505/7/2007
            
            
            
            
            
            
            1,598
            
            
            
            35,000Total
            
            
            
            27,166
            
            
            
            1,598
            
            
            
            N/ARobert
      W. Frickel
            7/23/2001
            
            
            12,000
            
            
            
            
            
            
            
            57,6005/19/2005
            
            
            5,000
            
            
            
            
            
            
            
            27,9505/7/2007
            
            
            
            
            
            
            1,598
            
            
            
            35,000Total
            
            
            
            17,000
            
            
            
            1,598
            
            
            
            120,550Donald
      P. Fusilli, Jr.
            5/7/2007
            
            
            —
            
            
            
            1,598
            
            
            
            35,000Maarten
      D. Hemsley
            7/18/2007
            
            
            2,800
            
            
            
            
            
            
            
            27,6407/18/2006
            
            
            2,800
            
            
            
            
            
            
            
            45,9177/18/2005
            
            
            2,800
            
            
            
            
            
            
            
            17,5348/12/2004
            
            
            5,000
            
            
            
            
            
            
            
            12,7621/13/1998
            
            
            75,000
            
            
            
            
            
            
            
            †Total
            
            
            
            88,400
            
            
            
            
            
            
            
            N/AChristopher
      H. B. Mills
            5/19/2005
            
            
            5,000
            
            
            
            
            
            
            
            27,9505/7/2007
            
            
            
            
            
            
            1,598
            
            
            
            35,000Total
            
            
            
            5,000
            
            
            
            1,598
            
            
            
            62,950Milton
      L. Scott
            5/7/2007
            
            
            
            
            
            
            1,598
            
            
            
            35,000David
      R. A. Steadman
            5/19/2005
            
            
            5,000
            
            
            
            
            
            
            
            27,9505/7/2007
            
            
            
            
            
            
            1,598
            
            
            
            35,000Total
            
            
            
            5,000
            
            
            
            1,598
            
            
            
            62,950




†These options were not
expensed.




63
 Table of Contents




Standard Director
Compensation Arrangements.  The following table shows the
standard compensation arrangements for non-employee directors that were adopted
by the Corporate Governance & Nominating Committee of the Board on May 10,
2006.




Annual
      FeesAnnual
      Fees
            Each
      Non-Employee Director


$7,500An
      award (on the date of each Annual Meeting of Stockholders) of restricted
      stock that has an accounting income charge under FAS 123R of $35,000 per
      grant.*


Additional
      Annual Fees for Committee ChairmenChairman
      of the Audit Committee
            
            $
            7,500Chairman
      of the Compensation Committee
            
            $
            2,500Chairman
      of the Corporate Governance & Nominating Committee
            
            $
            2,500


Meeting
      FeesIn-Person
      Meetings
            Per
      Director Per Meeting


Board
      Meetings
            
            $
            1,500CommitteeMeetingsAudit
      Committee Meetingson
      the same day as a Board meeting
            
            $
            1,000on
      a day other than a Board meeting day
            
            $
            1,500Other
      Committee Meetingson
      the same day as a Board meeting
            
            $
            500on
      a day other than a Board meeting day
            
            $
            750Telephonic Meetings(Board & committee
      meetings)One
      hour or longer
            
            $
            1,000Less
      than one hour
            
            $
            300




*
            The
      shares awarded are restricted because they may not be sold, assigned,
      transferred, pledged or otherwise disposed of until the restrictions
      expire.  The restrictions for the award made on May 7, 2007
      expire on the day before the 2008 Annual Meeting of Stockholders, but
      earlier if the director dies or becomes disabled or if there is a change
      in control of the Company.  The shares are forfeited if before
      the restrictions expire, the director ceases to be a director other than
      because of his death or disability.




Compensation Committee Interlocks and Insider
Participation




During
2007, Robert W. Frickel (Chairman), John D. Abernathy, Donald P. Fusilli, Jr.
(since May 2007) and Milton L. Scott (until May 2007) served on the Compensation
Committee.  None of these Compensation Committee members is or has
been an officer or employee of the Company.  Mr. Frickel is
President of R.W. Frickel Company, P.C., an accounting firm that performs
certain accounting and tax services for the Company.  In 2007, the
Company paid or accrued for payment to R.W. Frickel Company approximately
$63,580 in fees.  The Company estimates that during 2008, the fees of
R.W. Frickel Company will be approximately the same as in 2007.




None of
the Company's executive officers served as a director or member of the
compensation committee, or any other committee serving an equivalent function,
of any other entity that has an executive officer who is serving or during 2007
served as a director or member of the Compensation Committee of the
Company.




Compensation Committee Report




The
Compensation Committee of the Board of Directors has reviewed and discussed with
management the Compensation
Discussion and Analysis set forth above in this Item 11.  Based
on that review and those discussions, the Compensation Committee recommended to
the Board of Directors that the Compensation Discussion and
Analysis be included in this Annual Report on Form 10-K.




64
 Table of Contents





Submitted
by the members of the Compensation Committee on March 17, 2008




Robert W.
Frickel, Chairman


John D.
Abernathy


Donald P.
Fusilli, Jr.




Item 12.
            Security
      Ownership of Certain Beneficial Owners and Managementand Related Stockholder
      Matters.




Equity Compensation Plan Information.  The
following table contains information at December 31, 2007 about compensation
plans (including individual compensation arrangements) under which the Company
has authorized the issuance of equity securities.




Plan Category(1)
            
            Number
      of Securities to be issued upon exercise of outstanding options, warrants
      and rights
            
            
            Weighted-average
              exercise
      price of outstanding options,
              warrants
      and rights
            
            
            Number
      of securities remaining available for future issuance under equity
      compensation plans, excluding securities reflected in
              column
      (a)(a)
            
            
            (b)
            
            
            (c)Equity
      compensation plans approved by security holders:
            
            
            543,496
            
            
            $
            5.30
            
            
            
            83,736




(1)
            There
      is no outstanding compensation plan (including individual compensation
      arrangements) under which the Company has authorized the issuance of
      equity securities that has not been approved by
    stockholders.




Security
Ownership of Certain Beneficial Owners and Management.  The
following table sets forth certain information at February 15, 2008 about the
beneficial ownership of shares of the Company's common stock by each person or
entity known to the Company to own beneficially more than 5% of the outstanding
shares of common stock; by each director; by each executive officer named above
in Item 11. — Executive
Compensation, under the heading Summary Compensation Table for
2007; and by all directors and executive officers as a
group.  The Company has no other class of equity securities
outstanding.


Based on
information furnished by the beneficial owners, the Company believes that those
owners have sole investment and voting power over the shares of common stock
shown as beneficially owned by them, except as stated otherwise in the footnotes
to the table.




Rule
13d-3(d)(1) of the Securities Exchange Act of 1934 requires that the percentages
listed in the following table assume for each person or group the acquisition of
all shares that the person or group can acquire within sixty days of February
15, 2008, for instance by the exercise of a stock option, but not the
acquisition of the shares that can be acquired in that period by any other
person or group listed.




Except
for Mr. Mills and the entities listed below, the address of each person is the
address of the Company.




65
 Table of Contents




Name
      and Address of Beneficial Owner
            
            Number
      of Outstanding Shares of Common Stock
              Owned
            
            
            Shares
      Subject to
              Purchase*
            
            
            Total
      Beneficial
              Ownership
            
            
            Percent
              of
      ClassNorth
      Atlantic Smaller Companies
              Investment
      Trust plc (or NASCIT)
              c/o North
      Atlantic Value LLP, Ryder
              Court,
      14 Ryder Street,
              London
      SW1Y 6QB, England
            
            
            500,000
            (1)
            
            
            —
            
            
            
            500,000
            
            
            
            3.82
            %North
      Atlantic Value LLP (or NAV)
              Ryder
      Court, 14 Ryder Street,
              London
      SW1Y 6QB, England
            
            
            500,000
            (1)
            
            
            —
            
            
            
            500,000
            
            
            
            3.82
            %John
      D. Abernathy
            
            
            29,801
            (2)
            
            
            27,166
            
            
            
            56,967
            
            
            
            †Robert
      W. Frickel
            
            
            64,805
            (2)
            
            
            17,000
            
            
            
            81,805
            
            
            
            †Donald
      P. Fusilli, Jr.
            
            
            1,598
            (2)
            
            
            —
            
            
            
            1,598
            
            
            
            †Joseph
      P. Harper, Sr.
            
            
            550,141
            (3)
            
            
            172,574
            
            
            
            722,715
            
            
            
            4.20
            %Maarten
      D. Hemsley
            
            
            246,924
            (4)
            
            
            88,400
            
            
            
            335,324
            
            
            
            2.08
            %Patrick
      T. Manning
            
            
            132,500
            (5)
            
            
            65,120
            
            
            
            197,620
            
            
            
            1.01
            %Christopher
      H. B. Mills
              c/o
      North Atlantic Value LLP, Ryder
              Court,
      14 Ryder Street,
              London
      SW1Y 6QB, England
            
            
            514,805
            (2)(6)
            
            
            5,000
            
            
            
            519,805
            
            
            
            3.93
            %Milton
      L. Scott
            
            
            2,805
            (2)
            
            
            —
            
            
            
            2,805
            
            
            
            †David
      R. A. Steadman
            
            
            16,805
            (2)
            
            
            5,000
            
            
            
            21,805
            
            
            
            †All
      directors and executive officers as a group (10 persons)
            
            
            1,573,047
            (7)
            
            
            382,780
            (7)
            
            
            1,955827
            (7)
            
            
            14.57
            %




*
            These
      are the shares that the entity or person can acquire within sixty days of
      February 15, 2008.




†
            Less
      than one percent.




(1)
            According
      to a Form 13G/A (Amendment No. 4) filed with the Securities and Exchange
      Commission on February 7, 2008, each of NASCIT, NAV and Mr. Mills have
      shared voting and investment power over these
  shares.




(2)
            This
      number includes, or in the case of Mr. Fusilli, consists entirely of,
      1,598 restricted shares awarded to non-employee directors described above
      in Item 11. — Executive
      Compensation in footnote (1) to the Director Compensation Table
      for 2007.  The restrictions expire on the day preceding
      the 2008 Annual Meeting of Stockholders, but earlier if the director dies
      or becomes disabled or if there is a change in control of the
      Company.  The shares are forfeited before the expiration of the
      restrictions if the director ceases to be a director other than because of
      his death or disability.




(3)
            This
      number includes 8,000 shares held by Mr. Harper as custodian for his
      grandchildren.




(4)
            This
      number includes 10,000 shares owned by the Maarten and Mavis Hemsley
      Family Foundation as to which Mr. Hemsley has shared voting and investment
      power with his wife and two
daughters.




(5)
            Of
      these shares 100,000 have been pledged to Mr. Manning's broker to secure a
      line of credit with the broker of up to $1.5
  million.




(6)
            This
      number consists of the 500,000 shares owned by NASCIT; 13,207 shares owned
      by Mr. Mills personally over which he claims sole voting and investment
      power; and the 1,598 restricted shares the Company awarded to each
      non-employee director described above in footnote
  (2).




(7)
            See
      the footnotes above for a description of certain of the shares included in
      this total.  66
 Table of Contents




Item
      13.
            Certain
      Relationships and Related Transactions, and Director
      Independence




Transactions with Related Persons.




Maarten D.
Hemsley.  At December 31, 2007, NASCIT held 3.82% of the
Company's outstanding common stock.  NASCIT is a part of JO Hambro
Capital Management Group Limited, or JOHCMG, an investment company and fund
manager located in the United Kingdom.  From January 2001 until May
2002, Mr. Hemsley was a consultant to JO Hambro Capital Management Limited,
or JOHCM, which is part of JOHCMG, and since May 2002 has been an employee of
JOHCM.  Mr. Hemsley has served since 2001 as Fund Manager of JOHCMG's
Leisure & Media Venture Capital Trust, plc, and since February 2005, as
Senior Fund Manager of its Trident Private Equity II LLP investment
fund.  Neither of those funds was or is an investor in the Company or
any of the Company's affiliates.




Robert W.
Frickel.  Mr. Frickel is President of R.W. Frickel Company,
P.C., an accounting firm based in Michigan that performs certain accounting and
tax services for the Company.  In 2007, the Company paid or accrued
for payment to R.W. Frickel Company approximately $63,580 in
fees.  The Company estimates that during 2008, the fees of R.W.
Frickel Company will be approximately the same as in 2007.




Joseph P. Harper,
Jr.  Joseph P. Harper, Jr. is Chief Financial Officer of the
Company's wholly-owned subsidiary, Texas Sterling Construction Co., or TSC, and
the son of Joseph P. Harper, Sr., who is President, Treasurer & Chief
Operating Officer of the Company.  For 2007 Mr. Harper Jr.
received salary and a cash bonus aggregating approximately
$274,125.




The Paradigm
Companies.  Since July 2005, Patrick T. Manning has been the
husband of Amy Peterson, the sole beneficial owner of Paradigm Outdoor Supply,
LLC and Paradigm Outsourcing, Inc.  The Paradigm companies have
provided materials and services to the Company and to other contractors for many
years.  In 2007, the Company paid a total of approximately $1.72
million to the Paradigm companies.  The Audit Committee reviews and
approves these payments in the manner described below.




Richard H.
Buenting.  Prior to the Company's acquisition of a majority
interest in Road and Highway Builders, LLC, or RHB, Mr. Buenting, the Chief
Executive Officer of RHB, made use of RHB equipment, materials and labor for the
construction of a new home for himself and his family and then would reimbursed
RHB.  This practice, which Mr. Buenting had fully disclosed to the
Company prior to the purchase, inadvertently continued for a short period after
the acquisition during which Mr. Buenting used a total of $18,730 of RHB's
materials and labor.  The practice has ceased and Mr. Buenting has
reimbursed RHB in full.




Policiesand Procedures for the Review, Approval or
Ratification of Transactions with Related Persons.




General.  The
Board of Directors' policy on transactions between the Company and related
parties is set forth in the written charter of the Audit
Committee.  The policy requires that the Audit Committee must review
in advance the terms of any transaction by the Company with a director;
executive officer; nominee for election as director; stockholder; or any
affiliate or any of their immediate family members that involves more than
$50,000.  If the Audit Committee approves the transaction, it must do
so in compliance with Delaware law and report it to the full Board of
Directors.




Mr.
Hemsley.  Mr. Hemsley's relationship with JOHCM has not been
the subject of any approval process by the Board or the Audit Committee because,
as noted above, neither of the funds he manages were or are an investor in the
Company or any of its affiliates.




Mr.
Frickel.  The Company's Audit Committee reviews and approves
the retention of Mr. Frickel's firm and the payment of its
fees.  A description of this written procedure is found in Item 14. — Principal Accounting Fees
and Services, below, under the heading Audit and Non-Audit Service Approval
Policy.




Joseph P. Harper,
Jr.  The Compensation Committee reviews Mr. Harper, Jr.'s
salary and bonus as well as the salary and bonus of other senior managers of
TSC.  Neither Mr. Harper, Sr. nor Mr. Harper, Jr. is a member of
the Compensation Committee, which is made up entirely of independent
directors.




67
 Table of Contents




The Paradigm
Companies.  TSC engages the Paradigm companies primarily for
City of Houston projects to comply with requirements that a portion of project
contracts be subcontracted to minority and/or women-owned
businesses.  Both Paradigm companies are woman-owned
businesses.  Paradigm Outdoor Supply arranges for the purchase of
construction materials.  Paradigm delivers the materials directly to
the project site and bills the Company for them.  Paradigm Outdoor
Supply and similar companies charge a percentage commission ranging from 2% to
3% of the cost of the materials.  Paradigm Outsourcing provides
flagmen and other temporary construction personnel to contractors and charges
competitive rates for those services.




During
2007, the Company paid Paradigm Outdoor Supply a total of approximately $1.5
million for the materials it purchased for the Company.  During 2007
the Company paid Paradigm Outsourcing $221,000 for temporary personnel supplied
to the Company.




The Audit
Committee has determined that it is not practical for the Company to get more
than oral bids from Paradigm Outdoor Supply and its main competitor or to get
any competitive bids on the type of services performed by Paradigm
Outsourcing.  As a result, the Audit Committee requires management on
a quarterly basis to obtain rates from Paradigm Outdoor Supply and its main
competitor and prepare a memorandum for the Audit Committee on the results of
those calls.  On a quarterly basis, the Audit Committee approves the
continuation of business with the Paradigm companies and reviews the payments
the Company has made to the Paradigm companies in the prior
quarter.




DirectorIndependence.  The following table
shows the Company's independent directors in 2007 and the committees of the
Board of Directors on which they served.  Each of the directors listed
has in the past and continues to satisfy Nasdaq's definition of an independent
director.  Each member of the Audit Committee, Compensation Committee,
and Corporate Governance & Nominating Committees of the Board also satisfies
Nasdaq's independence standards for service on those committees.  In
addition, the members of the Audit Committee satisfy the independence
requirements of the SEC's Regulation §240.10A-3.




Name
            Committee
      AssignmentJohn
      D. Abernathy
            Audit
      Committee (Chairman)Compensation
      CommitteeRobert
      W. Frickel
            Compensation
      Committee (Chairman)Corporate
      Governance & Nominating CommitteeMilton
      L. Scott
            Audit
      CommitteeCorporate
      Governance & Nominating CommitteeDavid
      R. A. Steadman
            Corporate
      Governance & Nominating Committee (Chairman)Audit
      CommitteeDonald
      P. Fusilli, Jr.
            Audit
      CommitteeCompensation
      CommitteeChristopher
      H. B. Mills
            None




The
relationship between Mr. Frickel's accounting firm and the Company is described
above in this Item 12 under the heading Transactions with Related
Persons.




In
determining that Mr. Mills is independent under Nasdaq rules, the Board of
Directors considered the fact that Mr. Mills is the Chief Executive Officer of
NASCIT, which is a stockholder holding less than 10% of the Company's common
stock and therefore under applicable rules and regulations is not an affiliate
of the Company.  The Board also considered the payments of interest
that the Company made on a promissory note it issued to NASCIT in 2001 in
connection with the Company's acquisition of TSC and the fact that the note was
paid in full on June 30, 2005.  The Board has concluded that under
Nasdaq's standards for independence, neither of Mr. Frickel's nor Mr. Mills'
relationship to the Company adversely affects his independence.  In
reaching this conclusion, the Board also relied on the fact that both Messrs.
Frickel and Mills were directors at the time that the Company applied for the
listing of its common stock on Nasdaq and that they qualified as independent at
that time.




68
 Table of Contents




In 2005,
the Company retained Eugene Abernathy, brother of Audit Committee Chairman John
Abernathy, to assist the Company on GAAP compliance issues.  Eugene
Abernathy is a certified public accountant and a consultant who has in the past
worked at the predecessor of PricewaterhouseCoopers, a public accounting firm,
and was a member of the Construction Contractor Guide Committee that issued the
Audit and Accounting Guide for Construction Contractors under the sponsorship of
the American Institute of Certified Public Accountants.  In 2007 the
Company paid fees of $10,625 to Eugene Abernathy.  In view of the
small amount of the fees the Company has paid to Eugene Abernathy, the Board
does not consider that this relationship has any effect on John Abernathy's
independence.




Item
      14.
            Principal Accountant Fees and
  Services




The
following table sets forth the aggregate fees that the Company's independent
registered public accounting firm, Grant Thornton LLP, billed to the Company for
the years ended December 31, 2007 and 2006.




Fee
      Category
            
            2007
            
            
            Percentage
      Approved by the Audit Committee
            
            
            2006
            
            
            Percentage
      Approved by the Audit CommitteeAudit
      Fees:
            
            $
            602,900
            
            
            
            100
            %
            
            $
            529,300
            
            
            
            100
            %Audit-Related
      Fees:
            
            $
            25,500
            
            
            
            100
            %
            
            $
            110,300
            
            
            
            100
            %Tax
      Fees:
            
            $
            3,300
            
            
            
            100
            %
            
            
            —
            
            
            NAAll
      Other Fees:
            
            
            —
            
            
            NA
            
            
            
            —
            
            
            NA




Audit
Fees. In 2006
and 2007 audit fees include the fees for Grant Thornton's audit of the
consolidated financial statements included in the Company's Annual Report on
Form 10-K; reviews of the consolidated financial statements included in the
Company's quarterly reports on Form 10-Q; the resolution of issues that arose
during the audit process; and other audit services that are normally provided in
connection with statutory and regulatory filings.  For 2006 and 2007,
Grant Thornton's fees also included attestation work required by Section 404 of
the Sarbanes-Oxley Act of 2002 to enable Grant Thornton to issue an opinion on
management's assessment of the effectiveness of internal controls over financial
reporting.  For 2007, Grant Thornton's fees also included attestation
work to enable Grant Thornton to issue a report on Internal Controls over
Financial Reporting.




Audit-Related
Fees.In 2007
audit-related fees included fees in connection with the Company's October 2007
acquisition of RHB.
  Tax
Fees.Our independent registered public accounting firm
provides tax consulting services to the Company.


Auditand Non-Audit Service Approval
Policy.  In accordance with the requirements of the
Sarbanes-Oxley Act of 2002 and related rules and regulations, the Audit
Committee has adopted a policy that it believes will result in an effective and
efficient procedure to approve the services of the Company's independent
registered public accounting firm.




Audit
Services.  The Audit Committee annually approves specified
audit services engagement terms and fees and other specified audit
fees.  All other audit services must be specifically pre-approved by
the Audit Committee.  The Audit Committee monitors the audit services
engagement and must approve, if necessary, any changes in terms, conditions and
fees resulting from changes in audit scope or other items.




69
 Table of Contents




Audit-Related
Services.  Audit-related services are assurance and related
services that are reasonably related to the performance of the audit or review
of the Company's financial statements, which historically have been provided by
our independent registered public accounting firm, and are consistent with the
SEC’s rules on auditor independence.  The Audit Committee annually
approves specified audit-related services within established fee
levels.  All other audit-related services must be pre-approved by the
Audit Committee.




Tax
Fees.  As the fees related to these services are de minimis in amount, they
are approved by the Chairman of the Audit committee prior to being
incurred.




All Other
Services.  Other services, if any, are services provided by our
independent registered public accounting firm that do not fall within the
established audit, audit-related and tax services categories.  The
Audit Committee must pre-approve specified other services that do not fall
within any of the specified prohibited categories of services.




Procedures. All
requests for services that are to be provided by our independent registered
public accounting firm, which must include a detailed description of the
services to be rendered and the amount of corresponding estimated fees, are
submitted to both the Company's President and the Chairman of the Audit
Committee.  The Chief Financial Officer authorizes services that have
been approved by the Audit Committee within the pre-set limits.  If
there is any question as to whether a proposed service fits within an approved
service, the Chairman of the Audit Committee is consulted for a
determination.  The Chief Financial Officer submits to the Audit
Committee any requests for services that have not already been approved by the
Audit Committee.  The request must include an affirmation by the Chief
Financial Officer and the independent registered public accounting firm that the
request is consistent with the SEC’s rules on auditor independence.






PART IV






Item 15.
            Exhibits,Financial Statements and
Schedules.




The
following Financial Statements and Financial Statement Schedules are filed with
this Report:




Financial
Statements




Reports
of the Company's Independent Registered Public Accounting Firm


Consolidated
Balance Sheets at December 31, 2007 and December 31, 2006


Consolidated
Statements of Operations for the fiscal periods ended December 31, 2007,
December 31, 2006 and December 31, 2005


Consolidated
Statements of Stockholders' Equity for the fiscal periods ended December 31,
2007, December 31, 2006 and December 31, 2005


Consolidated
Statements of Cash Flows for the fiscal periods ended December 31, 2007,
December 31, 2006 and December 31, 2005


Notes to
the Consolidated Financial Statements




Financial Statement Schedules:
None




Exhibits




The
following exhibits are filed with this Report:




Explanatory
Note




Prior to
changing its name to Sterling Construction Company, Inc. in November 2001, the
Company was known as Hallwood Holdings Incorporated from May 1991 to July 1993;
Oakhurst Capital, Inc. from July 1993 to April 1995; and Oakhurst Company, Inc.
from April 1995 to November 2001.  References in the following exhibit
list use the name of the Company in effect at the date of the
exhibit.




70
 Table of Contents




Number
            Exhibit
      Title1.1
            Underwriting
      Agreement dated December 18, 2007 between Sterling Construction Company,
      Inc., and D. A. Davidson & Co. (incorporated by reference to Exhibit
      1.1 to Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      filed on December 20, 2007 (SEC File No. 1-31993)).2.1
            Purchase
      Agreement by and among Richard H. Buenting, Fisher Sand & Gravel Co.,
      Thomas Fisher and Sterling Construction Company, Inc. dated as of
      October 31, 2007 (incorporated by reference to Exhibit number 2.1 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).2.2
            Escrow
      Agreement by and among Sterling Construction Company, Inc., Fisher Sand
      & Gravel Co., Richard H. Buenting and Comerica Bank as Escrow Agent,
      dated as of October 31, 2007 (incorporated by reference to Exhibit number
      2.2 to Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).3.1
            Restated
      and Amended Certificate of Incorporation of Oakhurst Company, Inc., dated
      as of September 25, 1995 (incorporated by reference to Exhibit 3.1 to
      Sterling Construction Company, Inc.'s Registration Statement on Form S-1,
      filed on November 17, 2005 (SEC File No. 333-129780)).3.2
            Certificate
      of Amendment of the Certificate of Incorporation of Oakhurst Company,
      Inc., dated as of November 12, 2001 (incorporated by reference to Exhibit
      3.2 to Sterling Construction Company, Inc.'s Registration Statement on
      Form S-1, filed on November 17, 2005 (SEC File No.
      333-129780)).3.3*
            Bylaws
      of Sterling Construction Company, Inc. as amended through November 7,
      2007.4.1
            Certificate
      of Designations of Oakhurst Company, Inc.'s Series A Junior Participating
      Preferred Stock, dated as of February 10, 1998 (incorporated by reference
      to Exhibit 4.2 to its Annual Report on Form 10-K, filed on May 29, 1998
      (SEC File No. 000-19450)).4.3
            Rights
      Agreement, dated as of December 29, 1998, by and between Oakhurst Company,
      Inc. and American Stock Transfer & Trust Company, including the form
      of Series A Certificate of Designation, the form of Rights Certificate and
      the Summary of Rights attached thereto as Exhibits A, B and C,
      respectively (incorporated by reference to Exhibit 99.1 to Oakhurst
      Company, Inc.'s Registration Statement on Form 8-A, filed on January 5,
      1999 (SEC File No. 000-19450)).4.4
            Form
      of Common Stock Certificate of Sterling Construction Company, Inc.
      (incorporated by reference to Exhibit 4.5 to its Form 8-A, filed on
      January 11, 2006 (SEC File No. 011-31993)).10.1#
            Oakhurst
      Capital, Inc. 1994 Omnibus Stock Plan, with form of option agreement
      (incorporated by reference to Exhibit 10.1 to Sterling Construction
      Company, Inc.'s Registration Statement on Form S-1, filed on November 17,
      2005 (SEC File No. 333-129780)).10.2#
            Oakhurst
      Capital, Inc. 1994 Omnibus Stock Plan, as amended through December 18,
      1998, (incorporated by reference to Exhibit 10.21 to Oakhurst Company,
      Inc.'s Annual Report on Form 10-K, filed on June 1, 1999 (SEC File No.
      000-19450)).10.3#
            Oakhurst
      Capital, Inc. 1994 Non-Employee Director Stock Option Plan, with form of
      option agreement (incorporated by reference to Exhibit 10.3 to Sterling
      Construction Company, Inc.'s Registration Statement on Form S-1, filed on
      November 17, 2005 (SEC File No.
333-129780)).




71
 Table of Contents




Number
            Exhibit
      Title


10.4#
            Oakhurst
      Company, Inc. 1998 Stock Incentive Plan (incorporated by reference to
      Exhibit 10.4 to Sterling Construction Company, Inc.'s Registration
      Statement on Form S-1, filed on November 17, 2005 (SEC File No.
      333-129780)).10.5#
            Form
      of Stock Incentive Agreements under Oakhurst Company, Inc.'s 1998 Stock
      Incentive Plan (incorporated by reference to Exhibit 10.51 to Sterling
      Construction Company, Inc.'s Annual Report on Form 10-K for the year ended
      December 31, 2004, filed on March 29, 2005 (SEC File No.
      001-31993)).10.6#
            Oakhurst
      Company, Inc. 2001 Stock Incentive Plan (incorporated by reference to
      Exhibit 10.6 to Sterling Construction Company, Inc.'s Registration
      Statement on Form S-1, filed on November 17, 2005 (SEC File No.
      333-129780)).10.7#
            Forms
      of Stock Option Agreement under the Oakhurst Company, Inc. 2001 Stock
      Incentive Plan (incorporated by reference to Exhibit 10.51 to Sterling
      Construction Company, Inc.'s Annual Report on Form 10-K for the year ended
      December 31, 2004, filed on March 29, 2005 (SEC File No.
      001-31993)).10.8#*
            Summary
      of Compensation for Non Employee Directors of Sterling Construction
      Company, Inc.10.9
            Oakhurst
      Group Tax Sharing Agreement, dated as of July 18, 2001, by and
      among  Oakhurst Company, Inc., Sterling Construction Company,
      Steel City Products, Inc. and such other companies as are set forth on
      Schedule A thereto (incorporated by reference to Exhibit 10.28 to Sterling
      Construction Company, Inc.'s Transition Report on Form 10-K for the ten
      months ended December 31, 2001, filed on April 8, 2002 (SEC File No.
      000-19450)).10.10
            Fourth
      Amended and Restated Revolving Credit Loan Agreement, dated as of May 10,
      2006, by and between Comerica Bank, Sterling Construction Company, Inc.,
      Sterling General, Inc., Sterling Houston Holdings, Inc. Texas Sterling
      Construction, L.P. (incorporated by reference to Exhibit 10.1 (and
      referred to as "Amended Revolving Line of Credit Agreement with Comerica
      Bank") to Sterling Construction Company, Inc.'s  Quarterly
      Report on Form 10-Q for the fiscal quarter ended September 30, 2006, filed
      on November 13, 2006 (SEC File No. 001-31993)).10.11
            Credit
      Agreement by and among Sterling Construction Company, Inc., Texas Sterling
      Construction Co., Oakhurst Management Corporation and Comerica Bank and
      the other lenders from time to time party thereto, and Comerica Bank as
      administrative agent for the lenders, dated as of October 31, 2007
      (incorporated by reference to Exhibit 10.1 to Sterling Construction
      Company, Inc.'s Current Report on Form 8-K, Amendment No. 1 filed on
      November 21, 2007 (SEC File No. 1-31993)).10.12
            Security
      Agreement by and among Sterling Construction Company, Inc., Texas Sterling
      Construction Co., Oakhurst Management Corporation and Comerica Bank as
      administrative agent for the lenders, dated as of October 31, 2007
      (incorporated by reference to Exhibit 10.2 to Sterling Construction
      Company, Inc.'s Current Report on Form 8-K, Amendment No. 1 filed on
      November 21, 2007 (SEC File No. 1-31993)).10.13
            Joinder
      Agreement by Road and Highway Builders, LLC and Road and Highway Builders
      Inc, dated as of October 31, 2007 (incorporated by reference to Exhibit
      10.3 to Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).10.14#
            Employment
      Agreement between Richard H. Buenting and Road and Highway Builders, LLC,
      effective October 31, 2007 (incorporated by reference to Exhibit 10.4 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).




72
 Table of Contents




Number
            Exhibit
      Title


10.15#
            Employment
      Agreement dated as of July 19, 2007 between Sterling Construction Company,
      Inc. and Patrick T. Manning (incorporated by reference to Exhibit 10.1 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K filed on
      January 17, 2008 (SEC File No. 1-31993))10.16#
            Employment
      Agreement dated as of July 19, 2007 between Sterling Construction Company,
      Inc. and Joseph P. Harper, Sr. (incorporated by reference to Exhibit 10.2
      to Sterling Construction Company, Inc.'s Current Report on Form 8-K filed
      on January 17, 2008 (SEC File No. 1-31993))10.17#
            Employment
      Agreement dated as of July 16, 2007 between Sterling Construction Company,
      Inc. and James H. Allen, Jr. (incorporated by reference to Exhibit 10.3 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K filed on
      January 17, 2008 (SEC File No. 1-31993))10.18#
            Option
      Agreement dated August 7, 2007 between Sterling Construction Company, Inc.
      and James H. Allen, Jr. (incorporated by reference to Exhibit 10.4 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K filed on
      January 17, 2008 (SEC File No. 1-31993))14
            Code
      of Business Conduct and Ethics as amended on November 7, 2006
      (incorporated by reference to Exhibit 14 to Sterling Construction Company,
      Inc.'s Current Report on Form 8-K filed on November 13, 2006 (SEC File No.
      1-31993)).21
            Subsidiaries
      of Sterling Construction Company, Inc.:
              Texas
      Sterling Construction Co.
              Oakhurst
      Management Corporation
              Road
      and Highway Builders, LLC
              Road
      and Highway Builders Inc.23.1*
            Consent
      of Grant Thornton LLP.31.1*
            Certification
      of Patrick T. Manning, Chief Executive Officer of Sterling Construction
      Company, Inc.31.2*
            Certification
      of James H. Allen, Jr., Chief Financial Officer of Sterling Construction
      Company, Inc.32.0*
            Certification
      pursuant to Section 1350 of Chapter 63 of Title 18 of the United States
      Code (18 U.S.C. 1350) of Patrick T. Manning, Chief Executive Officer, and
      James H. Allen, Jr., Chief Financial
Officer.




#  Management
contract or compensatory plan or arrangement.




*  Filed
herewith.




73
 Table of Contents





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.




Sterling
      Construction Company, Inc.Dated:
      March 17, 2008
            By:
            /s/ Patrick T. ManningPatrick
      T. Manning, Chief Executive Officer(duly
      authorized officer)




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 and in the
capacities and on the dates indicated.




Signature
            
            Title
            
            Date/s/ Patrick T. Manning
            
            Chairman
      of the Board of
            
            March
      17, 2008Patrick
      T. Manning
            
            Directors;
      Chief Executive Officer (principal executive officer)/s/ Joseph P. Harper, Sr.
            
            President,
      Treasurer & Chief
            
            March
      17, 2008Joseph
      P. Harper, Sr.
            
            Operating
      Officer; Director/s/James H. Allen, Jr.
            
            Senior
      Vice President & Chief
            
            March
      17, 2008James
      H. Allen, Jr.
            
            Financial
      Officer (principal financial officer and principal accounting
      officer)/s/ John D. Abernathy
            
            Director
            
            March
      17, 2008John
      D. Abernathy/s/ Robert W. Frickel
            
            Director
            
            March
      17, 2008Robert
      W. Frickel/s/ Donald P. Fusilli, Jr.
            
            Director
            
            March
      17, 2008Donald
      P. Fusilli, Jr./s/Maarten D. Hemsley
            
            Director
            
            March
      17, 2008Maarten
      D. Hemsley/s/ Christopher H. B. Mills
            
            Director
            
            March
      17, 2008Christopher
      H. B. Mills/s/ Milton L. Scott
            
            Director
            
            March
      17, 2008Milton
      L. Scott/s/ David R. A. Steadman
            
            Director
            
            March
      17, 2008David
      R. A. Steadman  74
 Table of Contents




REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Shareholders


Sterling
Construction Company, Inc.





We have
audited Sterling Construction Company, Inc. (a Delaware Corporation) and
subsidiaries’ internal control over financial reporting as of December 31, 2007,
based on criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO). Sterling Construction Company, Inc. and
subsidiaries’ management is responsible for maintaining effective internal
control over financial reporting and for its assessment of the effectiveness of
internal control over financial reporting, included in the accompanying
Management’s Report on Internal Control Over Financial Reporting, appearing
under item9A. Our responsibility is to express an opinion on Sterling
Construction Company, Inc. and subsidiaries’ internal control over financial
reporting based on our audit.





As
indicated in the accompanying Management’s Report on Internal Control Over
Financial Reporting, management’s assessment of and conclusion on the
effectiveness of internal control over financial reporting did not include the
internal controls of Road and Highway Builders, LLC or Road and Highway
Builders, Inc., which are included in the 2007 consolidated financial statements
of Sterling Construction Company, Inc. and subsidiaries and constituted 5.6% and
6.9% of total assets and liabilities, respectively, as of December 31, 2007 and
2.3% and 3.1% of revenues and net income from continuing operations,
respectively, for the year then ended.  Our audit of internal control
over financial reporting of Sterling Construction Company, Inc. and subsidiaries
also did not include an evaluation of the internal control over financial
reporting of Road and Highway Builders, LLC or Road and Highway Builders,
Inc.





We
conducted our audit 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 effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.





A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial
statements.





Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.


F1
 Table of Contents




In our
opinion, Sterling Construction Company, Inc. and subsidiaries maintained, in all
material respects, effective internal control over financial reporting as of
December 31, 2007, based on criteria established in Internal Control—Integrated
Framework issued by COSO.





We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of Sterling
Construction Company, Inc. and subsidiaries as of December 31, 2007 and 2006 and
the related
consolidated statements of operations, stockholders’ equity, and cash flows for
each of the three years in the period ended December 31, 2007and our report dated
March 17, 2008 expressed an
unqualified opinion.







/s/ GRANT
THORNTON LLP





Houston,
Texas


March 17,
2008


F2
 Table of Contents




REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Shareholders of


Sterling
Construction Company, Inc.





We have
audited the accompanying consolidated balance sheets of Sterling Construction
Company, Inc. (a Delaware corporation) and subsidiaries as of December 31, 2007
and 2006, and the related consolidated statements of operations, stockholders’
equity, and cash flows for each of the three years in the period ended December
31, 2007.These
financial statements are the responsibility of the Company’s management.Our responsibility is
to express an opinion on these financial statements 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.An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements.An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement
presentation.We
believe that our audits provide a reasonable basis for our opinion.





In our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of Sterling Construction Company, Inc.
and subsidiaries as of December 31, 2007 and 2006, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 2007 in conformity with accounting principles generally accepted in
the United States of America.





As
discussed in Note 1 to the consolidated financial statements, the Company
adopted Statement of Financial Accounting Standards No. 123(R), “Share-Based
Payment”, on a modified prospective basis as of January 1, 2006.





We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), Sterling Construction Company, Inc. and
subsidiaries’ internal control over financial reporting as of December 31, 2007,
based on criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO)and our report dated March 17, 2008 expressed an unqualified
opinion.








/s/ GRANT
THORNTON LLP








Houston,
Texas


March 17,
2008


F3
 Table of Contents




STERLING CONSTRUCTION COMPANY, INC.
& SUBSIDIARIES




CONSOLIDATED
BALANCE SHEETS


As
of December 31, 2007 and 2006


(Amounts
in thousands, except share and per share data)





2007
            
            
            2006ASSETSCurrent
      assets:Cash
      and cash equivalents
            
            $
            80,649
            
            
            $
            28,466Short-term
      investments
            
            
            54
            
            
            
            26,169Contracts
      receivable, including retainage
            
            
            54,394
            
            
            
            42,805Costs
      and estimated earnings in excess of billings on uncompleted
      contracts
            
            
            3,747
            
            
            
            3,157Inventories
            
            
            1,239
            
            
            
            965Deferred
      tax asset, net
            
            
            1,088
            
            
            
            4,297Note
      receivable, current
            
            
            205
            
            
            
            300Other
            
            
            1,574
            
            
            
            1,249Total
      current assets
            
            
            142,950
            
            
            
            107,408Property
      and equipment, net
            
            
            72,389
            
            
            
            46,617Goodwill
            
            
            57,232
            
            
            
            12,735Note
      receivable, long term
            
            
            —
            
            
            
            325Other
      assets
            
            
            1,944
            
            
            
            687Total
      assets
            
            $
            274,515
            
            
            $
            167,772LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilities:Accounts
      payable
            
            $
            27,190
            
            
            $
            17,373Billings
      in excess of cost and estimated earnings on uncompleted
      contracts
            
            
            25,349
            
            
            
            21,536Current
      maturities of long term debt
            
            
            98
            
            
            
            123Other
      accrued expenses
            
            
            8,250
            
            
            
            5,502Total
      current liabilities
            
            
            60,887
            
            
            
            44,534Long-term
      liabilities:Long-term
      debt, net of current maturities
            
            
            65,556
            
            
            
            30,659Deferred
      tax liability, net
            
            
            3,098
            
            
            
            1,588Minority
      interest in RHB
            
            
            6,362
            
            
            
            —75,016
            
            
            
            32,247Commitments
      and contingenciesStockholders’
      equity:Preferred
      stock, par value $0.01 per share; authorized1,000,000 shares, none
      issued
            
            
            —
            
            
            
            —Common
      stock, par value $0.01 per share; authorized14,000,000 shares,
      13,006,502 and 10,875,438  shares issued
            
            
            130
            
            
            
            109Additional
      paid in capital
            
            
            147,786
            
            
            
            114,630Accumulated
      deficit
            
            
            (9,304
            )
            
            
            (23,748
            )Total
      stockholders’ equity
            
            
            138,612
            
            
            
            90,991Total
      liabilities and stockholders’ equity
            
            $
            274,515
            
            
            $
            167,772






The
accompanying notes are an integral part of these consolidated financial
statements




F4
 Table of Contents




STERLING
CONSTRUCTION COMPANY, INC. & SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF OPERATIONS


For
the year ended December 31, 2007, 2006 and 2005


(Amounts
in thousands, except share and per share data)





2007
            
            
            2006
            
            
            2005Revenues
            
            $
            306,220
            
            
            $
            249,348
            
            
            $
            219,439Cost
      of revenues
            
            
            272,534
            
            
            
            220,801
            
            
            
            195,683Gross
      profit
            
            
            33,686
            
            
            
            28,547
            
            
            
            23,756General
      and administrative expenses
            
            
            13,206
            
            
            
            10,825
            
            
            
            9,375Other
      income
            
            
            549
            
            
            
            276
            
            
            
            284Operating
      income
            
            
            21,029
            
            
            
            17,998
            
            
            
            14,665Interest
      income
            
            
            1,669
            
            
            
            1,426
            
            
            
            150Interest
      expense
            
            
            277
            
            
            
            220
            
            
            
            1,486Income
      from continuing operations before minority interest and income
      taxes
            
            
            22,421
            
            
            
            19,204
            
            
            
            13,329Minority
      interest in earnings of RHB
            
            
            62
            
            
            
            —
            
            
            
            —Income
      from continuing operations before income taxes
            
            
            22,359
            
            
            
            19,204
            
            
            
            13,329Income
      tax expense:Current
            
            
            1,290
            
            
            
            310
            
            
            
            257Deferred
            
            
            6,600
            
            
            
            6,256
            
            
            
            2,531Total
      income tax expense
            
            
            7,890
            
            
            
            6,566
            
            
            
            2,788Net
      income from continuing operations
            
            
            14,469
            
            
            
            12,638
            
            
            
            10,541Income
      (loss) from discontinued operations, including gain on disposal of $121 in
      2006, net of income taxes of $(0), $308 and $313
            
            
            (25
            )
            
            
            682
            
            
            
            559Net
      income
            
            $
            14,444
            
            
            $
            13,320
            
            
            $
            11,100Basic
      net income per share:Net
      income from continuing g operations
            
            $
            1.31
            
            
            $
            1.19
            
            
            $
            1.36Net
      income from discontinued operations
            
            
            —
            
            
            $
            0.06
            
            
            $
            0.07Net
      income
            
            $
            1.31
            
            
            $
            1.25
            
            
            $
            1.43Weighted
      average number of shares outstanding used in computing basic per share
      amounts
            
            
            11,043,948
            
            
            
            10,582,730
            
            
            
            7,775,476Diluted
      net income per share:Net
      income from continuing operations
            
            $
            1.22
            
            
            $
            1.08
            
            
            $
            1.11Net
      income from discontinued operations
            
            
            —
            
            
            $
            0.06
            
            
            $
            0.05Net
      income
            
            $
            1.22
            
            
            $
            1.14
            
            
            $
            1.16Weighted
      average number of shares outstandingused
      in computing diluted per share amounts
            
            
            11,836,176
            
            
            
            11,714,310
            
            
            
            9,537,923







The
accompanying notes are an integral part of these consolidated financial
statements




F5
 Table of Contents




STERLING
CONSTRUCTION COMPANY, INC. & SUBSIDIARIES


CONSOLIDATED
STATEMENT OF STOCKHOLDERS' EQUITY


For
the years ended December 31, 2007, 2006 and 2005


(Amounts
in thousands)






Common
      stockShares
            
            
            Amount
            
            
            Additional
              paid
      in capital
            
            
            Accumulated
              deficit
            
            
            Treasury
      stock
            
            
            TotalBalance
      at December 31, 2004
            
            
            7,379
            
            
            $
            74
            
            
            $
            80,527
            
            
            $
            (45,392
            )
            
            $
            (1
            )
            
            $
            35,208Stock
      issued upon option/warrant exercise
            
            
            786
            
            
            
            8
            
            
            
            819
            
            
            
            
            
            
            
            
            
            
            
            827Stock
      based compensation expense
            
            
            
            
            
            
            
            
            
            
            463
            
            
            
            
            
            
            
            
            
            
            
            463Tax
      benefit of stock option exercise
            
            
            
            
            
            
            
            
            
            
            1,013
            
            
            
            
            
            
            
            
            
            
            
            1,013Cancellation
      of treasury stock of SCPL
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            (1
            )
            
            
            1Net
      income
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            11,100
            
            
            
            
            
            
            
            11,100Balance
      at December 31, 2005
            
            
            8,165
            
            
            
            82
            
            
            
            82,822
            
            
            
            (34,293
            )
            
            
            —
            
            
            
            48,611Stock
      issued upon option/warrant exercise
            
            
            701
            
            
            
            7
            
            
            
            906
            
            
            
            
            
            
            
            
            
            
            
            913Stock
      based compensation expense
            
            
            
            
            
            
            
            
            
            
            991
            
            
            
            
            
            
            
            
            
            
            
            991Stock
      issued in equity offering, net of expenses
            
            
            2,003
            
            
            
            20
            
            
            
            27,019
            
            
            
            
            
            
            
            
            
            
            
            27,039Issuance
      and amortization of restricted stock
            
            
            6
            
            
            
            —
            
            
            
            117
            
            
            
            
            
            
            
            
            
            
            
            117Available
      excess tax benefits from exercise of stock options
            
            
            
            
            
            
            
            
            
            
            2,775
            
            
            
            (2,775
            )
            
            
            
            
            
            
            —Net
      income
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            13,320
            
            
            
            
            
            
            
            13,320Balance
      at December 31, 2006
            
            
            10,875
            
            
            
            109
            
            
            
            114,630
            
            
            
            (23,748
            )
            
            
            —
            
            
            
            90,991Stock
      issued upon option/warrantexercise
            
            
            241
            
            
            
            2
            
            
            
            511
            
            
            
            
            
            
            
            
            
            
            
            513Stock
      based compensation expense
            
            
            
            
            
            
            
            
            
            
            912
            
            
            
            
            
            
            
            
            
            
            
            912Issuance
      and amortization of restricted stock
            
            
            10
            
            
            
            —
            
            
            
            198
            
            
            
            
            
            
            
            
            
            
            
            198Available
      excess tax benefits fromexercise
      of stock options
            
            
            
            
            
            
            
            
            
            
            1,480
            
            
            
            
            
            
            
            
            
            
            
            1,480Stock
      issued in equity offering, netof
      expenses
            
            
            1,840
            
            
            
            18
            
            
            
            34,471
            
            
            
            
            
            
            
            
            
            
            
            34,489Issuance
      of stock to minority interest
            
            
            41
            
            
            
            1
            
            
            
            999
            
            
            
            
            
            
            
            
            
            
            
            1,000Excess
      fair value over book value of minority interest in RHB
            
            
            
            
            
            
            
            
            
            
            (5,415
            )
            
            
            
            
            
            
            
            
            
            
            (5,415
            )Net
      income
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            14,444
            
            
            
            
            
            
            
            14,444Balance
      at December 31, 2007
            
            
            13,007
            
            
            $
            130
            
            
            $
            147,786
            
            
            $
            (9,304
            )
            
            $
            —
            
            
            $
            138,612






The
accompanying notes are an integral part of this consolidated financial
statement




F6
 Table of Contents




STERLING
CONSTRUCTION COMPANY, INC. & SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF CASH FLOWS


For
the years ended December 31, 2007, 2006 and 2005


(Amounts
in thousands, except share data)


2007
                
                
                2006
                
                
                2005Net
      income
                
                $
                14,444
                
                
                $
                13,320
                
                
                $
                11,100Net
      income (loss)  from discontinued operations
                
                
                (25
                )
                
                
                682
                
                
                
                559Net
      income from continuing operations
                
                
                14,469
                
                
                
                12,638
                
                
                
                10,541Adjustments
      to reconcile income from continuing operations to net cash provided by
      continuing operating activities:Depreciation
      and amortization
                
                
                9,544
                
                
                
                7,011
                
                
                
                5,064Gain
      on sale of property and equipment
                
                
                (501
                )
                
                
                (276
                )
                
                
                (279
                )Deferred
      tax expense
                
                
                6,600
                
                
                
                6,256
                
                
                
                2,531Stock
      based compensation expense
                
                
                1,110
                
                
                
                1,108
                
                
                
                463Excess
      tax benefits from exercise of stock options
                
                
                (1,480
                )
                
                
                --
                
                
                
                --Minority
      interest in net earnings of subsidiary
                
                
                62
                
                
                
                --
                
                
                
                --Other
      changes in operating assets and liabilities:(Increase)
      in contracts receivable
                
                
                (6,588
                )
                
                
                (7,893
                )
                
                
                (8,662
                )(Increase)
      decrease in costs and estimated earnings in excess of billings on
      uncompleted contracts
                
                
                648
                
                
                
                (958
                )
                
                
                3,685(Increase)
      in inventories
                
                
                (125
                )
                
                
                (965
                )
                
                
                --(Increase)
      decrease in prepaid expenses and other assets
                
                
                (504
                )
                
                
                (46
                )
                
                
                730(Decrease)
      increase in trade payables
                
                
                6,064
                
                
                
                (3,043
                )
                
                
                6,034Increase
      in billings in excess of costs and estimated earnings on uncompleted
      contracts
                
                
                646
                
                
                
                7,901
                
                
                
                9,158Increase
      (decrease) in accrued compensation and other liabilities
                
                
                (378
                )
                
                
                1,356
                
                
                
                2,001Net
      cash provided by continuing operating activities
                
                
                29,567
                
                
                
                23,089
                
                
                
                31,266Cash
      flows from continuing operations investing activities:Cash
      paid for business combinations, net of cash acquired
                
                
                (49,334
                )
                
                
                (2,206
                )
                
                
                --Additions
      to property and equipment
                
                
                (26,319
                )
                
                
                (24,849
                )
                
                
                (11,392
                )Proceeds
      from sale of property and equipment
                
                
                1,603
                
                
                
                866
                
                
                
                420Purchases
      of short-term securities, available for sale
                
                
                (123,797
                )
                
                
                (144,192
                )
                
                
                --Sales
      of short-term securities, available for sale
                
                
                149,912
                
                
                
                118,023
                
                
                
                --Net
      cash used in continuing operations investing activities
                
                
                (47,935
                )
                
                
                (52,358
                )
                
                
                (10,972
                )Cash
      flows from continuing operations financing activities:Cumulative
      daily drawdowns – revolver
                
                
                190,199
                
                
                
                106,025
                
                
                
                139,593Cumulative
      daily reductions – revolver
                
                
                (155,199
                )
                
                
                (89,813
                )
                
                
                (139,134
                )Repayments
      under related party long term debt
                
                
                --
                
                
                
                (8,449
                )
                
                
                (2,649
                )Repayments
      under long-term obligations
                
                
                (129
                )
                
                
                (123
                )
                
                
                (113
                )Increase
      in deferred loan costs
                
                
                (1,197
                )
                
                
                (123
                )
                
                
                --Issuance
      of common stock pursuant to warrants and options exercised
                
                
                513
                
                
                
                913
                
                
                
                827Utilization
      of excess tax benefits from exercise of stock options
                
                
                1,480
                
                
                
                --
                
                
                
                --Payments
      on note receivable
                
                
                420
                
                
                
                --
                
                
                
                --Net
      proceeds from sale of common stock
                
                
                34,489
                
                
                
                27,039
                
                
                
                --Net
      cash provided by (used in) continuing operations financing
      activities
                
                
                70,576
                
                
                
                35,468
                
                
                
                (1,476
                )Net
      increase in cash and cash equivalents from continuing
      operations
                
                
                52,208
                
                
                
                6,199
                
                
                
                18,818Cash
      provided by (used in) discontinued operating activities
                
                
                (25
                )
                
                
                495
                
                
                
                (294
                )Cash
      used in discontinued operations
      investing  activities
                
                
                --
                
                
                
                4,739
                
                
                
                --Cash
      (used in) provided by  discontinued operations financing
      activities
                
                
                --
                
                
                
                (5,357
                )
                
                
                349Net
      cash (used in) provided by discontinued operations
                
                
                (25
                )
                
                
                (123
                )
                
                
                55Cash
      and cash equivalents at beginning of period
                
                
                28,466
                
                
                
                22,267
                
                
                
                3,449Cash
      and cash equivalents at end of period
                
                $
                80,649
                
                
                $
                28,466
                
                
                $
                22,267Supplemental
      disclosures of cash flow information:Cash
      paid during the period for interest, net of $53 and $14 of capitalized
      interest expense in 2007 and 2006
                
                $
                216
                
                
                $
                199
                
                
                $
                1,609Cash
      paid during the period for taxes
                
                $
                1,300
                
                
                $
                300
                
                
                $
                355Supplemental
      disclosure of non-cash financing activities:Capital
      lease obligations for new equipment
                
                
                --
                
                
                
                --
                
                
                $
                83




The
accompanying notes are an integral part of these consolidated financial
statements




F7
 Table of Contents





STERLING
CONSTRUCTION COMPANY, INC. & SUBSIDIARIES




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS






1.
            Summary
      of Business and Significant Accounting
Policies




Basis
of Presentation:




Sterling
Construction Company, Inc. (“Sterling” or “the Company”) a Delaware Corporation,
is a leading heavy civil construction company that specializes in the building,
reconstruction and repair of transportation and water infrastructure in large
and growing markets in Texas and Nevada. Our transportation infrastructure
projects include highways, roads, bridges and light rail, and our water
infrastructure projects include water, wastewater and storm drainage systems. We
provide general contracting services primarily to public sector clients
utilizing our own employees and equipment for activities including excavating,
paving, pipe installation and concrete placement. We purchase the necessary
materials for our contracts, perform approximately three-quarters of the work
required by our contracts with our own crews, and generally engage
subcontractors only for ancillary services.




Sterling
owns four  subsidiaries; Texas Sterling Construction Co. (“TSC”), a
Delaware corporation, and Road and Highway Builders, LLC (“RHB”), a Nevada
limited liability company, both of which perform construction contracts,
Oakhurst Management Corporation (“OMC”), a Texas corporation and a management
services company for Sterling and certain of its subsidiaries, and Road and
Highway Builders, Inc., an inactive Nevada corporation. The accompanying
consolidated financial statements include the accounts of subsidiaries in which
the Company has a greater than 50% ownership interest and all significant
intercompany accounts and transactions have been eliminated in consolidation.
For all years presented, the Company had no subsidiaries with ownership
interests of less than 50%.




Organization
and Business:


The
Company's business consists of the operations of a heavy civil construction
company through its subsidiaries and its headquarters is in Houston, Texas.
Until October 27, 2006, the Company also operated a smaller business, which
consisted of a wholesale distributor of automotive accessories, pet supplies and
lawn and garden products. See Note 2 for a discussion on the sale of this
discontinued operation.
  Although
we describe our business in this report in terms of the services we provide, our
base of customers and the geographic areas in which we operate, we have
concluded that our operations comprise one reportable segment pursuant to
Statement of Financial Accounting Standards No. 131 – Disclosures about Segments
of an Enterprise and Related Information.  In making this determination, we
considered that each project has similar characteristics, includes similar
services, has similar types of customers and is subject to the same regulatory
environment.  We organize, evaluate and manage our financial information
around each project when making operating decisions and assessing our overall
performance.


Use
of Estimates:




The
consolidated financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America, which
require 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 amount of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.




Certain
of the Company's accounting policies require higher degrees of judgment than
others in their application. These include the recognition of revenue and
earnings from construction contracts under the percentage of completion method,
the valuation of long-term assets, estimates for the use of the Company's net
operating loss carry forwards and the allowance for doubtful
accounts.  Management evaluates all of its estimates and judgments on
an on-going basis.




Revenue
Recognition:




Construction




The
Company's primary business since July 2001 has been as a general contractor in
the State of Texas, and, with the acquisition of RHB, Nevada where it engages in
various types of heavy civil construction projects principally for public
owners. Credit risk is minimal with public (government) owners since the Company
ascertains that funds have been appropriated by the governmental project owner
prior to commencing work on such projects. While most public contracts are
subject to termination at the election of the government entity, in the event of
termination the Company is entitled to receive the contract price for completed
work and reimbursement of termination-related costs. Credit risk with private
owners is minimized because of statutory mechanics liens, which give the Company
high priority in the event of lien foreclosures following financial difficulties
of private owners.




F8
 Table of Contents




Revenues
are recognized on the percentage-of-completion method, measured by the ratio of
costs incurred up to a given date to estimated total costs for each
contract.




Contract
costs include all direct material, labor, subcontract and other costs and those
indirect costs related to contract performance, such as indirect salaries and
wages, equipment repairs and depreciation, insurance and payroll taxes.
Administrative and general expenses are charged to expense as incurred.
Provisions for estimated losses on uncompleted contracts are made in the period
in which such losses are determined. Changes in job performance, job conditions
and estimated profitability, including those changes arising from contract
penalty provisions and final contract settlements may result in revisions to
costs and income and are recognized in the period in which the revisions are
determined. An amount attributable to contract claims is included in revenues
when realization is probable and the amount can be reliably
estimated.  Cost and estimated earnings in excess of billings included
$0.5 million and $0.25 million at December 31, 2007 and 2006, respectively, for
contract claims not approved by the customer (which includes out-of-scope work,
potential or actual disputes, and claims). The Company generally provides a
one-year warranty for workmanship under its contracts.  Warranty
claims historically have been inconsequential.




The
asset, “Costs and estimated earnings in excess of billings on uncompleted
contracts” represents revenues recognized in excess of amounts billed on these
contracts. The liability “Billings in excess of costs and estimated earnings on
uncompleted contracts” represents billings in excess of revenues recognized on
these contracts.




Cash
and Cash Equivalents and Short-term Investments:




The
Company considers all highly liquid investments with original or remaining
maturities of three months or less at the time of purchase to be cash
equivalents. Included in cash and cash equivalents at December 31, 2007 and 2006
are uninsured temporary cash investments of $21.9 million and $40.1 million,
respectively, in money market funds stated at fair value. Additionally, the
Company maintains cash in bank deposit accounts that at times may exceed
federally insured limits.




The
Company has from time-to-time invested in short-term auction-rate securities to
provide liquidity for its operating cash needs. These auction-rate securities
were for the most part municipal bonds and municipal bond funds with long-term
scheduled maturities and periodic interest rate reset dates, usually
28 days or less. Due to the liquidity provided by the interest rate reset
mechanism and the short-term nature of the investment in these securities, there
was no unrealized gain or loss on these securities at December 31, 2007 and
December 31, 2006, as the market value of these securities approximated
their cost. No gain or loss was realized on these securities during the years
ended 2007 and 2006.





The
Company classifies its short-term investments (including auction-rate
securities) as securities available for sale in accordance with
SFAS No. 115, “Accounting for Certain Investments in Debt and Equity
Securities”. At December 31, 2007 and 2006, the Company had short-term
securities available for sale of $54,000 and $26.2 million, respectively.
Subsequent to December 31, 2007, the Company has invested in other types of
short-term securities in order to minimize its exposure to the uncertainty in
the municipal bond markets.


For the
years ended December 31, 2007, 2006 and 2005, the Company recorded interest
income of $1.7 million, $1.4 million and $150,000, respectively.




F9
 Table of Contents





Contracts
Receivable:




Contracts
receivable are generally based on amounts billed to the customer. At December
31, 2007, contracts receivable included retainage of $21.1 million discussed
below which is being withheld by customers until completion of the contracts and
$2.0 million of cost and estimated earnings not yet billed on contracts
completed at that date. All other contracts receivable include only balances
approved for payment by the customer. Based upon a review of outstanding
contracts receivable, historical collection information and existing economic
conditions, management has determined that all contracts receivable at December
31, 2007 and 2006 are fully collectible, and accordingly, no allowance for
doubtful accounts against contracts receivable is required. Contracts receivable
are written off based on individual credit evaluation and specific circumstances
of the customer, when such treatment is warranted.




Retainage:




Many of
the contracts under which the Company performs work contain retainage
provisions. Retainage refers to that portion of billings made by the Company but
held for payment by the customer pending satisfactory completion of the project.
Unless reserved, the Company assumes that all amounts retained by customers
under such provisions are fully collectible. Retainage on active contracts is
classified as a current asset regardless of the term of the contract and is
generally collected within one year of the completion of a contract. Retainage
was approximately $21.1 million and $16.4 million at December 31, 2007 and
December 31, 2006, respectively, of which $3.0 million at December 31, 2007 is
expected to be collected beyond 2008.




Inventories:




The
Company's inventories are stated at the lower of cost or market as determined by
the average cost method.  Inventories at December 31, 2007 and 2006
consist primarily of raw materials, such as concrete and millings which are
expected to be utilized on construction projects in the future.  The
cost of inventory includes labor, trucking and other equipment
costs.




Property
and Equipment:




Property
and equipment are stated at cost. Depreciation and amortization are computed
using the straight-line method. The estimated useful lives used for computing
depreciation and amortization are as follows:




Building
            39
      yearsConstruction
      equipment
            5-15
      yearsLand
      improvements
            5-15
      yearsOffice
      furniture and fixtures
            3-10
      yearsTransportation
      equipment
            5
      years




Depreciation
expense was approximately $9.5 million, $6.9 million, and $5.1 million in 2007,
2006 and 2005, respectively, primarily in costs of revenues from continuing
operations, and approximately $0.1 million for discontinued operations in each
of 2006 and 2005.




Deferred
Loan Costs:




Deferred
loan costs represent loan origination fees paid to the lender and related
professional fees such as legal fees related to drafting of loan agreements.
These fees are amortized over the term of the loan. In 2007, the Company entered
into a new syndicated term Credit Facility (see Note 4) and incurred $1.3
million of loan costs, which are being amortized over the five-year term of the
loan. In 2006, TSC renewed its line of credit and incurred loan costs in the
amount of $123,000, which were being amortized over the three year term of the
Credit Facility; however, the unamortized loan costs were charged to expense in
2007 with the execution of a new line of credit.  Loan cost
amortization expense for fiscal years 2007, 2006 and 2005 was $76,000, $99,000
and $56,000, respectively.




F10
 Table of Contents




Goodwill
and Intangibles:




Goodwill
represents the excess of the cost of companies acquired over the fair value of
their net assets at the dates of acquisition.




The
Company accounts for goodwill in accordance with Statement of Financial
Accounting Standards No. 142 “Goodwill and Other Intangible
Assets”(SFAS 142).  SFAS 142 requires that: (1) goodwill and
indefinite lived intangible assets not be amortized, (2) goodwill is to be
tested for impairment at least annually at the reporting unit level, (3) the
amortization period of intangible assets with finite lives is to be no longer
limited to forty years, and (4) intangible assets deemed to have an indefinite
life are to be tested for impairment at least annually by comparing the fair
value of these assets with their recorded amounts.




Goodwill
impairment is tested during the last quarter of each calendar year. The first
step compares the book value of the Company’s stock to the fair market value of
those shares as reported by Nasdaq. If the fair market value of the stock is
greater than the calculated book value of the stock, goodwill is deemed not to
be impaired and no further testing is required. If the fair market value is less
than the calculated book value, additional steps of determining fair value of
additional assets must be taken to determine impairment. Testing step one in
2007 indicated the fair market value of the Company’s stock was in excess of its
book value and no further testing was required; based on the results of such
test for impairment, the Company concluded that no impairment of goodwill
existed as of December 31, 2007. See Note 13 related to the acquisition of RHB
and the amount of goodwill related to such acquisition.




Intangible
assets that have finite lives continue to be subject to amortization. In
addition, the Company must evaluate the remaining useful life in each reporting
period to determine whether events and circumstances warrant a revision of the
remaining period of amortization. If the estimate of an intangible asset’s
remaining life is changed, the remaining carrying amount of such asset is
amortized prospectively over that revised remaining useful life.




Equipment
under Capital Leases:




The
Company’s policy is to account for capital leases, which transfer substantially
all the benefits and risks incident to the ownership of the leased property to
the Company, as the acquisition of an asset and the incurrence of an obligation.
Under this method of accounting, the recorded value of the leased asset is
amortized principally using the straight-line method over its estimated useful
life and the obligation, including interest thereon, is reduced through payments
over the life of the lease.  Depreciation expense on leased equipment
and the related accumulated depreciation is included with that of owned
equipment.




Evaluating
Impairment of Long-Lived Assets:




When
events or changes in circumstances indicate that long-lived assets other than
goodwill may be impaired, an evaluation is performed.  The estimated
undiscounted cash flow associated with the asset is compared to the asset's
carrying amount to determine if a write-down to fair value is
required.


Federal
and State Income Taxes:




Sterling
accounts for income taxes using an asset and liability approach, with certain
recognition and measurement criteria.  Deferred tax liabilities and
assets are recognized for the future tax consequences of events that have
already been recognized in the financial statements or tax
returns.  Net deferred tax assets are recognized to the extent that
management believes that realization of such benefits is considered more likely
than not. Changes in enacted tax rates or laws may result in adjustments to the
recorded deferred tax assets or liabilities in the period that the tax law is
enacted (see Note 6).




F11
 Table of Contents





Stock-Based
Compensation:




The
Company has five stock-based incentive plans which are administered by the
Compensation Committee of the Board of Directors. Prior to August 2006, the
Company used the closing price of its common stock on the trading day
immediately preceding the date the option was approved as the grant date market
value. Since July 2006, the Company’s policy has been to use the closing price
of the common stock on the date of the meeting at which a stock option award is
approved for both the option’s per-share exercise price and the Black-Scholes
valuation model. The term of the grants under the plans do not exceed
10 years. Stock options generally vest over a three to five year period.
Refer to Note 8 for further information regarding the stock-based incentive
plans.


Effective
January 1, 2006, the Company adopted the provisions of SFAS 123(R),
using the modified prospective transition method and, therefore, has not
restated financial results for prior periods. Since January 1, 2003, the
Company has accounted for its stock-based compensation under the provisions of
SFAS No. 148 “Accounting for Stock-Based Compensation —
Transition and Disclosure” which amended SFAS Statement No. 123 to
provide alternative methods of transition for a voluntary change to the fair
value based method of accounting for stock-based employee compensation. Because
the Company had utilized the fair value method for expensing stock options in
the past several years, the impact on financial results of the transition to
SFAS 123(R) at January 1, 2006 for unvested options was not material.
The Company utilizes the Black-Scholes valuation model to estimate the fair
value of its stock option grants. The fair value is recognized on a
straight-line basis over the vesting period of the option.




If the
Company had applied the fair value recognition provisions of SFAS Statement No.
123, “Accounting for
Stock-Based Compensation”, to stock-based employee compensation as of
January 1, 2005 instead of 2006, the effect on net income and earnings per share
would not have been material to the financial statements.  Because the
Company has net operating loss carry forwards to offset taxable income, it has
been unable to recognize excess tax benefits generated from the exercise of
non-qualified stock options until the net operating loss carry forwards were
exhausted in 2007.  Therefore, there was no impact on cash flows from
operating activities and financing activities upon adoption of SFAS
123(R).


F12
 Table of Contents




Net
Income Per Share:




Basic net
income per common share is computed by dividing net income by the weighted
average number of common shares outstanding during the
period.  Diluted net income per common share is the same as basic net
income per share but assumes the exercise of any convertible subordinated debt
securities and includes dilutive stock options and warrants using the treasury
stock method.  The following table reconciles the numerators and
denominators of the basic and diluted per common share computations for net
income for 2007, 2006 and 2005 (in thousands, except per share
data):






2007
            
            
            2006
            
            
            2005Numerator:Net
      income from continuing operations, as reported
            
            $
            14,469
            
            
            $
            12,638
            
            
            $
            10,541Income
      (loss)from discontinued operations, net of taxes
            
            
            (25
            )
            
            
            682
            
            
            
            559Net
      income before interest on convertible debt
            
            $
            14,444
            
            
            $
            13,320
            
            
            $
            11,100Denominator:Weighted
      average common shares outstanding — basic
            
            
            11,044
            
            
            
            10,583
            
            
            
            7,775Shares
      for dilutive stock options and warrants
            
            
            792
            
            
            
            1,131
            
            
            
            1,763Weighted
      average common shares outstanding and assumed conversions —
      diluted
            
            
            11,836
            
            
            
            11,714
            
            
            
            9,538Basic
      earnings per common share:Net
      income from continuing operations
            
            $
            1.31
            
            
            $
            1.19
            
            
            $
            1.36Net
      income from discontinued operations
            
            
            --
            
            
            $
            0.06
            
            
            $
            0.07Net
      income
            
            $
            1.31
            
            
            $
            1.25
            
            
            $
            1.43Diluted
      earnings per common share:Net
      income from continuing operations
            
            $
            1.22
            
            
            $
            1.08
            
            
            $
            1.11Net
      income from discontinued operations
            
            
            --
            
            
            $
            0.06
            
            
            $
            0.05Net
      income
            
            $
            1.22
            
            
            $
            1.14
            
            
            $
            1.16







For the
years ended December 31, 2007 and 2006, 79,700 and 81,500 options, respectively,
were considered antidilutive as the option exercise price exceeded the average
share price.  No options or warrants were considered antidilutive for
the year ended December 31, 2005.




Derivatives




Financial
derivatives, consisting of interest rate swap agreements, are sometimes used as
part of the Company’s overall strategy to manage the risk related to changes in
interest rates.  Interest rate swap agreements are used to modify
variable rate obligations to fixed rate obligations, thereby reducing the
exposure to higher interest rates. Amounts paid or received under interest rate
swap agreements are accrued as interest rates change with the offset recorded in
interest expense.




The
Company applies SFAS No. 133,”Accounting for Derivative
Instruments and Hedging Activities.” Under SFAS No. 133, the Company's
interest rate swaps have not been designated as hedging instruments; therefore
changes in fair value are recognized in current earnings. At December 31, 2007,
all of the Company's interest rate swaps had been settled and the change in fair
value for the year was nominal.




Interest
Costs




During
2006, TSC began expansion of its maintenance facilities and office
building.  Construction was still in progress at December 31,
2007.  Accordingly, approximately $53,000 and $14,000 of interest
related to the construction of qualifying assets were capitalized as part of
construction costs during 2007 and 2006, respectively, in accordance with SFAS
No.34 “Capitalization of
Interest Cost”.




F13
 Table of Contents




Self-Insurance




The
Company is primarily self-insured for workers’ compensation liability, up to
$250,000 per occurrence, with a maximum of $2.7 million per year and has
purchased stop-loss insurance coverage for what it considers reasonable limits
above those self-insured amounts.  Operations are charged with the
cost of claims reported and an estimate of claims incurred but not
reported.  A liability for unpaid claims and associated expenses,
including incurred but not reported claims, is reflected in the balance sheet as
an accrued liability.  At December 31, 2007 and 2006, the Company’s
accrued liability for such claims was $1,067,000 and $575,000,
respectively.




The
Company also has a self-insured health plan for its employees and has purchased
stop-loss insurance to limit its exposure.  See Note 14 for details of
the health insurance plan.




Recent
Accounting Pronouncements:




In
September 2006, the FASB issued Statement of Financial Accounting Standards No.
157, “Fair Value Measurements” (SFAS 157) which establishes a framework for
measuring fair value and requires expanded disclosure about the information used
to measure fair value.  The statement applies whenever other
statements require or permit assets or liabilities to be measured at fair value,
and does not expand the use of fair value accounting in any new
circumstances.  In February 2008, the FASB delayed the effective date
by which companies must adopt the provisions of SFAS 157. The new effective date
of SFAS 157 defers implementation to fiscal years beginning after November 15,
2008, and interim periods within those fiscal years.  The adoption of
this standard is not anticipated to have a material impact on our financial
position, results of operations, or cash flows.




In
December 2007, the FASB revised Statement of Accounting Standards No. 141,
“Business Combinations” (SFAS 141(R)).  This Statement establishes
principles and requirements for how the acquirer: (a) recognizes and measures in
its financial statements the identifiable assets acquired, the liabilities
assumed, and any non-controlling interest in the acquiree; (b) recognizes and
measures the goodwill acquired in the business combination or a gain from a
bargain purchase and (c) determines what information to disclose to enable users
of the financial statements to evaluate the nature and financial effects of the
business combination.  Also, under SFAS 141(R), all direct costs of
the business combination must be charged to expense on the financial statements
of the acquirer at the time of acquisition.  SFAS 141(R) revises
previous guidance as to the recording of post-combination restricting plan costs
by requiring the acquirer to record such costs separately from the business
combination.  This statement is effective for acquisitions occurring
on or after January 1, 2009, with early adoption not permitted. The effect on
future financial statements of SFAS 141(R) when adopted cannot be determined at
this time.
  In
February 2007, the Financial Accounting Standards Board (FASB) issued SFAS
No. 159, “The Fair Value
Option for Financial Assets and Financial Liabilities – Including an amendment
to FASB Statement No. 115” (“SFAS No. 159”). This statement allows a
company to irrevocably elect fair value as a measurement attribute for certain
financial assets and financial liabilities with changes in fair value recognized
in the results of operations.  SFAS No. 159 also establishes
presentation and disclosure requirements designed to facilitate comparisons
between companies that choose different measurement attributes for similar types
of assets and liabilities.  SFAS No. 159 is effective for fiscal
years beginning after November 15, 2007. The Company is currently
evaluating the impact of adoption on its results of operations and financial
position.


In
December 2007, the FASB issued Statement of Accounting Standards No. 160,
“Non-controlling Interests in Consolidated Financial Statements” (SFAS
160).  SFAS 160 clarifies previous guidance on how consolidated
entities should account for and report non-controlling interests in consolidated
subsidiaries.  The statement standardizes the presentation of
non-controlling minority interests for both the consolidated balance sheet and
income statement.  The statement also standardizes the accounting for
changes in a parent company’s interest in a subsidiary for situations where the
change results in a deconsolidation and for situations where it does not result
in a deconsolidation.  This Statement is effective for fiscal
years beginning on or after January 1, 2009, and all interim periods within that
fiscal year, with early adoption not permitted.When this
Statement is adopted by the Company, the Minority Interest in RHB and any
similar subsequent acquisitions will be a separate component of stockholders
equity instead of a liability and earnings per common share (“EPS”) will be
segregated between EPS per common share and EPS of Minority
Interest.




F14
 Table of Contents




Reclassifications
  Certain
prior years' balances included in the prior year balance sheet have been
reclassified to conform to current year presentation.




2.
            Discontinued
      operations




In 2005
management identified one of the Company’s subsidiaries, Steel City Products,
LLC, (“SCPL”) as held for sale and accordingly, reclassified its
consolidated financial statements for all periods to separately present SCPL as
discontinued operations.




On
October 27, 2006, the Company sold the operations of SCPL to an industry related
buyer.  The Company received proceeds from the sale of $5.4 million,
which included a two-year promissory note in the amount of
$650,000.  From the proceeds, the Company repaid SCPL’s revolving line
of credit in full and retained and settled certain liabilities primarily related
to severance and bonus payments.  The Company reported a pre-tax gain
of $249,000 on the sale, equal to $121,000 after taxes.  The Company
retained an accounts receivable, which it believes is fully collectible and
recorded liabilities related to the right of the purchaser to request payment
for certain inventory not sold within a year and for  legal claims
which remained unresolved at the sale date.




Summarized
financial information for discontinued operations is presented below (in
thousands):







2007
            
            
            
            2006*
            
            
            2005Net
      sales
            
            $
            —
            
            
            $
            17,661
            
            
            $
            22,029Income
      (loss) before income taxes
            
            
            (25
            )
            
            
            741
            
            
            
            872Income
      taxes
            
            
            —
            
            
            
            180
            
            
            
            313Gain
      on disposal, net of tax of $128
            
            
            —
            
            
            
            121
            
            
            
            —Net
      income (loss) from discontinued operations
            
            $
            (25
            )
            
            $
            682
            
            
            $
            559







* through
the date of sale, October 27, 2006






3.
            Property
      and Equipment






Property
and equipment are summarized as follows (in thousands):






December
      31, 2007
            
            
            December
      31, 2006Construction
      equipment
            
            $
            83,739
            
            
            $
            56,406Transportation
      equipment
            
            
            9,279
            
            
            
            7,685Buildings
            
            
            1,573
            
            
            
            1,488Office
      equipment
            
            
            602
            
            
            
            435Construction
      in progress
            
            
            856
            
            
            
            259Land
            
            
            2,718
            
            
            
            1,204Water
      rights
            
            
            200
            
            
            
            --98,967
            
            
            
            67,477Less
      accumulated depreciation
            
            
            (26,578
            )
            
            
            (20,860
            )$
            72,389
            
            
            $
            46,617


F15
 Table of Contents




4.
            Line
      of Credit and Long-Term Debt




Long-term
debt consists of the following (in thousands):






December
      31, 2007
            
            
            December
      31, 2006TSC
      Revolver, due May 2009
            
            $
            —
            
            
            $
            30,000Sterling
      Credit Facility, due October 2012
            
            
            65,000
            
            
            
            —TSC
      mortgages due monthly through June 2016
            
            
            654
            
            
            
            78265,654
            
            
            
            30,782Less
      current maturities of long-term debt
            
            
            (98
            )
            
            
            (123
            )$
            65,556
            
            
            $
            30,659







Line
of Credit Facilities





In April
2006, the terms of TSC’s Revolver were modified to renew the line with Comerica
Bank for a term of three years, maturing on May 31, 2009 and to provide for an
increase in the line from $17.0 million to $35.0 million.  The
facility was also modified to add the Company as a co-borrower.  The
interest rate varied quarterly, based on the Company’s ratio of debt to tangible
net worth.  The credit facility continued to be subject to restrictive
covenants including the maintenance of certain financial ratios and a prescribed
level of tangible net worth.  In addition, the bank made available a
long-term facility of up to $1.5 million repayable over 15 years to finance the
expansion of the Company’s office building and maintenance facilities in
Houston, Texas.  The TSC Revolver required the payment of a quarterly
commitment fee of 0.25% per annum of the unused portion of the line of
credit.  Borrowing interest rates were based on the bank's prime rate
or on a Eurodollar rate at the option of the Company.  The interest
rate on funds borrowed under this revolver during the year ended December 31,
2006 ranged from 7.25% to 8.25% and during 2007 ranged from 7.75% to
8.25%.




On
October 31, 2007, the Company and its subsidiaries entered into a new
credit facility (“Credit Facility”) with Comerica Bank, which replaced the prior
Revolver and will mature on October 31, 2012. The Credit Facility allows
for borrowing of up to $75.0 million and is secured by all assets of the
Company, other than proceeds and other rights under our construction contracts,
which are pledged to our bond surety. The Credit Facility requires the payment
of a quarterly commitment fee of 0.25% per annum of the unused portion of the
Credit Facility. Borrowings under the Credit Facility were used to finance the
RHB acquisition, repay indebtedness outstanding under the Revolver, and finance
working capital. At December 31, 2007, the aggregate borrowings outstanding
under the Credit Facility were $65.0 million, and the aggregate amount of
letters of credit outstanding under the Credit Facility was $1.5 million,
which reduces availability under the Credit Facility.


At our
election, the loans under the new Credit Facility bear interest at either a
LIBOR-based interest rate or a prime-based interest rate. The unpaid principal
balance of each LIBOR-based loan bears interest at a variable rate equal to
LIBOR plus an amount ranging from 1.25% to 2.25% depending on the pricing
leverage ratio that we achieve. The “pricing leverage ratio” is determined by
the ratio of our average total debt, less cash and cash equivalents, to the
EBITDA that we achieve on a rolling four-quarter basis. The pricing leverage
ratio is measured quarterly. If we achieve a pricing leverage ratio of
(a) less than 1.00 to 1.00; (b) equal to or greater than 1.00 to 1.00
but less than 1.75 to 1.00; or (c) greater than or equal to 1.75 to 1.00,
then the applicable LIBOR margins will be 1.25%, 1.75% and 2.25%, respectively.
Interest on LIBOR-based loans is payable at the end of the relevant LIBOR
interest period, which must be one, two, three or six months. The new credit
facility is subject to our compliance with certain covenants, including
financial covenants relating to fixed charges, leverage, tangible net worth,
asset coverage and consolidated net losses.




F16
 Table of Contents




The
unpaid principal balance of each prime-based loan will bear interest at a
variable rate equal to Comerica’s prime rate plus an amount ranging from 0% to
0.50% depending on the pricing leverage ratio that we achieve. If we achieve a
pricing leverage ratio of (a) less than 1.00 to 1.00; (b) equal to or
greater than 1.00 to 1.00 but less than 1.75 to 1.00; or (c) greater than
or equal to 1.75 to 1.00, then the applicable prime margins will be 0.0%, 0.25%
and 0.50%.  The interest rate on funds borrowed under this revolver
during the year ended December 31, 2007 ranged from 7.50% to 7.75%.




In
December 2007, Comerica syndicated the Credit Facility with three other
financial institutions under the same terms discussed above.




Management
believes that the new Credit Facility will provide adequate funding for the
Company’s working capital, debt service and capital expenditure requirements,
including seasonal fluctuations at least through December 31, 2008.




As
discussed above, the Credit Facility contains restrictions on the Company’s
ability to:




·
            Make
      distributions and dividends;


·
            Incur
      liens and encumbrances;


·
            Incur
      further indebtedness;


·
            Guarantee
      obligations;


·
            Dispose
      of a material portion of assets or merge with a third
    party;


·
            Make
      acquisitions;


·
            Incur
      negative income for two consecutive
quarters.





The
Company was in compliance with all covenants under the Credit Facility as of
December 31, 2007.




TSC
Mortgages




In 2001
TSC completed the construction of a headquarters building and financed it
principally through a mortgage of $1.1 million on the land and facilities, at a
floating interest rate, which at December 31, 2007 was 7.5% per annum, repayable
over 15 years. This mortgage is cross-collateralized with another mortgage on
the land and facilities which was obtained in 1998 in the amount of $500,000,
repayable over 15 years with an interest rate of 9.3% per annum.  The
outstanding balance on these two mortgages aggregated $654,000 at December 31,
2007.




Maturity
of Debt




The
Company's long-term obligations mature in future years as follows (in
thousands):




Fiscal
      Year2008
            
            $
            982009
            
            
            732010
            
            
            732011
            
            
            732012
            
            
            65,073Thereafter
            
            
            264$
            65,654


F17
 Table of Contents




5.
            Financial
      Instruments




SFAS No.
107, “Disclosure about Fair
Value of Financial Instruments” defines the fair value of financial
instruments as the amount at which the instrument could be exchanged in a
current transaction between willing parties.




The
Company’s financial instruments are cash and cash equivalents, short-term
investments, contracts receivable, accounts payable, mortgages payable and
long-term debt.  The recorded values of cash and cash equivalents,
short-term investments, contracts receivable and accounts payable approximate
their fair values based on their short-term nature.  The recorded
value of long-term debt approximates its fair value, as interest approximates
market rates.TSC has two mortgages, at 7.50% and 9.30%, which contain
pre-payment penalties. To determine the fair value of the mortgages, the amount
of future cash flows was discounted using the Company’s borrowing rate on its
Credit Facility.  At December 31, 2007 and December 31, 2006, the
carrying value of the mortgages was $654,000 and $782,000, respectively, and the
fair value of the mortgages was approximately $641,000 and $741,000,
respectively.




The
Company does not have any off-balance sheet financial instruments.




6.
            Income
      Taxes and Deferred Tax
Asset/Liability




During
the year ended December 31, 2007, Sterling utilized the benefit of its book net
operating tax loss carry forwards ("NOL") of approximately $9.8 million, which
offset a portion of the taxable income of the Company and its subsidiaries from
federal income taxes.




The
Company has available to it carry forwards resulting from the exercise of
non-qualified stock options.  Under the provisions of SFAS 123(R), the
Company could not recognize the tax benefit of these carry-forwards as deferred
tax assets until its existing NOL's were fully utilized, and therefore, the
deferred tax asset related to NOL carry forwards differed from the amount
available on its federal tax returns.  The Company utilized
approximated $2.8 million of these excess tax benefits from the exercise of
stock options to offset taxable income in 2007 and has approximately $1.3
million of such excess tax benefits available to reduce future tax liabilities.
As these excess tax benefits are utilized for tax purposes, they reduce taxes
payable and increase additional paid-in capital.




The
availability of the tax NOL carry forwards, including those from excess
compensation expense from the exercise of stock options, may be adversely
affected by future ownership changes of Sterling.  At this time, such
changes cannot be predicted. Under IRC Section 382, if a corporation undergoes
an ownership change, generally defined as a change of control of greater than
50% in any three year period, the amount of net operating losses available to
offset taxable income in a taxable period may be subject to limitation under
these provisions.  In order to reduce the likelihood of such a change
of control occurring, Sterling's Certificate of Incorporation includes
restrictions on the registration of transfers of stock resulting in, or
increasing, individual holdings exceeding 4.5% of the Company's common
stock.




F18
 Table of Contents




Deferred
tax assets and liabilities of continuing operations consist of the following (in
thousands):




December 31, 2007
            
            
            December 31, 2006Current
            
            
            Long Term
            
            
            Current
            
            
            Long TermAssets
      related to:Net
      operating loss carry forwards
            
            $
            —
            
            
            $
            —
            
            
            $
            3,346
            
            
            $
            —Accrued
      compensation
            
            
            1,054
            
            
            
            487
            
            
            
            974
            
            
            
            162AMT
      carry forward
            
            
            —
            
            
            
            2,446
            
            
            
            —
            
            
            
            1,289Other
            
            
            37
            
            
            
            —
            
            
            
            64
            
            
            
            —1,091
            
            
            
            2,933
            
            
            
            4,384
            
            
            
            1,451Liabilities
      related to:Contract
      accounting
            
            
            (3
            )
            
            
            —
            
            
            
            (87
            )
            
            
            —Depreciation
      of property and equipment
            
            
            —
            
            
            
            (6,031
            )
            
            
            —
            
            
            
            (3,039
            )Net
      asset/liability
            
            $
            1,088
            
            
            $
            (3,098
            )
            
            $
            4,297
            
            
            $
            (1,588
            )




Current
income tax expense represents federal alternative minimum tax and Texas margins
tax.  Until such time as all NOL’s are fully utilized, the Company
will recognize alternative minimum tax payments as a debit to its deferred tax
liability.




The
income tax provision differs from the amount using the statutory federal income
tax rate of 35% in 2007 and 34% in 2006 and 2005 applied to income from
continuing operations, for the following reasons (in thousands):




Fiscal Year EndedDecember 31,
              2007
            
            
            December 31,
              2006
            
            
            December 31,
              2005Tax
      expense at the U.S. federal statutory rate
            
            $
            7,826
            
            
            $
            6,787
            
            
            $
            4,829State
      income tax expense, net of refunds and federal benefits
            
            
            106
            
            
            
            —
            
            
            
            —Decrease
      in deferred tax asset valuation allowance
            
            
            —
            
            
            
            —
            
            
            
            (1,390
            )Adjustment
      to value of net operating loss carry forward
            
            
            —
            
            
            
            —
            
            
            
            (364
            )Non-deductible
      costs
            
            
            74
            
            
            
            87
            
            
            
            98Non-taxable
      interest income
            
            
            (295
            )
            
            
            —
            
            
            
            —Other
            
            
            179
            
            
            
            —
            
            
            
            (70
            )Income
      tax expense
            
            $
            7,890
            
            
            $
            6,874
            
            
            $
            3,104Income
      tax on discontinued operations including taxeson the gain on sale in
      2006
            
            
            —
            
            
            
            308
            
            
            
            315Income
      tax on continuing operations
            
            $
            7,890
            
            
            $
            6,566
            
            
            $
            2,788




The
increase in the effective income tax rate to 35.3% in 2007 from 34.2% in 2006 is
primarily due to state income taxes due for 2007 and the increase in the
graduated statutory tax rates. The increase in the effective income tax rate to
34.2% in 2006 from 20.9% in 2005 is the result of the decrease in the valuation
allowance and adjustment in the value of the net operating loss carry forward
shown above.  During fiscal 2005, the valuation allowance was reduced
to zero.




In June
2006, the FASB issued Financial Interpretation No. 48, “Accounting for
Uncertainty in Income Taxes” (“FIN 48”). The interpretation prescribes a
recognition threshold and measurement attribute criteria for the financial
statement recognition and measurement of a tax position taken or expected to be
taken in a tax return. The interpretation also provides guidance on
classification, interest and penalties, accounting in interim periods,
disclosure and transition.


The
Company and its subsidiaries file income tax returns in the United States
federal jurisdiction and in various states. With few exceptions, the Company is
no longer subject to federal tax examinations for years prior to 2001 and state
income tax examinations for years prior to 2004. The Company’s policy is to
recognize interest related to any underpayment of taxes as interest expense, and
penalties as administrative expenses. No interest or penalties have been accrued
at December 31, 2007.
 F19
 Table of Contents


The
Company adopted FIN 48 on January 1, 2007; however the adoption did
not result in an adjustment to retained earnings. In its 2005 tax return, the
Company used NOL’s that would have expired during that year instead of deducting
compensation expense that originated in 2005 as the result of stock option
exercises. Therefore, that compensation deduction was lost. Whether the Company
can choose not to take deductions for compensation expense in the tax return and
to instead use otherwise expiring NOLs is considered by management to be an
uncertain tax position. In the event that the IRS examines the 2005 tax return
and determines that the compensation expense is a required deduction in the tax
return, then the Company would deduct the compensation expense instead of the
NOL used in the period; however there would be no cash impact on tax paid due to
the increased compensation deduction. In addition, there would be no interest or
penalties due as a result of the change. As a result of the Company’s detailed
FIN 48 analysis, management has determined that it is more likely than not
this position will be sustained upon examination, and this uncertain tax
position was determined to have a measurement of $0.


The
Company does not believe that its uncertain tax position will significantly
change due to the settlement and expiration of statutes of limitations prior to
December 31, 2008.


7.
            Costs
      and Estimated Earnings and Billings on Uncompleted
    Contracts




Costs and
estimated earnings and billings on uncompleted contracts at December 31, 2007
and 2006 are as follows (in thousands):




Fiscal Year Ended
              December 31,
            
            
            Fiscal Year Ended
              December 31,2007
            
            
            2006Costs
      incurred and estimated earnings on uncompleted contracts
            
            $
            329,559
            
            
            $
            222,170Billings
      on uncompleted contracts
            
            
            (351,161
            )
            
            
            (240,549
            )$
            (21,602
            )
            
            $
            (18,379
            )






Included
in accompanying balance sheets under the following captions:




Fiscal Year Ended
              December 31,
              2007
            
            
            Fiscal Year Ended
              December
      31,
              2006Costs
      and estimated earnings in excess of billings on uncompleted
      contracts
            
            $
            3,747
            
            
            $
            3,157Billings
      in excess of costs and estimated earnings on uncompleted
      contracts
            
            
            (25,349
            )
            
            
            (21,536
            )$
            (21,602
            )
            
            $
            (18,379
            )







The cost
and earned profit and billings in 2007 shown above include the amount related to
the Nevada contracts acquired on October 31, 2007 and still in progress at
December 31, 2007.


F20
 Table of Contents




8.
            Stock
      Options and Warrants




Stock
Options and Grants




The
Company has five stock incentive plans which are administered by the
Compensation Committee of the Board of Directors. In general, the plans provide
for all grants to be issued with a per-share exercise price equal to the fair
market value of a share of common stock on the date of grant. The original terms
of the grants typically do not exceed 10 years. Stock options generally
vest over a three to five year period.


In
July 2001, the Board of Directors adopted and in October 2001 shareholders
approved the 2001 Stock Incentive Plan (the “2001 Plan”). The 2001 Plan
initially provided for the issuance of stock awards for up to 500,000 shares of
the Company's common stock. In March 2006, the number of shares available for
issuance under the 2001 Plan was increased to one million shares and
subsequently in November 2007 was reduced to 662,626 shares.  Under
the 2001 Plan, stock options may be granted at an exercise price not less than
the fair market value of the common stock on the date of grant. The Company's
and its subsidiaries' directors, officers, employees, consultants and advisors
are eligible to be granted awards under the plan. Stock options granted under
the 2001 Plan generally vest over three to five years and can be exercised no
more than 10 years after the date of the grant.




The plan
also provides for stock grants and in May 2007 and May 2006, the independent
directors of the Company were awarded restricted stock with one-year vesting as
follows:




2007 Awards
            
            
            2006 AwardsShares
      awarded to each independent director
            
            
            1,598
            
            
            
            1,207Total
      shares awarded
            
            
            9,588
            
            
            
            6,035Grant-date
      market price per share of awarded shares
            
            $
            21.90
            
            
            $
            28.99Total
      compensation cost
            
            $
            210,000
            
            
            $
            175,000Compensation
      cost recognized in 2007
            
            $
            140,000
            
            
            $
            59,000







In the
third quarter of 2007, two officers were issued options to purchase an aggregate
of 16,507 shares of common stock at the closing market price on the date of
grant. This same market price was used in the Black Scholes valuation model to
calculate compensation expense.




At
December 31, 2007 there were 83,736 shares of common stock available under the
2001 Plan for issuance pursuant to future stock option and share
grants.  No shares are or will be available for grant under the
Company’s other option plans, all of which have been terminated except with
respect to stock options outstanding under those plans.




The
following tables summarize the stock option activity under the five
plans:




1991 Plan
            
            
            Director Plan
            
            
            1994 Omnibus PlanShares
            
            
            Weighted
              Average
              Exercise Price
            
            
            Shares
            
            
            Weighted
              Average
              Exercise Price
            
            
            Shares
            
            
            Weighted
              Average
              Exercise PriceOutstanding
      at December 31, 2004:
            
            
            84,420
            
            
            $
            2.75
            
            
            
            47,332
            
            
            $
            1.67
            
            
            
            578,196
            
            
            $
            1.29Exercised
            
            
            —
            
            
            $
            2.75
            
            
            
            (3,000
            )
            
            $
            1.83
            
            
            
            (154,000
            )
            
            $
            0.99Expired/forfeited
            
            
            —
            
            
            
            
            
            
            
            (13,166
            )
            
            $
            2.75
            
            
            
            —Outstanding
      at December 31, 2005:
            
            
            84,420
            
            
            $
            2.75
            
            
            
            31,166
            
            
            $
            1.58
            
            
            
            424,196
            
            
            $
            1.40Exercised
            
            
            (55,996
            )
            
            $
            2.75
            
            
            
            (18,000
            )
            
            $
            2.05
            
            
            
            (166,016
            )
            
            $
            1.08Outstanding
      at December 31,  2006:
            
            
            28,424
            
            
            $
            2.75
            
            
            
            13,166
            
            
            $
            0.94
            
            
            
            258,180
            
            
            $
            1.60Exercised
            
            
            (28,424
            )
            
            $
            2.75
            
            
            
            (3,000
            )
            
            $
            1.00
            
            
            
            (181,990
            )
            
            $
            1.91Outstanding
      at December 31,  2007:
            
            
            —
            
            
            
            —
            
            
            
            10,166
            
            
            $
            0.93
            
            
            
            76,190
            
            
            $
            0.88


F21
 Table of Contents




1998 Plan
            
            
            2001 PlanShares
            
            
            Weighted
              Average
              Exercise
              Price
            
            
            Shares
            
            
            Weighted
              Average
              Exercise
              PriceOutstanding
      at December 31, 2004:
            
            
            518,625
            
            
            $
            0.54
            
            
            
            364,300
            
            
            $
            2.48Granted
            
            
            —
            
            
            
            
            
            
            
            117,600
            
            
            $
            10.88Exercised
            
            
            (289,500
            )
            
            $
            0.50
            
            
            
            (17,540
            )
            
            $
            2.06Expired/forfeited
            
            
            —
            
            
            
            
            
            
            
            (7,200
            )
            
            $
            2.43Outstanding
      at December 31, 2005:
            
            
            229,125
            
            
            $
            0.58
            
            
            
            457,160
            
            
            $
            4.66Granted
            
            
            —
            
            
            
            
            
            
            
            81,500
            
            
            $
            16.36Exercised
            
            
            (225,875
            )
            
            $
            0.57
            
            
            
            (64,057
            )
            
            $
            2.46Expired/forfeited
            
            
            —
            
            
            
            
            
            
            
            (4,400
            )
            
            $
            7.83Outstanding
      at December 31, 2006:
            
            
            3,250
            
            
            $
            1.00
            
            
            
            470,203
            
            
            $
            8.35Granted
            
            
            —
            
            
            
            
            
            
            
            16,507
            
            
            $
            19.43Exercised
            
            
            (3,250
            )
            
            $
            1.00
            
            
            
            (24,110
            )
            
            $
            3.39Expired/forfeited
            
            
            —
            
            
            
            
            
            
            
            (5,460
            )
            
            $
            13.48Outstanding
      at December 31, 2007:
            
            
            —
            
            
            
            —
            
            
            
            457,140
            
            
            $
            9.06







The
following table summarizes information about stock options outstanding and
exercisable at December 31, 2007:




Options Outstanding
            
            
            Options ExercisableRange
      of Exercise Price Per
            
            
            Number
      ofShares
            
            
            Weighted
      AverageRemaining Contractual
      Life(years)
            
            
            Weighted
      AverageExercise Price
      PerShare
            
            
            Number
      ofShares
            
            
            Weighted
      AverageExercise Price
      PerShareShare$
            0.50
      - $0.88
            
            
            
            80,356
            
            
            
            5.74
            
            
            $
            0.88
            
            
            
            80,356
            
            
            $
            0.88$
            0.94
      - $1.50
            
            
            
            54,400
            
            
            
            3.37
            
            
            $
            1.44
            
            
            
            54,400
            
            
            $
            1.44$
            1.73
      - $2.00
            
            
            
            36,300
            
            
            
            4.57
            
            
            $
            1.73
            
            
            
            36,300
            
            
            $
            1.73$
            2.75
      - $3.38
            
            
            
            167,873
            
            
            
            4.63
            
            
            $
            3.09
            
            
            
            132,853
            
            
            $
            3.09$
            6.87
            
            
            
            20,000
            
            
            
            7.39
            
            
            $
            6.87
            
            
            
            20,000
            
            
            $
            6.87$
            9.69
            
            
            
            62,800
            
            
            
            2.55
            
            
            $
            9.69
            
            
            
            62,800
            
            
            $
            9.69$
            16.78
            
            
            
            25,560
            
            
            
            2.58
            
            
            $
            16.78
            
            
            
            9,960
            
            
            $
            16.78$
            18.99
            
            
            
            13,707
            
            
            
            9.61
            
            
            $
            18.99
            
            
            
            —
            
            
            
            —$
            21.60
            
            
            
            2,800
            
            
            
            4.55
            
            
            $
            21.60
            
            
            
            2,800
            
            
            $
            21.60$
            24.96
            
            
            
            62,800
            
            
            
            3.55
            
            
            $
            24.96
            
            
            
            62,800
            
            
            $
            24.96$
            25.21
            
            
            
            16,900
            
            
            
            3.50
            
            
            $
            25.21
            
            
            
            3,660
            
            
            $
            25.21543,496
            
            
            
            
            
            
            $
            7.79
            
            
            
            465,929
            
            
            $
            6.99






Aggregate intrinsic valueTotal
      outstanding in-the-money options at 12/31/07
            
            
            463,796
            
            
            $
            7,894,277Total
      vested in-the-money options at 12/31/07
            
            
            339,469
            
            
            $
            7,120,803Total
      options exercised during 2007
            
            
            240,774
            
            
            $
            4,874,306






For
unexercised options, aggregate intrinsic value represents the total pretax
intrinsic value (the difference between the Company’s closing stock price on
December 31, 2007 ($21.82) and the exercise price, multiplied by the number of
in-the-money option shares) that would have been received by the option holders
had all option holders exercised their options on December 31,
2007.  For options exercised during 2007, aggregate intrinsic value
represents the total pretax intrinsic value based on the Company’s closing stock
price on the day of exercise.




Compensation
expense for options granted during 2007, 2006 and 2005 were calculated using the
Black-Scholes option pricing model using the following assumptions in each
year:




F22
 Table of Contents




Fiscal 2007
            
            
            Fiscal 2006
            
            
            Fiscal 2005Average
      Risk free interest rate
            
            
            4.7
            %
            
            
            4.9
            %
            
            
            4.2
            %Average
      Expected volatility
            
            
            70.7
            %
            
            
            76.3
            %
            
            
            77.8
            %Average
      Expected life of option
            
            3.0
      years
            
            
            5.0
      years
            
            
            6.0
      yearsExpected
      dividends
            
            None
            
            
            None
            
            
            None







The
risk-free interest rate is based upon interest rates that match the contractual
terms of the stock option grants.  The expected volatility is based on
historical observation and recent price fluctuations.  The expected
life is based on evaluations of historical and expected future employee exercise
behavior, which is not less than the vesting period of the
options.  The Company does not currently pay dividends.  The
weighted average fair value of stock options granted in 2007, 2006 and 2005 was
$12.20, $16.36 and $7.32, respectively.




Pre-tax
deferred compensation expense for share based compensation was $1,110,000
($722,000 after tax effects of 35.0%), $1,108,000 ($729,000 after tax effects of
34.2%), and $463,000 ($306,000 after tax effects of 34.2%), in 2007, 2006 and
2005, respectively.  Proceeds received by the Company from the
exercise of options in 2007, 2006 and 2005 were $513,000, $657,000 and $343,000,
respectively.  At December 31, 2007, total unrecognized stock-based
compensation expense related to unvested stock options was approximately
$501,000, which is expected to be recognized over a weighted average period of
approximately 1.8 years.




Prior to
the adoption of SFAS123 (R), all tax benefits resulting from the exercise of
non-qualified stock options (or disqualifying dispositions of incentive stock
options) were presented as operating cash flows in the Consolidated Statements
of Cash Flows.  SFAS 123 (R) requires that cash flows from the
exercise of such stock options resulting from tax benefits in excess of
recognized cumulative compensation cost (excess tax benefits) be classified as
financing cash flows.  Because the Company had not fully utilized its
net operating loss carry forwards, the tax benefit could not be recorded until
it could be realized.  Upon adoption of SFAS 123 (R), the Company
recorded $2.8 million of these benefits as a component of stockholders’
equity.  During 2007 an additional $4.3 million ($1.5 million net tax
benefit) of excess compensation expense was utilized by the Company as it fully
utilized its net operating loss carry forwards.




Warrants




Warrants
attached to zero coupon notes were issued to certain members of TSC management
and to certain stockholders in 2001. These ten-year warrants to purchase shares
of the Company's common stock at $1.50 per share became exercisable 54 months
from the July 2001 issue date, except that one warrant covering 322,661 shares
by amendment became exercisable forty-two months from the issue
date.  The following table shows the warrant shares outstanding and
the proceeds that have been received by the Company from exercises.




Shares
            
            
            Company’s
      Proceeds of Exercise
            
            
            Year-End
      Warrant Share BalanceWarrants
      outstanding on vest date
            
            
            850,000
            
            
            
            —
            
            
            
            850,000Warrants
      exercised in 2005
            
            
            322,661
            
            
            $
            483,991
            
            
            
            527,339Warrants
      exercised in 2006
            
            
            171,073
            
            
            $
            257,000
            
            
            
            356,266Warrants
      exercised in 2007
            
            
            —
            
            
            
            —
            
            
            
            356,266


F23
 Table of Contents




9.
            Employee
      Benefit Plan




The
Company and its subsidiaries maintain defined contribution profit-sharing plans
covering substantially all non-union persons employed by the Company and its
subsidiaries, whereby employees may contribute a percentage of compensation,
limited to maximum allowed amounts under the Internal Revenue Code. The Plans
provides for discretionary employer contributions, the level of which, if any,
may vary by subsidiary and is determined annually by each company's board of
directors. The Company made aggregate matching contributions of $353,000,
$325,000 and $276,000 for the years ended December 31, 2007, 2006 and 2005,
respectively.




10.
            Operating
      Leases




The
Houston headquarters and operations are conducted from an owned building in
Houston, Texas. The Company also leases office space in the Dallas area, and San
Antonio, Texas and Reno, Nevada.




In 2006
and 2007, the Company entered into several long-term operating leases for
equipment with lease terms of approximately three to five
years.  Certain of these leases allow the Company to purchase the
equipment on or before the end of the lease term.  If the Company does
not purchase the equipment, it is returned to the lessor.  Two leases
obligate the Company to pay a guaranteed residual not to exceed 20% of the
original equipment cost.  The Company is accruing the liability for
both leases, which is not expected to exceed $330,000 in aggregate.




Minimum
annual rentals for all operating leases having initial non-cancelable lease
terms in excess of one year are as follows (in thousands):




Fiscal Year2008
            
            $
            9202009
            
            
            7212010
            
            
            7212011
            
            
            5672012
            
            
            70Thereafter
            
            
            --Total
      future minimum rental payments
            
            $
            2,999







Total
rent expense for all operating leases amounted to approximately $1,068,000,
$995,000 and $1,013,000 in fiscal years 2007, 2006 and 2005,
respectively.




F24
 Table of Contents





11.
            Customers




The
following table shows contract revenues generated from the Company’s customers
that accounted for more than 10% of revenues (dollars in
thousands):




December
      31,
              2007
            
            
            December
      31,
              2006
            
            
            December
      31,
              2005Contract
              Revenues
            
            
            %
      of
              Revenues
            
            
            Contract
              Revenues
            
            
            %
      of
              Revenues
            
            
            Contract
              Revenues
            
            
            % of
              RevenuesTexas
      State Department ofTransportation
      ("TXDOT")
            
            $
            201,073
            
            
            
            65.7
            %
            
            $
            166,333
            
            
            
            67.1
            %
            
            $
            84,827
            
            
            
            38.8
            %City
      of Houston ("COH")
            
            
            *
            
            
            
            *
            
            
            $
            29,848
            
            
            
            12.1
            %
            
            $
            49,437
            
            
            
            22.6
            %Harris
      County
            
            
            *
            
            
            
            *
            
            
            
            *
            
            
            
            *
            
            
            $
            29,796
            
            
            
            13.6
            %




*
represents less than 10% of revenues




At
December 31, 2007, TXDOT ($26.4 million) and COH ($8.2 million) had balances
greater than 10% of contracts receivable.




12.
            Equity
      Offerings




In
December 2007, the Company completed a public offering of 1.84 million shares of
its common stock at $20.00 per share. The Company received proceeds, net of
underwriting discounts and commissions, of approximately $35.0 million ($19.00
per share) and paid approximately $0.5 million in related offering
expenses.  From the proceeds of the offering, the Company repaid the
portion of its Credit Facility that was used in its acquisition of its interest
in RHB. The remainder of the offering proceeds was used for working capital
purposes.




In
January 2006, the Company completed a public offering of approximately 2.0
million shares of its common stock at $15.00 per share. The Company received
proceeds, net of underwriting commissions, of approximately $28.0 million
($13.95 per share) and paid approximately $907,000 in related offering
expenses.  In addition, the Company received approximately $484,000
from the exercise of warrants and options to purchase 321,758 shares, of Common
Stock, which were subsequently sold by the option and warrant
holders.  From the proceeds of the offering, the Company repaid all
its outstanding related party promissory notes to officers, directors and former
directors as follows:




Name
            
            Principal
            
            
            Interest
            
            
            Total
              PaymentPatrick
      T. Manning
            
            $
            318,592
            
            
            
            2,867
            
            
            $
            321,459James
      D. Manning
            
            $
            1,855,349
            
            
            
            16,698
            
            
            $
            1,872,047Joseph
      P. Harper, Sr.
            
            $
            2,637,422
            
            
            
            23,737
            
            
            $
            2,661,159Maarten
      D. Hemsley
            
            $
            181,205
            
            
            
            1,631
            
            
            $
            182,836Robert
      M. Davies
            
            $
            452,909
            
            
            
            4,076
            
            
            $
            456,985







During
2006, the Company utilized a portion of the offering proceeds to purchase
additional construction equipment and to repay borrowed funds used for the
acquisition of RDI (see note 13 below).


F25
 Table of Contents





13.
            Acquisitions:




On
October 31, 2007, the Company purchased a 91.67% interest in Road and
Highway Builders, LLC (“RHB”), a Nevada limited liability company, and all of
the outstanding capital stock of Road and Highway Builders, Inc (“RHB Inc”), an
inactive Nevada corporation.  These entities were affiliated through
common ownership.


RHB is a
heavy civil construction business located in Reno, Nevada that builds roads,
highways and bridges for local and state agencies. Its assets consist of
construction contracts, road and bridge construction and aggregate mining
machinery and equipment, and approximately 44.5 acres of land with
improvements. RHB Inc’s sole asset is its right as a co-lessee with RHB under a
long-term, royalty-based lease of a Nevada quarry on which RHB can mine
aggregates for use in its own construction business and for sale to third
parties.




The
Company paid an aggregate purchase price for its interest in RHB of
$53.0 million, consisting $48.9 million in cash, 40,702 unregistered shares
of the Company’s common stock, which was valued at $1.0 million based on the
quoted market value of the Company’s stock on the purchase date, and $3.1
million in assumption of accounts payable to RHB by one of the
sellers.  Additionally, the Company incurred $1.1 million of direct
costs related to the acquisition.  We acquired RHB for a number of
reasons, including those listed below:




·
              Expansion
      into growing western U.S. infrastructure construction
    markets;


·
              Strong
      management team with a shared corporate
  cultural;


·
              Expansion
      of our service lines into aggregates and asphalt paving
      materials;


·
              Opportunities
      to extend our municipal and structural capabilities into Nevada;
      and


·
              RHB’s
      strong financial results and expected immediate accretion to our earnings
      and earnings per share.


Ten
percent of the cash purchase price was placed in escrow for eighteen months as
security for any breach of representations and warranties made by the sellers.
The cash portion of the purchase price was funded by a $22.4 million
drawdown under a new $75 million five-year Credit Facility with Comerica
Bank and the balance from the Company’s available cash.


The
minority interest owner of RHB (who remains with RHB as Chief Executive Officer)
has the right to require the Company to buy his remaining 8.33% minority
interest in RHB and, concurrently, the Company has the right to require that
owner to sell his 8.33% interest to the Company, beginning in 2011. The purchase
price in each case is 8.33% of the product of six times the simple average of
RHB’s income before interest, taxes, depreciation and amortization for the
calendar years 2008, 2009 and 2010.  The minority interest was
recorded at its estimated fair value at the date of acquisition and the
difference between the minority owner’s interest in the historical basis of RHB
and the estimated fair value of that interest was recorded as a liability to
minority interest and a reduction in addition paid-in capital.




Any changes to the estimated fair
value of the minority interest will be recorded as a corresponding change in
additional paid-in-capital.  Additionally, interest will be accredited
to the minority interest liability based on the discount rate used to calculate
the fair value of the acquisition.




The
purchase agreement restricts the sellers from competing against the business of
RHB and from soliciting its employees for a period of four years after the
closing of the purchase.




The
following table summarizes the initial allocation of the purchase price,
including related direct acquisition costs for RHB (in thousands):
 F26
 Table of Contents


Tangible
      assets acquired at estimated fair value, including approximately $10,000
      of property, plant and equipment
            
            $
            19,334Current
      liabilities assumed
            
            
            (9,686
            )Goodwill
            
            
            44,496Total
            
            $
            54,144





The
goodwill is deductible for tax purposes over 15 years. The purchase price
allocation has not been finalized due to the short time period between the
acquisition date and the date of the financial statements. A preliminary
analysis of the assets acquired indicates that there are no separately
identifiable intangible assets. The nature and amount of any material
adjustments ultimately made to the initial allocation of the purchase price will
be disclosed when determined.


The
operations of RHB are included in the accompanying consolidated statements of
operations and cash flows for the two months ended December 31, 2007.
Supplemental information on an unaudited pro forma combined basis, as if the RHB
acquisition had been consummated at the beginning of 2006, is as follow (in
thousands, except per share amounts):


(Unaudited)2007
            
            
            2006Revenues
            
            $
            377,740
            
            
            $
            286,511Net
      income from continuing operations
            
            $
            26,881
            
            
            $
            14,959Diluted
      net income per share from continuing operations
            
            $
            2.26
            
            
            $
            1.27





For the
ten months ended October 31, 2007, RHB had unaudited revenues of approximately
$72 million and unaudited income before taxes of approximately
$21.0 million. The profitability of RHB for the ten month period was higher
than what is expected to continue due to some unusually high margin contracts
and may not be indicative of future results of operations. We purchased RHB
based on an assumed sustainable trailing twelve month EBITDA (earnings before
interest, tax, depreciation and amortization) of approximately $12 million with
the expectation of further future growth. At October 31, 2007, RHB had a backlog
of approximately $123 million.


In
January, 2006, TSC acquired certain assets of the crane division of Rathole
Drilling, Inc. “RDI.”  The acquisition included the purchase of
construction equipment at its appraised value of approximately $2.0 million, the
trade name RDI and the assumption by TSC of certain of the seller’s
contracts.  TSC paid cash of $2.2 million for the acquired
assets.  The size of the acquisition and the amount of assets acquired
were not material in relation to the Company’s historical business.




F27
 Table of Contents





14.
            Commitments
      and Contingencies




Employment
Agreements




Patrick
T. Manning, Joseph P. Harper, Sr., James H. Allen, Jr. and certain other
officers of the Company and TSC have employment agreements which provide for
payments of annual salary, deferred salary bonuses and certain benefits if their
employment is terminated without cause.




Self-Insurance




The
Company is self-insured for employee health claims. Its policy is to accrue the
estimated liability for known claims and for estimated claims that have been
incurred but not reported as of each reporting date. The Company has obtained
reinsurance coverage for the policy period from June 1, 2007 through May 31,
2008 as follows:




•
            Specific
      excess reinsurance coverage for medical and prescription drug claims in
      excess of $60,000 for each insured person with a maximum lifetime
      reimbursable of $2,000,000.




•
            Aggregate
      reinsurance coverage for medical and prescription drug claims with a plan
      year with a maximum of approximately $1.1 million which is the estimated
      maximum claims and fixed cost based on the number of
      employees.




For the
twelve months ended December 31, 2007, 2006 and 2005, the Company incurred $1.6
million, $1.2 million and $1.0 million, respectively, in expenses related to
this plan.




The
Company is also self-insured for workers’ compensation claims up to $250,000 per
occurrence, with a maximum aggregate liability of $2.7 million per
year.  Its policy is to accrue the estimated liability for known
claims and for estimated claims that have been incurred but not reported as of
each reporting date.  At December 31, 2007 and 2006, TSC had recorded
an estimated liability of $1,067,000 and $575,000, respectively, which it
believes is adequate based on its claims history.  The Company has a
safety and training program in place to help prevent accidents and injuries and
works closely with its employees and the insurance company to monitor all
claims.




The
Company obtains bonding on construction contracts through Travelers Casualty and
Surety Company of America.  As is customary in the construction
industry, the Company indemnifies Travelers for all losses incurred by it in
connection with bonds that are issued.  The Company has granted
Travelers a security interest in accounts receivable and contract rights for
that obligation.




Guarantees




The
Company typically indemnifies contract owners for claims arising during the
construction process and carries insurance coverage for such claims, which in
the past have not been material.




The
Company’s Certificate of Incorporation provides for indemnification of its
officers and directors.  The Company has a Director and Officer
insurance policy that limits its exposure.  At December 31, 2007 the
Company had not accrued a liability for this guarantee, as the likelihood of
incurring a payment obligation in connection with this guarantee is believed to
be remote.




Litigation




The
Company is the subject of certain claims and lawsuits occurring in the normal
course of business. Management, after consultation with outside legal counsel,
does not believe that the outcome of these actions will have a material impact
on the financial statements of the Company.




F28
 Table of Contents





Purchase
Commitments




To manage
the risk of changes in material prices and subcontracting costs used in
tendering bids for construction contracts, we obtain firm quotations from our
suppliers and subcontractors before submitting a bid.  These
quotations do not include any quantity guarantees.  As soon as we are
advised that our bid is the lowest, we enter into firm contracts with our
materials suppliers and most sub-contractors, thereby mitigating the risk of
future price variations affecting the contract costs.




15.
            Minority
      Interest in RHB




As
discussed in Note 13 above, on October 31, 2007, the Company acquired a 91.67%
interest in RHB. The remaining 8.33% interest is reported as minority interest
in long-term liabilities in the accompanying financial statements, at its
estimated fair value at December 31, 2007. The minority interest owner has the
right to require the Company to buy his remaining 8.33% minority interest in RHB
and, concurrently, the Company has the right to require that owner to sell his
8.33% interest to the Company, both in 2011. The purchase price in each case is
8.33% of the product of six times the simple average of RHB LLC’s income before
interest, taxes, depreciation and amortization for the calendar years 2008, 2009
and 2010.  The minority interest was recorded at its estimated fair
value at the date of acquisition and the difference ($5.4 million) between the
minority owner’s interest in the historical basis of RHB and the estimated fair
value of that interest was recorded as a liability to minority interest and a
reduction in additional paid-in capital.




16.
            Related
      Party Transactions




In July
2001, Robert Frickel was elected to the Board of Directors. He is President of
R.W. Frickel Company, P.C., an accounting firm based in Michigan that performs
certain tax services for the Company. Fees paid or accrued to R.W. Frickel
Company for 2007, 2006 and 2005 and were approximately $63,580, $57,500 and
$113,000, respectively.




In July
2005, Patrick T. Manning married Amy Peterson, the sole beneficial owner of
Paradigm Outdoor Supply, LLC and Paradigm Outsourcing, Inc., both of which are
women-owned business enterprises.  The Paradigm companies provide
materials and services to the Company and to other contractors.  From
July 2005, when Ms. Peterson and Mr. Manning were married, through December 31,
2005, the Company paid approximately $6.0 million to the Paradigm companies for
materials and services.  In 2007 and 2006, the Company paid
approximately $1.7 million and $3.3 million, respectively, to the Paradigm
companies for materials and services.




17.
            Capital
      Structure




Holders
of common stock are entitled to one vote for each share on all matters voted
upon by the stockholders, including the election of directors, and do not have
cumulative voting rights.  Subject to the rights of holders of any
then outstanding shares of preferred stock, common stockholders are entitled to
receive ratably any dividends that may be declared by the Board of Directors out
of funds legally available for that purpose.  Holders of common stock
are entitled to share ratably in net assets upon any dissolution or liquidation
after payment of provision for all liabilities and any preferential liquidation
rights of our preferred stock then outstanding.  Common stock shares
are not subject to any redemption provisions and are not convertible into any
other shares of capital stock.  The rights, preferences and privileges
of holders of common stock are subject to those of the holders of any shares of
preferred stock that may be issued in the future.




The Board
of Directors may authorize the issuance of one or more classes or series of
preferred stock without stockholder approval and may establish the voting
powers, designations, preferences and rights and restrictions of such
shares.  No preferred shares have been issued.




In
December 1998, the Company entered into a rights agreement with American Stock
Transfer & Trust Company, as rights agent, providing for a dividend of one
purchase right for each outstanding share of common stock for stockholders of
record on December 29, 1998.  Holders of shares of common stock issued
since that date are issued rights with their shares.  The rights trade
automatically with the shares of common stock and become exercisable only if a
takeover attempt of the Company occurs.  The rights will expire on
December 29, 2008, unless redeemed or exchanged before that time.




F29
 Table of Contents





20.  Quarterly
Financial Information




(Unaudited)




Fiscal 2007 Quarter EndedMarch 31
            
            
            June 30
            
            
            September 30
            
            
            December 31
            
            
            Total(Dollar
      amounts in thousands, except per share data)Revenues
            
            $
            68,888
            
            
            $
            71,275
            
            
            $
            77,714
            
            
            $
            88,343
            
            
            $
            306,220Gross
      profit
            
            
            5,632
            
            
            
            8,046
            
            
            
            7,915
            
            
            
            12,093
            
            
            
            33,686Pre-tax
      income from continuingoperations
            
            
            3,831
            
            
            
            5,711
            
            
            
            5,125
            
            
            
            7,692
            
            
            
            22,359Net
      income from continuingoperations
            
            
            2,536
            
            
            
            3,797
            
            
            
            3,443
            
            
            
            4,693
            
            
            
            14,469Net
      loss from discontinuedoperations
            
            
            (25
            )
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (25
            )Net
      income
            
            $
            2,511
            
            
            $
            3,797
            
            
            $
            3,443
            
            
            $
            4,693
            
            
            $
            14,444Basic
      income per share:From
      continuing operations:
            
            $
            0.23
            
            
            $
            0.35
            
            
            $
            0.31
            
            
            $
            0.42
            
            
            $
            1.31From
      discontinuedoperations:
            
            $
            —
            
            
            $
            —
            
            
            $
            —
            
            
            $
            —
            
            
            $
            —Net
      income per share, basic:
            
            $
            0.23
            
            
            $
            0.35
            
            
            $
            0.31
            
            
            $
            0.42
            
            
            $
            1.31Diluted
      income per share:From
      continuing operations
            
            $
            0.21
            
            
            $
            0.32
            
            
            $
            0.29
            
            
            $
            0.39
            
            
            $
            1.22From
      discontinued operations
            
            $
            —
            
            
            $
            —
            
            
            $
            —
            
            
            $
            —
            
            
            $
            —Net
      income per share,diluted:
            
            $
            0.21
            
            
            $
            0.32
            
            
            $
            0.29
            
            
            $
            0.39
            
            
            $
            1.22






Fiscal 2006 Quarter EndedMarch 31
            
            
            June 30
            
            
            September 30
            
            
            December 31
            
            
            Total(Dollar
      amounts in thousands, except per share data)Revenues
            
            $
            56,480
            
            
            $
            60,010
            
            
            $
            68,743
            
            
            $
            64,115
            
            
            $
            249,348Gross
      profit
            
            
            6,686
            
            
            
            7,310
            
            
            
            7,878
            
            
            
            6,673
            
            
            
            28,547Pre-tax
      income from continuingoperations
            
            
            4,563
            
            
            
            4,832
            
            
            
            5,354
            
            
            
            4,455
            
            
            
            19,204Net
      income from continuingoperations
            
            
            3,022
            
            
            
            3,156
            
            
            
            3,545
            
            
            
            2,915
            
            
            
            12,638Net
      income from discontinuedoperations
            
            
            171
            
            
            
            208
            
            
            
            65
            
            
            
            238
            
            
            
            682Net
      income
            
            $
            3,193
            
            
            $
            3,364
            
            
            $
            3,610
            
            
            $
            3,153
            
            
            $
            13,320Basic
      income per share:From
      continuing operations:
            
            $
            0.30
            
            
            $
            0.30
            
            
            $
            0.33
            
            
            $
            0.26
            
            
            $
            1.19From
      discontinuedoperations:
            
            $
            0.02
            
            
            $
            0.02
            
            
            $
            0.01
            
            
            $
            0.01
            
            
            $
            0.06Net
      income per share, basic:
            
            $
            0.32
            
            
            $
            0.32
            
            
            $
            0.34
            
            
            $
            0.27
            
            
            $
            1.25Diluted
      income per share:From
      continuing operations
            
            $
            0.27
            
            
            $
            0.27
            
            
            $
            0.30
            
            
            $
            0.24
            
            
            $
            1.08From
      discontinued operations
            
            $
            0.01
            
            
            $
            0.02
            
            
            $
            0.01
            
            
            $
            0.01
            
            
            $
            0.06Net
      income per share,diluted:
            
            $
            0.28
            
            
            $
            0.29
            
            
            $
            0.31
            
            
            $
            0.25
            
            
            $
            1.14


F30
 Table of Contents




Exhibit
Index




Number
            Exhibit
      Title1.1
            Underwriting
      Agreement dated December 18, 2007 between Sterling Construction Company,
      Inc., and D. A. Davidson & Co. (incorporated by reference to Exhibit
      1.1 to Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      filed on December 20, 2007 (SEC File No. 1-31993)).2.1
            Purchase
      Agreement by and among Richard H. Buenting, Fisher Sand & Gravel Co.,
      Thomas Fisher and Sterling Construction Company, Inc. dated as of
      October 31, 2007 (incorporated by reference to Exhibit number 2.1 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).2.2
            Escrow
      Agreement by and among Sterling Construction Company, Inc., Fisher Sand
      & Gravel Co., Richard H. Buenting and Comerica Bank as Escrow Agent,
      dated as of October 31, 2007 (incorporated by reference to Exhibit number
      2.2 to Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).3.1
            Restated
      and Amended Certificate of Incorporation of Oakhurst Company, Inc., dated
      as of September 25, 1995 (incorporated by reference to Exhibit 3.1 to
      Sterling Construction Company, Inc.'s Registration Statement on Form S-1,
      filed on November 17, 2005 (SEC File No. 333-129780)).3.2
            Certificate
      of Amendment of the Certificate of Incorporation of Oakhurst Company,
      Inc., dated as of November 12, 2001 (incorporated by reference to Exhibit
      3.2 to Sterling Construction Company, Inc.'s Registration Statement on
      Form S-1, filed on November 17, 2005 (SEC File No.
      333-129780)).3.3*
            Bylaws
      of Sterling Construction Company, Inc. as amended through November 7,
      2007.4.1
            Certificate
      of Designations of Oakhurst Company, Inc.'s Series A Junior Participating
      Preferred Stock, dated as of February 10, 1998 (incorporated by reference
      to Exhibit 4.2 to its Annual Report on Form 10-K, filed on May 29, 1998
      (SEC File No. 000-19450)).4.3
            Rights
      Agreement, dated as of December 29, 1998, by and between Oakhurst Company,
      Inc. and American Stock Transfer & Trust Company, including the form
      of Series A Certificate of Designation, the form of Rights Certificate and
      the Summary of Rights attached thereto as Exhibits A, B and C,
      respectively (incorporated by reference to Exhibit 99.1 to Oakhurst
      Company, Inc.'s Registration Statement on Form 8-A, filed on January 5,
      1999 (SEC File No. 000-19450)).4.4
            Form
      of Common Stock Certificate of Sterling Construction Company, Inc.
      (incorporated by reference to Exhibit 4.5 to its Form 8-A, filed on
      January 11, 2006 (SEC File No. 011-31993)).10.1#
            Oakhurst
      Capital, Inc. 1994 Omnibus Stock Plan, with form of option agreement
      (incorporated by reference to Exhibit 10.1 to Sterling Construction
      Company, Inc.'s Registration Statement on Form S-1, filed on November 17,
      2005 (SEC File No. 333-129780)).10.2#
            Oakhurst
      Capital, Inc. 1994 Omnibus Stock Plan, as amended through December 18,
      1998, (incorporated by reference to Exhibit 10.21 to Oakhurst Company,
      Inc.'s Annual Report on Form 10-K, filed on June 1, 1999 (SEC File No.
      000-19450)).




E1
 Table of Contents


Number
            Exhibit
      Title


10.3#
            Oakhurst
      Capital, Inc. 1994 Non-Employee Director Stock Option Plan, with form of
      option agreement (incorporated by reference to Exhibit 10.3 to Sterling
      Construction Company, Inc.'s Registration Statement on Form S-1, filed on
      November 17, 2005 (SEC File No. 333-129780)).10.4#
            Oakhurst
      Company, Inc. 1998 Stock Incentive Plan (incorporated by reference to
      Exhibit 10.4 to Sterling Construction Company, Inc.'s Registration
      Statement on Form S-1, filed on November 17, 2005 (SEC File No.
      333-129780)).10.5#
            Form
      of Stock Incentive Agreements under Oakhurst Company, Inc.'s 1998 Stock
      Incentive Plan (incorporated by reference to Exhibit 10.51 to Sterling
      Construction Company, Inc.'s Annual Report on Form 10-K for the year ended
      December 31, 2004, filed on March 29, 2005 (SEC File No.
      001-31993)).10.6#
            Oakhurst
      Company, Inc. 2001 Stock Incentive Plan (incorporated by reference to
      Exhibit 10.6 to Sterling Construction Company, Inc.'s Registration
      Statement on Form S-1, filed on November 17, 2005 (SEC File No.
      333-129780)).10.7#
            Forms
      of Stock Option Agreement under the Oakhurst Company, Inc. 2001 Stock
      Incentive Plan (incorporated by reference to Exhibit 10.51 to Sterling
      Construction Company, Inc.'s Annual Report on Form 10-K for the year ended
      December 31, 2004, filed on March 29, 2005 (SEC File No.
      001-31993)).10.8#*
            Summary
      of Compensation for Non Employee Directors of Sterling Construction
      Company, Inc.10.9
            Oakhurst
      Group Tax Sharing Agreement, dated as of July 18, 2001, by and
      among  Oakhurst Company, Inc., Sterling Construction Company,
      Steel City Products, Inc. and such other companies as are set forth on
      Schedule A thereto (incorporated by reference to Exhibit 10.28 to Sterling
      Construction Company, Inc.'s Transition Report on Form 10-K for the ten
      months ended December 31, 2001, filed on April 8, 2002 (SEC File No.
      000-19450)).10.10
            Fourth
      Amended and Restated Revolving Credit Loan Agreement, dated as of May 10,
      2006, by and between Comerica Bank, Sterling Construction Company, Inc.,
      Sterling General, Inc., Sterling Houston Holdings, Inc. Texas Sterling
      Construction, L.P. (incorporated by reference to Exhibit 10.1 (and
      referred to as "Amended Revolving Line of Credit Agreement with Comerica
      Bank") to Sterling Construction Company, Inc.'s  Quarterly
      Report on Form 10-Q for the fiscal quarter ended September 30, 2006, filed
      on November 13, 2006 (SEC File No. 001-31993)).10.11
            Credit
      Agreement by and among Sterling Construction Company, Inc., Texas Sterling
      Construction Co., Oakhurst Management Corporation and Comerica Bank and
      the other lenders from time to time party thereto, and Comerica Bank as
      administrative agent for the lenders, dated as of October 31, 2007
      (incorporated by reference to Exhibit 10.1 to Sterling Construction
      Company, Inc.'s Current Report on Form 8-K, Amendment No. 1 filed on
      November 21, 2007 (SEC File No. 1-31993)).10.12
            Security
      Agreement by and among Sterling Construction Company, Inc., Texas Sterling
      Construction Co., Oakhurst Management Corporation and Comerica Bank as
      administrative agent for the lenders, dated as of October 31, 2007
      (incorporated by reference to Exhibit 10.2 to Sterling Construction
      Company, Inc.'s Current Report on Form 8-K, Amendment No. 1 filed on
      November 21, 2007 (SEC File No. 1-31993)).10.13
            Joinder
      Agreement by Road and Highway Builders, LLC and Road and Highway Builders
      Inc, dated as of October 31, 2007 (incorporated by reference to Exhibit
      10.3 to Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).




E2
 Table of Contents




Number
            Exhibit
      Title


10.14#
            Employment
      Agreement between Richard H. Buenting and Road and Highway Builders, LLC,
      effective October 31, 2007 (incorporated by reference to Exhibit 10.4 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K,
      Amendment No. 1 filed on November 21, 2007 (SEC File No.
      1-31993)).10.15#
            Employment
      Agreement dated as of July 19, 2007 between Sterling Construction Company,
      Inc. and Patrick T. Manning (incorporated by reference to Exhibit 10.1 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K filed on
      January 17, 2008 (SEC File No. 1-31993))10.16#
            Employment
      Agreement dated as of July 19, 2007 between Sterling Construction Company,
      Inc. and Joseph P. Harper, Sr. (incorporated by reference to Exhibit 10.2
      to Sterling Construction Company, Inc.'s Current Report on Form 8-K filed
      on January 17, 2008 (SEC File No. 1-31993))10.17#
            Employment
      Agreement dated as of July 16, 2007 between Sterling Construction Company,
      Inc. and James H. Allen, Jr. (incorporated by reference to Exhibit 10.3 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K filed on
      January 17, 2008 (SEC File No. 1-31993))10.18#
            Option
      Agreement dated August 7, 2007 between Sterling Construction Company, Inc.
      and James H. Allen, Jr. (incorporated by reference to Exhibit 10.4 to
      Sterling Construction Company, Inc.'s Current Report on Form 8-K filed on
      January 17, 2008 (SEC File No. 1-31993))14
            Code
      of Business Conduct and Ethics as amended on November 7, 2006
      (incorporated by reference to Exhibit 14 to Sterling Construction Company,
      Inc.'s Current Report on Form 8-K filed on November 13, 2006 (SEC File No.
      1-31993)).21
            Subsidiaries
      of Sterling Construction Company, Inc.:
              Texas
      Sterling Construction Co.
              Oakhurst
      Management Corporation
              Road
      and Highway Builders, LLC
              Road
      and Highway Builders Inc.23.1*
            Consent
      of Grant Thornton LLP.31.1*
            Certification
      of Patrick T. Manning, Chief Executive Officer of Sterling Construction
      Company, Inc.31.2*
            Certification
      of James H. Allen, Jr., Chief Financial Officer of Sterling Construction
      Company, Inc.32.0*
            Certification
      pursuant to Section 1350 of Chapter 63 of Title 18 of the United States
      Code (18 U.S.C. 1350) of Patrick T. Manning, Chief Executive Officer, and
      James H. Allen, Jr., Chief Financial
Officer.




#  Management
contract or compensatory plan or arrangement.




*  Filed
herewith.




E3