##### 



UNITED
    STATES SECURITIES AND EXCHANGE COMMISSIONWashington, D.C.
    20549
      Form 10-K
  ANNUAL REPORT PURSUANT TO
    SECTION 13 OR 15(d)
 OF THE SECURITIES EXCHANGE ACT
    OF 1934
  For the fiscal year ended December 31, 2006
  Commission file number: 1-11376
    THE ALLIED DEFENSE GROUP,
    INC.
 (Exact name of registrant as
    specified in its charter)
  Delaware

04-2281015(State of
    incorporation)

(I.R.S. Employer
    Identification No.)   8000 Towers Crescent Drive, Suite 260
 Vienna, Virginia 22182
 (Address of principal executive
    offices, including zip code)
  (703) 847-5268
 (Registrants telephone
    number, including area code)
    Securities registered pursuant to Section 12(b) of the
    Act:
  Title of Class

Name of ExchangeCommon Stock, $0.10 Par Value

American Stock Exchange   Securities registered pursuant to Section 12(g) of the
    Act:
 None
  o þ
  o þ
  o þ
  Regulation S-K Form 10-K Form 10-K. þ
   o þ o
  Rule 12b-2 o þ
  Form 10-K,




---



##### 



INDEX
  PART IItem 1.


Business


1Item 1A.


Risk
    Factors


9Item 1B.


Unresolved Staff
    Comments


20Item 2.


Properties


20Item 3.


Legal
    Proceedings


21Item 4


Submission of
    Matters to a Vote of Security Holders


22PART IIItem 5.


Market for Stock
    and Related Stockholder Matters


22Item 6.


Selected Financial
    Data


25Item 7.


Managements
    Discussion and Analysis of Financial Condition and Results of
    Operations


26Item 7A.


Quantitative and
    Qualitative Disclosures About Market Risk


47Item 8.


Financial
    Statements and Supplementary Data


48Item 9.


Changes in and
    Disagreements With Accountants on Accounting and Financial
    Disclosure


48Item 9A.


Controls and
    Procedures


48Item 9B.


Other
    Information


49PART IIIItem 10.


Directors,
    Executive Officers and Corporate Governance


49Item 11.


Executive
    Compensation


51Item 12.


Security Ownership
    of Certain Beneficial Owners, Management & Related
    Stockholder Matters


60Item 13.


Certain
    Relationships and Related Transactions, and Director
    Independence


62Item 14.


Principal
    Accounting Fees and Service


62PART IVItem 15.


Exhibits and
    Financial Statement Schedules


62SIGNATURES


65




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##### 



PART I  ITEM 1.
    BUSINESS      Date

Company Involved

EventMay 31, 1994

VSK Electronics N.V. and
    Télé Technique Générale S.A.

AcquiredMay 9, 1995

Intelligent Data Capturing Systems
    N.V.

AcquiredDecember 11, 1999

VIGITEC S.A.

AcquiredDecember 31, 2001

News/Sports Microwave Rental Inc.

AcquiredJune 6, 2002

Titan Dynamic Systems, Inc.

AcquiredJuly 31, 2002

SeaSpace Corporation

AcquiredAugust 1, 2004

CMS Security Systems

AcquiredNovember 1, 2005

Global Microwave Systems, Inc.

Acquired     
    Stimulate organic growth by expanding product offerings,
    increasing market share in existing markets, and penetrating new
    markets
    Enhance marketing and business development efforts among the
    subsidiaries to increase sales and backlog
    Successfully integrate new subsidiaries to ensure profitability
    and accretion
    Make additional strategic acquisitions that complement existing
    operating segments    Description
    of Business
  Allied.
 1




---



##### 



Ammunition &
    Weapons Effects Segment
    MECAR. and/or
  Mortar Ammunition
  90mm Ammunition
  105mm Tank Ammunition
  120mm Tank Ammunition
  Other Ammunition
  Grenades
 2




---



##### 



ALLIED TECHNOLOGY.
  MECAR USA.
  Titan. E-Pryo
  Electronic
    Security Segment
    VSK Group. and/or
  NSM.
  Global Microwave Systems. sub-miniature
 3




---



##### 



sub-miniature
  Other
    Segment.
    SeaSpace. ®
  Geographic
    Areas and Industry Segments
    Market
    and Customers
    and/or
  and/or
 4




---



##### 



time-to-time U.S.-based
      Principal
    Customers
    Raw
    Materials and Suppliers
     5




---



##### 



Marketing
        Research
    and Development
     6




---



##### 



Backlog
    December 31, 2006


December 31, 2005Ammunition & Weapons
    Effects

$
39,973


$
71,142Electronic Security

$
23,608


$
20,040Other

$
2,993


$
2,194Total

$
66,574


$
93,376     Competition
    sub-segment
   7




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##### 



Seasonal
    Nature of Business
      Personnel
    Technical &


Hourly


Part-Time


TechnicalSalaried Employees


Workers


Employees


Consultants


TotalAllied


16















16MECAR


56



276







4



336VSK Group


139



14



2







155NSM


36



11



6



4



57GMS


20



20







2



42SeaSpace


30



3



3



3



39Titan


15



8



2







25MECAR USA


7



15



2







24Total


319



347



15



13



694        8




---



##### 



Patents
    and Trademarks
    Environmental
    Regulations
    Available
    Information
  www.allieddefensegroup.com
  (703) 847-5268
  ITEM 1A.
    RISK
    FACTORS  WE MAY
    NOT BE ABLE TO TIMELY REPAY OUR OUTSTANDING
    INDEBTEDNESS.
    Form S-1 Form 10-K Form S-1 Form S-1
   9




---



##### 



Form 10-K/A
        WE MAY
    NOT BE ABLE TO CURE A DEFAULT ON OUR INDEBTEDNESS.
  Form S-1
   10




---



##### 



and/or
  OUR
    INDEPENDENT REGISTERED PUBLIC ACCOUNTANTS HAVE ISSUED A
    GOING CONCERN OPINION RAISING DOUBT ABOUT OUR
    FINANCIAL VIABILITY.
    WE
    HAVE LIQUIDITY ISSUES.
    WE MAY
    NEED TO RAISE ADDITIONAL CAPITAL ON TERMS UNFAVORABLE TO OUR
    STOCKHOLDERS.
  and/or
  OUR
    FINANCIAL RESULTS CONTINUE TO BE LARGELY INFLUENCED BY THE
    RESULTS OF MECAR.
   11




---



##### 



AT
    MECAR, OUR REVENUE CONTINUES TO BE CONCENTRATED AMONG A SMALL
    NUMBER OF CUSTOMERS.
    MECAR
    DEPENDS UPON AN INDEPENDENT DISTRIBUTOR FOR THE SALE OF PRODUCTS
    AND ANY DISRUPTION IN THIS RELATIONSHIP COULD ADVERSELY AFFECT
    US.
    WE DO
    NOT HAVE LONG-TERM CONTRACTS WITH OUR CUSTOMERS AND OUR
    CUSTOMERS MAY CEASE PURCHASING OUR PRODUCTS AT ANY
    TIME.
    OUR
    MARKETS FOR AMMUNITION SALES ARE LIMITED BY THE AVAILABILITY OF
    BELGIAN EXPORT LICENSES.
    OUR
    SUPPLIERS HAVE FROM TIME TO TIME BEEN LATE IN DELIVERY OF KEY
    SUPPLIES WHICH HAS DELAYED OUR PRODUCTION AND HAD A NEGATIVE
    IMPACT ON OUR FINANCIAL RESULTS.
    FIRES
    OR EXPLOSIVE INCIDENTS MAY DISRUPT OUR AMMUNITION &
    WEAPONS EFFECTS BUSINESS.
  and/or and/or
 12




---



##### 



MECARS
    UNION WORKFORCE COULD ADVERSELY AFFECT OUR
    BUSINESS.
    WE MAY
    EXPERIENCE PRODUCT FAILURES, SCHEDULE DELAYS OR OTHER
    PROBLEMS WITH EXISTING OR NEW PRODUCTS AND SYSTEMS, ANY OF WHICH
    COULD ADVERSELY IMPACT OUR BUSINESS.
    NEWLY
    FORMED SUBSIDIARIES AND RECENTLY ACQUIRED SUBSIDIARIES MAY NOT
    PERFORM AS EXPECTED.
  and/or
    LARGE
    CONTRACT ORDERS MAY NOT BE FULFILLED.
    WE ARE
    NOT ABLE TO GUARANTEE THAT CONTRACT ORDERS INCLUDED IN OUR
    ESTIMATED BACKLOG WILL RESULT IN ACTUAL REVENUES IN ANY
    PARTICULAR FISCAL PERIOD OR THAT THE ACTUAL REVENUES FROM SUCH
    CONTRACTS WILL EQUAL OUR ESTIMATED BACKLOG.
   13




---



##### 



OUR
    BUSINESS IS SUBJECT TO MANY FACTORS THAT COULD CAUSE OUR
    QUARTERLY OR ANNUAL OPERATING RESULTS TO FLUCTUATE AND OUR STOCK
    PRICE TO BE VOLATILE.
    
    the timing and amount of, or cancellation or rescheduling of,
    orders for our products;
    our ability to develop, introduce, ship and support new products
    and product enhancements and manage product transitions,
    announcements and new product introductions;
    our ability to achieve cost reductions;
    our ability to achieve and maintain production volumes and
    quality levels for our products;
    the volume of products sold and the mix of distribution channels
    through which they are sold;
    the loss of any one of our major customers or a significant
    reduction in orders from those customers; and
    increased competition, particularly from larger, better
    capitalized competitors.  period-to-period
  BECAUSE
    WE SELL SOME OF OUR PRODUCTS IN COUNTRIES OTHER THAN THE UNITED
    STATES, WE MAY BE SUBJECT TO POLITICAL, ECONOMIC, AND OTHER
    CONDITIONS THAT COULD RESULT IN REDUCED SALES OF OUR PRODUCTS
    AND WHICH COULD ADVERSELY AFFECT OUR BUSINESS.
    OUR
    INTELLECTUAL PROPERTY IS IMPORTANT TO US AND WE RISK LOSS OF A
    VALUABLE ASSET IF WE CANNOT ADEQUATELY PROTECT IT.
    WE ARE
    DEPENDENT UPON KEY PERSONNEL WHO WOULD BE DIFFICULT TO REPLACE
    AND WHOSE LOSS COULD IMPEDE OUR DEVELOPMENT.
   14




---



##### 



OUR
    BUSINESS COULD BE ADVERSELY AFFECTED BY SIGNIFICANT CHANGES IN
    THE CONTRACTING OR FISCAL POLICIES OF THE U.S. FEDERAL
    GOVERNMENT.
    
    budgetary constraints affecting U.S. federal government
    spending generally, or specific departments or agencies in
    particular (we are particularly dependent upon the Department of
    Homeland Security) and changes in fiscal policies or available
    funding;
    the adoption of new laws or regulations;
    technological developments;
    U.S. federal governmental shutdowns and other potential
    delays in the government appropriations process;
    delays in the payment of our invoices by government payment
    officers due to problems with, or upgrades to, government
    information systems, or for other reasons;
    competition and consolidation in the relevant
    industries; and
    general economic conditions.           15




---



##### 



OUR
    FIXED-PRICE CONTRACTS MAY NOT BE PROFITABLE.
    ACQUISITIONS
    MAY HAVE ADVERSE CONSEQUENCES FOR OUR BUSINESS.
    POTENTIAL
    UNDISCLOSED LIABILITIES ASSOCIATED WITH ACQUISITIONS 
    WE MAY BE SUBJECT TO CERTAIN LIABILITIES ASSUMED IN CONNECTION
    WITH OUR ACQUISITIONS THAT COULD HARM OUR OPERATING
    RESULTS.
    WE
    HAVE DEMANDS ON OUR CASH RESOURCES IN ADDITION TO INTEREST AND
    PRINCIPAL PAYMENTS ON OUR DEBT, INCLUDING, AMONG OTHERS,
    OPERATING EXPENSES. OUR LEVEL OF INDEBTEDNESS AND THESE
    SIGNIFICANT DEMANDS ON OUR CASH RESOURCES COULD:
  
    make it more difficult for us to satisfy our obligations,
    require us to dedicate a substantial portion of our cash flow
    from operations to payments on our debt, thereby reducing the
    amount of cash flow available for working capital, capital
    expenditures, acquisitions and other general corporate purposes,
    limit our flexibility in planning for, or reacting to, changes
    in our lines of business,
    place us at a competitive disadvantage compared to competitors
    that have lower debt service obligations and significantly
    greater operating and financing flexibility,
    limit, along with the financial and other restrictive covenants
    applicable to our indebtedness, among other things, our ability
    to borrow additional funds,
    increase our vulnerability to general adverse economic and
    industry conditions, and
    result in an event of default upon a failure to comply with
    financial covenants contained in any existing credit facilities
    which, if not cured or waived, could have a material adverse
    effect on our business, financial condition, or results of
    operations.
    Should any significant combination of these risks materialize,
    we could deplete our cash reserves as early as the second
    quarter of 2007. 16




---



##### 



OUR
    OPERATIONS MAY BE INSUFFICIENT TO PAY FOR OUR INCREASED
    OVERHEAD.
    WE MAY
    NOT BE ABLE TO CONTINUE TO SUCCESSFULLY COMPETE IN THE HIGHLY
    COMPETITIVE DEFENSE AND SECURITY SECTORS AGAINST COMPETITORS
    WITH GREATER RESOURCES.
    OUR
    EMPLOYEES MAY ENGAGE IN IMPROPER ACTIVITIES WITH ADVERSE
    CONSEQUENCES TO OUR BUSINESS.
    IF WE
    CANNOT OBTAIN THE NECESSARY SECURITY CLEARANCES, WE MAY NOT BE
    ABLE TO PERFORM CLASSIFIED WORK FOR THE U.S. GOVERNMENT AND
    OUR REVENUES MAY SUFFER.
    CURRENCY
    FLUCTUATIONS, ESPECIALLY IN THE EUROPEAN EURO, MAY SIGNIFICANTLY
    AFFECT OUR RESULTS OF OPERATIONS.
    SINCE
    WE DO NOT INTEND TO DECLARE DIVIDENDS ON OUR COMMON STOCK IN THE
    FORESEEABLE FUTURE, THE RETURN ON YOUR INVESTMENT WILL DEPEND
    UPON APPRECIATION OF THE MARKET PRICE OF YOUR
    SHARES.
   17




---



##### 



THE
    PRICE OF OUR COMMON STOCK HAS BEEN VOLATILE.
    STOCKHOLDERS
    WILL EXPERIENCE SIGNIFICANT DILUTION FROM OUR SALE OF
    CONVERTIBLE NOTES, WARRANTS AND STOCK.
      THE
    PRICE OF OUR SHARES MAY BE ADVERSELY AFFECTED BY THE PUBLIC
    SALE OF A SIGNIFICANT NUMBER OF THE SHARES ELIGIBLE FOR
    FUTURE SALE.
     18




---



##### 



BECAUSE
    OF THE RIGHTS AGREEMENT AND ANTI-TAKEOVER PROVISIONS
    IN OUR CERTIFICATE OF INCORPORATION AND BYLAWS, A THIRD PARTY
    MAY BE DISCOURAGED FROM MAKING A TAKEOVER OFFER WHICH COULD BE
    BENEFICIAL TO OUR STOCKHOLDERS.
      BECAUSE
    OF LIKELY FLUCTUATIONS IN THE PRICE OF OUR STOCK, WE MAY BE
    SUBJECT TO CLASS ACTION LITIGATION THAT COULD DISTRACT
    MANAGEMENT AND RESULT IN SUBSTANTIAL COSTS.
    AS OF
    DECEMBER 31, 2006, ALLIED HAD MATERIAL WEAKNESSES IN ITS
    INTERNAL CONTROLS, AND ITS INTERNAL CONTROL OVER FINANCIAL
    REPORTING WAS NOT EFFECTIVE AS OF THAT DATE. IF ALLIED FAILS TO
    MAINTAIN AN EFFECTIVE SYSTEM OF INTERNAL CONTROLS, IT MAY NOT BE
    ABLE TO PROVIDE TIMELY AND ACCURATE FINANCIAL STATEMENTS. IN
    JANUARY 2007, THE COMPANY FOUND AN ERROR IN THE FINANCIAL
    RESULTS FOR SEPTEMBER 30, 2006 AND THE COMPANY HAD TO
    RESTATE RESULTS FOR THAT PERIOD.
         19




---



##### 



ITEM 1B.
    UNRESOLVED
    STAFF COMMENTS    ITEM 2.
    PROPERTIES    Square FootageLocation

Property


Owned


Leased


Industry SegmentNivelles, Belgium


Office/Mfg



140,000






Ammunition & Weapons
    Effects(1)Harelbeke, Belgium


Office/Mfg



25,600






Electronic Security(2)Heppignies, Belgium


Office/Mfg



9,600






Electronic Security(2)Brussels, Belgium


Office/Mfg



8,700






Electronic Security(2)Hasselt, Belgium


Office/Mfg



14,400






Electronic Security(2)Huntington Beach, CA


Office/Mfg







3,100


Electronic Security(2)Spring Valley, CA


Office/Mfg







22,597


Electronic Security(3)Poway, CA


Office/Mfg







34,845


Other(4)Carlsbad, CA


Office/Mfg







17,204


Electronic Security(5)Marshall, TX


Office/Mfg



13,435



976


Ammunition & Weapons
    Effects(6)Marshall, TX


Office/Mfg



15,738



54,000


Ammunition & Weapons
    Effects(6)     (1)
    
    MECARs principal factory is located approximately
    25 miles south of Brussels near Nivelles, Belgium. The
    factory principally consists of a manufacturing and
    administrative complex which was occupied by MECAR in 1989. The
    manufacturing area is approximately 112,000 square feet and
    the administration facility is approximately 28,000 square
    feet. There are a number of older buildings on the property that
    are still used 20




---



##### 



in conjunction with the new complex. A small test firing range
    is maintained on this property. MECAR also previously owned
    600 acres in the vicinity of the Village of Marche in the
    Ardennes region of Belgium, which was previously used as a test
    range. MECAR ceased its use of the Ardennes firing range in
    2001, and sold the property at the end of 2005. MECAR is now
    utilizing other test ranges, including a test range owned by the
    Belgian Army, although it is also exploring the prospects of
    securing the use of a new test range. Throughout 2006, MECAR
    operated using one full and two partial shifts. MECAR is
    currently operating at no more than 50% of its productive
    capacity.(2)
    
    VSK operates from owned facilities throughout Belgium, as well
    as a leased facility in California. Such facilities are
    currently operating at approximately 85% of productive capacity.(3)
    
    NSM operates from leased office, production and warehouse
    facilities in Spring Valley, California. In 2004, NSM expanded
    to a second warehouse facility in close proximity to its
    original facility providing an additional 10,000 square
    feet. The original facility is leased on a month to month basis
    while the additional 10,000 square feet are leased through
    June 30, 2008. NSM is currently operating at 60% of its
    productive capacity.(4)
    
    SeaSpace operates from leased office, production and warehouse
    facilities in Poway, CA. The lease expires in June, 2009 and the
    facility is currently operating at approximately 70% of
    productive capacity. In 2004, SeaSpace expanded its production
    and warehouse facilities in close proximity to its original
    facility providing an additional 10,400 square feet at year
    end.(5)
    
    Global Microwave Systems operates from leased facilities in
    Carlsbad, CA. The office lease expires October 2007. GMS is
    currently operating at 50% of its productive capacity.(6)
    
    Titan operates from a facility in Marshall, TX that is 30%
    dedicated to office space and 70% to production. The facilities
    at Titan have been sized in anticipation of future period
    revenue growth and it is not currently operating at its
    productive capacity. MECAR USA operates from an office and
    manufacturing facility in Marshall, Texas, constructed in 2005
    with assistance from the local development authority. In
    addition to the manufacturing facility, MECAR USA leased
    12,500 square feet of warehouse space in 2005 and increased
    that to 49,000 square feet in January 2006. Titan relocated
    its operations to share this facility with MECAR USA and Allied
    Technology, LLC also shares 500 square feet of office space
    in the facility. The facilities at MECAR USA have been sized in
    anticipation of future period revenue growth and it is not
    currently operating at its productive capacity. The Marshall
    facility is currently operating at 40% of productive capacity.    ITEM 3.
    LEGAL
    PROCEEDINGS       21




---



##### 



Form S-1 Form S-1
    ITEM 4.
    SUBMISSION
    OF MATTERS TO A VOTE OF SECURITY HOLDERS   PART II   ITEM 5.
    MARKET
    FOR STOCK AND  RELATED STOCKHOLDER MATTERS  Market Information.
  2006


2005High


Low


High


Low1st Quarter

$
23.45


$
20.45


$
24.85


$
21.552nd Quarter


23.30



20.77



25.80



20.123rd Quarter


21.98



16.00



25.06



21.504th Quarter


21.30



13.67



23.40



19.80   Stockholders.
  Dividends.
  Stock Issuances.
 22




---



##### 



Equity Compensation Plan Information.
  Number of Securities AvailableNumber of Securities to be


Weighted Average


for Future Issuance UnderIssued Upon Exercise of


Exercise Price of


Equity Compensation PlansOutstanding Options,


Outstanding Options,


(Excluding SecuritiesWarrants and Rights


Warrants and Rights


Reflected in Column (a))(a)


(b)


(c)Equity compensation plans approved
    by security holders


501,500


$
17.20



128,255Equity compensation plans not
    approved by security holders(1)


302,317


$
24.37



Total


803,817


$
19.89



128,255     (1)
    
    Consists of 232,523 warrants issued to purchaser of convertible
    notes as part of the 2006 Financing, 41,794 warrants issued to
    the financial advisor for the 2006 Financing and, 28,000
    warrants issued to the senior lender in the 2004 Financing. 23




---



##### 



PERFORMANCE
    GRAPH
    Comparison
    of 5 Year Cumulative Total Return
 Assumes Initial Investment of $100
 December 2006
  
   Allied Defense:
  S&P 500:
  Peer Group:
     24




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##### 



ITEM 6.
    SELECTED
    FINANCIAL DATA  Form 10-K.
  2006


2005


2004


2003


2002Operations data:Revenues

$
128,685


$
112,222


$
146,201


$
153,774


$
141,013Gross Profit


21,664



18,068



40,382



38,870



51,723Earnings (loss) before cumulative
    effect of accounting change


(41,097
)


(33,627
)


1,370



2,718



18,625Cumulative effect of accounting
    change, net of tax benefit






(5,293
)










Net earnings (loss)


(41,097
)


(38,920
)


1,370



2,718



18,625Earnings (loss) per share:BasicEarnings (loss) before cumulative
    effect of accounting change

$
(6.78
)

$
(5.84
)

$
0.25


$
0.49


$
3.51Cumulative effect of accounting
    change






(0.92
)










Net earnings (loss)

$
(6.78
)

$
(6.76
)

$
0.25


$
0.49


$
3.51DilutedEarnings (loss) before cumulative
    effect of accounting change

$
(6.78
)

$
(5.84
)

$
0.24


$
0.48


$
3.32Cumulative effect of accounting
    change(3)






(0.92
)










Net earnings (loss)

$
(6.78
)

$
(6.76
)

$
0.24


$
0.48


$
3.32Balance sheet data:Working capital

$
(3,164
)

$
36,362


$
78,963


$
83,987


$
69,273Total assets


168,045



180,946



192,231



206,325



167,282Bank overdraft facility


13,702



15,086



5,553







Long-term
    obligations(1) and(2)


41,550



25,701



7,600



12,110



7,422Stockholders equity


55,347



81,493



125,553



114,723



95,734Cash dividends declared per common
    share

$



$



$



$



$
     (1)
    
    Long-term obligations at December 31, 2006 include the fair
    value of Senior Subordinated Convertible Notes of $26,907 issued
    on March 9, 2006. The Company has reclassified the Senior
    Subordinated Convertible Notes from long-term obligations to
    current liabilities on the consolidated balance sheet (See
    page 28 for additional information).(2)
    
    Long-term obligations at December 31, 2005 include the
    Patriot facility of $13,539 which was reclassified from Current
    to Long-term because of the Companys ability and intent to
    refinance.(3)
    
    In 2005 MECAR changed its basis for applying percentage of
    completion accounting from total direct cost to direct labor
    cost. The charge in 2005 for the cumulative effect of the
    accounting change was $5,293, net of tax of $2,726.  2005 activity reflects the acquisition of Global Microwave
    Systems   25




---



##### 



ITEM 7.
    MANAGEMENTS
    DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
    OPERATIONS (amounts in thousands of dollars, other than share
    data)  Overview
      
    Ammunition & Weapons Effects segment consists of
    MECAR, located in Belgium, MECAR USA and Titan, located in
    Marshall, TX. MECAR develops and produces medium caliber, tank,
    mortar and other ammunition. MECAR USA became operational in
    late 2005 and pursues contracts from U.S. and foreign
    governments for ammunition and pyrotechnics devices with a focus
    on the 105MM market. Titan designs, manufactures and sells
    battlefield effects simulators, minor pyrotechnics and other
    training devices. Titan and MECAR USA are co-located at the same
    facility, are operated under a unified management team, share
    production facilities and employees and have a fully integrated
    back office and support service organization. MECAR, MECAR USA
    and Titan have similar products and services, similar production
    processes, common customers, similar methods to sell and
    distribute their products and operate in a similar regulatory
    environment.
    Electronic Security segment consists of VSK, located in
    Belgium and California and NSM and Global Microwave Systems
    (GMS) located near San Diego, California. VSK consists of
    VSK Electronics N.V., which manufactures access control,
    intrusion protection, fire detection and video systems;
    Télé Technique Générale S.A., which installs
    security systems; Intelligent Data Capturing Systems N.V., which
    manufacturers integrated video systems; VIGITEC S.A., which
    installs networked video surveillance systems; and CMS Security
    Systems which manufactures access control systems. NSM designs,
    manufactures, installs and services industrial and law
    enforcement surveillance products and integrated systems for the
    law enforcement community, agencies of the Department of
    Homeland Security and the Department of Defense. GMS designs and
    manufactures miniature and
    sub-miniature
    FM and digital transmitters, receivers, and related equipment
    for investigative, surveillance, and security applications, and
    live TV news/sports/entertainment coverage.
    The Other segment consists of SeaSpace located near
    San Diego, CA. It designs, manufactures, distributes and
    services weather and environmental satellite ground reception
    systems, and manufactures and markets a line of antenna systems.
    In January, 2007 the Board of Directors of the Company committed
    to a plan to sell SeaSpace. A sale is anticipated to be competed
    in the first half of 2007. Proceeds of the sale will be used in
    operations. The Company is not expecting to record a significant
    gain or loss as a result of this transaction.    U.S.-based
 26




---



##### 



Trends
    in Operations
  Accounting for Income
    Taxes ramped-up
     27




---



##### 




    Expanding the market presence of the ES Segment with additional
    U.S. Army contracts. Further expansion of VSK products in
    the U.S and eastern Europe, and expansion in broadcasting field;
    Emphasizing business development at both corporate and operating
    unit levels;
    Initiating the restructuring of MECARs operations to
    adjust the fixed cost based over the long-term;
    Improving internal controls by expending considerable efforts on
    Sarbanes-Oxley compliance initiatives, both in term of labor and
    dollars; and
    Upgrading its financial systems and processes for effective and
    efficient operations and to ensure regulatory compliance.    Trends
    in Liquidity and Capital Resources
    Senior
    Subordinated Convertible Notes
    Letters
    Alleging Default
    
    On February 20, 2007, the Company received a letter from
    Kings Road Investments, Ltd. (Kings Road), one of
    the holders of the Companys convertible notes, asserting
    events of default under the note. The letter states that Kings
    Road is electing to accelerate and redeem the note in its
    entirety. Kings Road seeks payment of the $12,500 principal
    amount plus a redemption premium of approximately $3,125 and
    default interest of approximately $500. The Company strongly
    disputes the alleged events of default. The Company is currently
    in discussions with Kings Road in an attempt to resolve these
    issues. There is no assurance that the Company will be
    successful in defending the allegations.
    On March 19, 2007 and March 20, 2007, the Company
    received letters from Portside Growth and Opportunity Fund
    (Portside) and LBI Group, Inc. (LBI), two other
    holders of the Companys convertible notes, asserting
    events of default very similar to those asserted by Kings
    Road. Both letters seek to accelerate and redeem the notes in
    their entirety. Portside seeks immediate payment of $7,500
    principal amount plus a redemption premium of $1,875 and default
    interest of approximately $545. LBI seeks immediate payment of
    $4,000 principal amount plus a redemption premium of $1,000 and
    default interest of approximately $284. The Company strongly
    disputes the alleged events of default. The Company is currently
    in discussions with Portside and LBI in an attempt to resolve
    these issues. There is no assurance that the Company will be
    successful in defending the allegations. 28




---



##### 



Debt
    Covenant Requires Effective Registration by March 29,
    2007
  Form 10-K Form S-1 Form S-1 Form S-1/A S-1/A Form 10-K.
  MECAR
    Credit Facility Default
    Management
    of Liquidity During 2006
       29




---



##### 



The
    Companys Plan for 2007
          and/or
    
    The Company will be able to get the common shares underlying the
    convertible debt financing registered and avoid the event of
    default with the note holders, 30




---



##### 




    The credit facility at MECAR will not be suspended again and if
    MECAR fails to meet the financial covenants the banking group
    will be willing to waive the covenants,
    The Company will be able to sell SeaSpace in 2007 in order to
    use the cash proceeds for operations,
    The Company will be able to issue additional shares of common
    stock to raise capital as needed,
    The Company will be able to refinance any of its existing debt
    if it becomes callable.  and/or and/or
  Results
    of Operations
      2006


2005


2004For the Years Ended December 31,

$


%


$


%


$


%Revenues

$
128,685



100.0
%

$
112,222



100.0
%

$
146,201



100.0
%Cost and expensesCost of sales


107,021



83.2



94,154



83.9



105,819



72.4Selling and administrative


37,690



29.3



36,471



32.5



29,605



20.2Research and development


8,476



6.6



7,190



6.4



6,695



4.6Goodwill impairment










3,060



2.7







Operating income (loss)


(24,502
)


(19.1
)


(28,653
)


(25.5
)


4,082



7.4Other income (expense)Interest income


1,068



0.8



580



0.5



549



0.4Interest expense


(9,026
)


(7.0
)


(2,568
)


(2.3
)


(2,441
)


(1.7
)Gain on fair value of SeniorConvertible notes and warrants


1,901



1.5















Other  net


2,038



1.6



(1,926
)


(1.7
)


(511
)


(0.3
)Earnings (loss) before income taxes


(28,521
)


(22.2
)


(32,567
)


(29.0
)


1,679



1.1Income tax expense


12,576



9.8



1,060



0.7



309



0.2Earnings (loss) before cumulative
    effect of accounting change


(41,097
)


(32.0
)


(33,627
)


(29.8
)


1,370



0.9Cumulative effect of accounting
    change










(5,293
)


(4.7
)






Net earnings (loss)

$
(41,097
)


(32.0
)%

$
(38,920
)


(34.5
)%

$
1,370



0.9
%  31




---



##### 



2006
    compared to 2005 compared to 2004
  Revenues.
  Revenues by Segment2006


2005


2004$


%


$


%


$


%Ammunition & Weapons
    Effects

$
70,798



55.0
%

$
67,396



60.1
%

$
93,793



64.1
%Electronic Security

$
50,881



39.6
%

$
38,802



34.6
%

$
45,973



31.5
%Other

$
7,006



5.4
%

$
6,024



5.3
%

$
6,435



4.4
%$
128,685



100.0
%

$
112,222



100.0
%

$
146,201



100.0
%          32




---



##### 



Cost of Sales by Segment2006


2005


2004% of





% of





% ofSegment





Segment





Segment$


Revenue


$


Revenue


$


RevenueAmmunition & Weapons
    Effects

$
76,685



108.3
%

$
66,809



99.1
%

$
76,087



81.1
%Electronic Security


26,217



51.5
%


23,141



59.6
%


26,193



57.0
%Other


4,119



58.8
%


4,237



70.3
%


3,657



56.8
%Corporate










(33
)


0
%


(118
)


0
%$
107,021



83.2
%

$
94,154



83.9
%

$
105,819



72.4
%   Cost of Sales.
           33




---



##### 



Selling and Administrative Expenses.
          Research and Development.
 34




---



##### 



Goodwill impairment.
  Interest Income.
  Interest expense. Form S-1
  Gain on fair value of Senior Subordinated Convertible Notes
    and warrants.
  Other 
    Net. Other-Net Other-Net
  Pre-Tax Profit.
  Pre-Tax
    Profit (Loss) by Segment
  2006


2005


2004Ammunition & Weapons
    Effects

$
(20,312
)

$
(18,119
)

$
1,670Electronic Security

$
2,428


$
(2,041
)

$
6,987Other

$
(1,210
)

$
(6,238
)

$
(3,282
)Corporate

$
(9,427
)

$
(6,169
)

$
(3,696
)$
(28,521
)

$
(32,567
)

$
1,679  35




---



##### 



Income Taxes-Expense (Benefit).
  Cumulative Effect of Accounting Change (net of income
    taxes).
  Net Earnings (Loss).
  Backlog.
 36




---



##### 



Backlog by Segment2006


2005


2004Amount


%


Amount


%


Amount


%Ammunition & Weapons
    Effects

$
39,973



60
%

$
71,142



76
%

$
51,149



66
%Electronic Security

$
23,608



35
%

$
20,040



21
%

$
24,601



32
%Other

$
2,993



5
%

$
2,194



3
%

$
1,523



2
%$
66,574



100
%

$
93,376



100
%

$
77,273



100
%         Liquidity
    and Capital Resources
     37




---



##### 



S-1 10-K 10-Q/A.
          
    In January, 2007 the Board of Directors of the Company approved
    the sale of SeaSpace, the sole entity that constitutes the Other
    segment. The sale is anticipated to be competed in the first
    half of 2007. Proceeds of the sale will be used in operations.
    The Company may look to raise additional capital by issuing
    additional shares of its common stock.
    The Company is exploring possible asset backed financing from
    local banks at its US based AWE facilities that would be
    earmarked for capital improvement  buildings
    and/or
    equipment  at that site. If this funding is not
    available, the Company may look to postpone further capital
    expansion beyond 2007. 38




---



##### 




    The Company will evaluate the disposition of certain assets in
    addition to the Other segment.
    The Company has the option of issuing dividends
    and/or
    loaning funds between its operating units to fund all operations.
    The Company will look to further consolidate its operations and
    eliminate fixed costs to enhance operating performance.  Balance Sheet.
         39




---



##### 



Accounting for
    Certain Hybrid Instruments 00-19: Accounting for Derivative Financial Instruments Indexed to,
    and Potentially Settled in, a Companys Own Stock
    Cash
    Flows.
    For the Years Ended December 312006


2005


2004Net cash provided by (used in)
    operating activities

$
(2,400
)

$
(22,229
)

$
9,404Net cash used in investing
    activities


(6,189
)


(17,610
)


(5,516
)Net cash provided by (used in)
    financing activities


19,493



20,153



(20,950
)   Operating Activities.
 40




---



##### 



Investing Activities.
  Financing Activities.
  Allied. 00-19: Accounting for Derivative Financial Instruments Indexed to,
    and Potentially Settled in, a Companys Own Stock
  MECAR.
 41




---



##### 



VSK Group.
  Other Subsidiaries.
  Stock Repurchases.
  Contractual Obligations and Commercial
    Commitments.
    Payments Due by PeriodLess than


2 - 3


4 - 5


More ThanContractual Obligations

Total


1 year


Years


Years


5 Years(Amount in 000s)Long-Term Debt Obligations(1)

$
38,479


$
35,020


$
3,319


$
140


$
Capital Lease Obligations

$
3,071


$
1,686


$
1,236


$
149


$
Operating Leases

$
2,984


$
1,072


$
1,073


$
510


$
329Registration Rights Penalties

$
900


$
900











Foreign exchange contracts(2)

$



$



$



$



$
Purchase Obligations

$



$



$



$



$
Total Contractual Obligations

$
45,434


$
38,678


$
5,628


$
779


$
329Commercial
    Commitments


TotalBank guarantees

$
31,399


$
31,399


$



$



$
     (1)
    
    Interest payments on long-term debt (which are excluded above)
    are estimated to be $2,832, $4,759, $2,813 and $0 for the above
    periods, assuming interest rates of 9.0%, 7.5%, 5.5%, 4.47% and
    4.0%.(2)
    
    MECAR enters into foreign exchange contracts to reduce the
    currency risk associated with sales contracts that are set in a
    currency other than MECARs functional currency. Since
    MECAR only enters into these contracts to offset a sales
    contract amount, the Company considers these obligations from
    foreign exchange contracts to be offset and thereby cash neutral
    and not required to be included in this schedule. At
    December 31, 2006, the Company had a net liability of $6
    recorded for these contracts that will settle within nine months.  Future Liquidity.
 42




---



##### 



and/or
  Off-Balance Sheet Arrangements.
    00-19, Accounting for Derivative Financial Instruments Indexed to,
    and Potentially Settled in, a Companys Own Stock
       43




---



##### 



Recent Accounting Pronouncements.
  Critical
    Accounting Policies
      
    Revenue recognition via the percentage of completion method
    Goodwill and intangible asset valuation
    Inventory reserves and allowance for doubtful accounts
    Derivative instruments
    Valuation of deferred income taxes and income tax reserves.  Revenue Recognition via the Percentage of Completion
    Method.
     44




---



##### 



Goodwill and intangible asset valuation. Business Combinations Goodwill and Other Intangible
    Assets
      Inventory reserves and allowance for doubtful
    accounts.
  Foreign Currency Translation. year-to-year
 45




---



##### 



year-to-year
  Derivative Instruments. Accounting
    for Derivative Instruments and Hedging Activities
  Valuation of deferred income taxes.
    Forward-Looking
    Statements
      
    substantial reliance on MECARs principal customers to
    continue to acquire products on a regular basis;
    the cyclical nature of the Companys military business; 46




---



##### 




    rapid technological developments and changes and the
    Companys ability to continue to introduce competitive new
    products and services on a timely, cost effective basis;
    the ability of the Company to successfully continue to expand
    its business base;
    the ability of the Companys acquired businesses to mature
    and meet performance expectations;
    the mix of products/services;
    domestic and foreign governmental fiscal affairs and public
    policy changes which may affect the level of purchases made by
    customers;
    changes in environmental and other domestic and foreign
    governmental regulations;
    changes in foreign currency exchange rates and interest rate
    fluctuation from market conditions;
    general risks associated with doing business outside the United
    States, including, without limitation, import duties, tariffs,
    quotas and political and economic instability;
    the effects of terrorist actions on business activities,
    customer orders and cancellations, and the United States and
    international governments responses to these terrorist
    actions;
    changes in government regulations;
    liability and other claims asserted against us;
    the ability to attract and retain qualified personnel; and
    continued availability of financing, financial instruments and
    financial resources in the amounts, at the times, and on the
    terms required to support the Companys future business.    ITEM 7A.
    QUANTITATIVE
    AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK  market
    risk credit risk
    Interest Rate Sensitivity.
 47




---



##### 



Exchange Rate Sensitivity.
    ITEM 8.
    FINANCIAL
    STATEMENTS AND SUPPLEMENTARY DATA    ITEM 9.
    CHANGES
    IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
    FINANCIAL DISCLOSURES    ITEM 9A.
    CONTROLS
    AND PROCEDURES  Disclosure
    Controls and Procedures
  Rule 13a-15
  Managements
    Report on Internal Control over Financial
    Reporting
  page F-3 Form 10-K,
 48




---



##### 



page F-5 Form 10-K.
    page F-7 Form 10-K. page F-5 Form 10-K
  Changes
    in Internal Control Over Financial Reporting
    ITEM 9B.
    OTHER
    INFORMATION  Form 8-K
 PART III  ITEM 10.
    DIRECTORS
    EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE       49




---



##### 



2003-2006. 2000-2001 1998-2000.
           50




---



##### 



Executive
    Officers
                (703) 847-5268
    ITEM 11.
    EXECUTIVE
    COMPENSATION  Compensation
    Discussion and Analysis
  Objectives
    of Compensation Program and What Our Compensation Program is
    Designed to Reward
       51




---



##### 



Form 10-K,
  Roles and
    Responsibilities for Our Compensation Program
  Role
    of the Compensation Committee
    Role
    of our Chief Executive Officer
    Role
    of the Compensation Consultant
    Elements
    of Companys Compensation Plan
    Base
    Salary
      
    market data;
    internal review of the executives compensation, both
    individually and relative to other officers;
    individual performance of the executive; and
    our financial and operating results   52




---



##### 



Annual
    Bonus
      Stock
    Incentives/Awards
    and/or and/or
    Severance/Change
    in Control
  Form 10-K.
  Change in
    Control
  and/or
 53




---



##### 



Termination
    without Cause
  Form 10-K.
  Health
    and Welfare Benefits
    401(k)
    Other
    Perquisites and Personal Benefits
    How
    Compensation Amounts Are Determined
     54




---



##### 



SUMMARY
    COMPENSATION TABLE
  Change inPensionValue andNonqualifiedNon-Equity


DeferredStock


Option


Incentive Plan


Compensation


All OtherAwards


Awards


Compensation


Earnings


Compensation


TotalName and Principal Position

Year


Salary


Bonus


($)(1)


($)(2)


($)


($)


($)(3)


($)John J. Marcello,


2006


$
294,817






$
147,879














$
32,800


$
475,496Chief Executive OfficerMonte L. Pickens,


2006


$
239,851






$
882


$
135,952










$
27,400


$
404,085Executive Vice PresidentRobert P. Dowski,


2006


$
209,870






$
27,108


$
234,750










$
27,902


$
499,630Chief Financial OfficerWayne Hosking,


2006


$
186,132


$
56,525


$
9,774


$
89,021










$
18,000


$
359,452Vice PresidentLuis M. Palacio,


2006


$
203,373


$
9,906


$
88,920














$
19,800


$
321,999Director, Business Development     (1)
    
    The amounts in this column reflect the expense recognized for
    financial statement reporting purposes for the year ended
    December 31, 2006, in accordance with FAS 123(R), from
    stock awards and restricted stock grants made under the 2001
    Equity Incentive Plan during and prior to 2006; and the portion
    paid by Allied (15%) for stock purchases made through the 1992
    Employee Stock Purchase Plan (ESPP) during 2006. Assumptions
    used in the calculation of these amounts are included in
    Footnote A to the Companys audited financial
    statements included in this
    Form 10-K.
    The amount shown for Mr. Pickens is the Allied portion for
    stock purchases made by Mr. Pickens under the ESPP. The
    amount for Mr. Dowski represents solely an award of
    1,750 shares granted on October 6, 2006.(2)
    
    The amounts in this column reflect the expense recognized for
    financial statement reporting purposes for the year ended
    December 31, 2006, in accordance with FAS 123(R), of
    option grants made under the 2001 Equity Incentive Plan during
    and prior to 2006. Assumptions used in the calculation of these
    amounts are included in Footnote A to the Companys
    audited financial statements included in this
    Form 10-K(3)
    
    This column includes the contribution to a participants
    401(K) plan account equal to 10% of an employees base
    salary. The amounts for the 401(K) plan can only be estimated
    based on the first three quarters of 2006 as the final payment
    is contingent upon the completion of the Plan audit. For
    Mr. Marcello and Mr. Pickens this column also includes
    a payment of $4,000 each for premiums for life insurance
    policies. For Mr. Dowski, Other Compensation includes
    $7,402 gross-up
    on the October 2006 stock award valued at $27,108.  GRANTS OF
    PLAN-BASED AWARDS
  All Other


All OtherStock


StockAwards:


Awards:Estimated Future Payouts











Number of


Number of


ExerciseUnder Non-Equity


Estimated Future Payout


Shares of


Securities


Price ofIncentive Plan Awards


Incentive Plan Awards


Stock or


Underlying


OptionThreshold


Target


Max.


Threshold


Target


Max.


Units


Options


AwardsName and Principal Position

Grant Date


($)


($)


($)


($)


($)


($)


(#)


(#)


($/Sh)John J. Marcello,






































Chief Executive OfficerMonte L. Pickens,






































Executive Vice PresidentRobert P. Dowski,


10/06/2006



























1,750
(1)






Chief Financial OfficerWayne Hosking,


03/20/2006



























500
(2)






Vice PresidentLuis M. Palacio,






































Director, Business Development     (1)
    
    Stock Award, fully vested at time of grant.(2)
    
    Restricted stock award vesting evenly over two years. 55




---



##### 



OUTSTANDING
    EQUITY AWARDS AT FISCAL YEAR-END
  EquityStock Awards


IncentiveEquity


PlanOption Awards








Incentive


Awards:Equity














Plan


MarketIncentive














Awards:


or PayoutPlan











Market


Number of


Value ofAwards:








Number of


Value of


Unearned


UnearnedNumber of


Number of


Number








Shares or


Shares or


Shares,


Shares,Securities


Securities


of Securities








Units of


Units of


Units, or


Units, orUnderlying


Underlying


Underlying








Stock That


Stock That


Other Rights


Other RightsUnexercised


Unexercised


Unearned


Option


Option


Have Not


Have Not


That Have


That HaveName and Principal

Options (#)


Options (#)


Options


Exercise


Expiration


Vested


Vested


Not Vested


Not VestedPosition

Exercisable


Unexercisable


(#)


Price


Date


(#)


($)


($)


($)John J. Marcello,






















12,000


$
255,000







Chief Executive OfficerMonte L. Pickens,


32,000



8,000
(1)





$
14.90



04/30/2008Executive Vice


16,000



24,000
(2)





$
23.95



03/06/2010















PresidentRobert P. Dowski,


35,000



45,000
(3)





$
22.05



08/31/2010















Chief Financial OfficerWayne Hosking,


24,000



16,000
(4)





$
20.43



04/30/2009



756


$
16,065







Vice PresidentLuis M. Palacio,






















8,000


$
170,000







Director, Business Development     (1)
    
    Options vest on January 1, 2007(2)
    
    Options vest equally (8,000 annually) on January 1, 2007,
    2008 and 2009.(3)
    
    Options vest equally (15,000 annually) on September 1,
    2007, 2008 and 2009.(4)
    
    Options vest equally (8,000 annually) on January 1, 2007
    and 2008.  OPTION
    EXERCISES AND STOCK VESTED
  Option Awards


Stock AwardsNumber of Shares


Value Realized


Number of Shares


Value RealizedAcquired on


on Exercise


Acquired on Vesting


on VestingName and Principal Position

Exercise (#)


($)


(#)


($)John J. Marcello,










3,550
(1)

$
98,872Chief Executive OfficerMonte L. Pickens,














Executive Vice PresidentRobert P. Dowski,














Chief Financial OfficerWayne Hosking,














Vice PresidentLuis M. Palacio,










2,000


$
38,500Director, Business Development     (1)
    
    Shares acquired on vesting are reported net of shares redeemed
    to pay withholding taxes 56




---



##### 



POTENTIAL
    PAYMENTS UPON TERMINATION OF CHANGE OF CONTROL
                           57




---



##### 



COMPENSATION
    OF DIRECTORS
  and/or out-of-pocket
  DIRECTOR
    COMPENSATION
  Change inPensionValue andFees Earned








Non-Equity


Nonqualifiedor Paid


Stock


Option


Incentive Plan


Deferred


All Otherin Cash


Awards


Awards


Compensation


Compensation


Compensation


TotalName(1)

($)(2)


($)(3)


($)(4)


($)


Earnings(5)


($)(6)


($)J. H. Binford Peay, III

$
36,000


$
36,000














$
62,388


$
134,388Clifford C. Christ

$
24,000


$
36,000










$
32,000






$
92,000Dr. Jay R. Sculley

$
30,000


$
36,000










$
2,250






$
68,250John G. Meyer, Jr.

$
24,000


$
36,000


















$
60,000Ronald H. Griffith

$
24,000


$
36,000


















$
60,000Gilbert F. Decker

$
24,000


$
36,000


















$
60,000Harry H. Warner

$
24,000


$
36,000


















$
60,000Charles S. Ream

$
12,000


$
36,000


















$
48,000Thomas R. Hudson, Jr.

$
4,000






















$
4,000Frederick G. Wasserman


























     (1)
    
    Mr. Marcello, Chief Executive Officer, does not receive
    additional compensation as a director. All of his compensation
    is reported in the Summary Compensation Table. Mr. Zachary
    George, an employee of Pirate Capital, LLC joined the Board of
    Allied in June 2006 and resigned his seat in October 2006. Total
    compensation paid to Mr. George was $8,000 in fees and
    $36,000 of Allied stock. Mr. Ream joined the Board in July
    2006. Mr. Hudson joined the Board in November 2006.
    Mr. Wasserman joined the Allied Board in December 2006.(2)
    
    Mr. Meyer and Mr. Decker have elected to defer their
    cash and stock compensation received as directors until they
    cease to serve on the Board.(3)
    
    Cumulative stock compensation for each of the above as a
    non-employee member of the Companys Board of Directors are
    as follows: Mr. Peay, 6,201 shares; Mr. Christ,
    11,201 shares with 5,201 deferred; Mr. Sculley,
    10,201 shares with 5,201 deferred; Mr. Meyer,
    3,198 shares with 1,637 deferred; Mr. Griffith,
    9,201 shares; Mr. Decker, 7,201 shares with 5,201
    deferred; Mr. Warner, 14,479 shares with 8,479
    deferred; Mr. Ream, 1,637 shares. Mssrs. Hudson and
    Wasserman were not member of the Board as of July 1, 2006,
    thus they have not yet received a grant of stock.(4)
    
    Cumulative option compensation for each of the above as a
    non-employee member of the Companys Board of Directors are
    as follows: Mr. Peay, 13,000 options; Mr. Christ,
    41,000 options; Mr. Sculley, 26,000 options;
    Mr. Griffith, 26,000 options; Mr. Decker, 13,000
    options; Mr. Warner, 41,000 options. Mssrs. Meyer, Ream,
    Hudson and Wasserman were not members of the Board in 2003, the
    last year that options were granted for service.(5)
    
    In 1992, the Board of Directors adopted the Outside Directors
    Retirement Plan (the Directors Retirement Plan) to
    provide retirement benefits for long-standing non-employee
    directors (Outside Directors). Under the Directors
    Retirement Plan, Outside Directors are eligible for a retirement
    benefit if they retire from the Board and have served as a
    member of the Board for a minimum of five (5) years. An
    eligible Outside Director who retires from the Board is entitled
    to receive, commencing on the last day of the first month
    following the month in which the director attains age seventy
    (70), monthly payments equal to the monthly cash 58




---



##### 



compensation received from Allied at the time the director
    terminated service in such capacity. Such payments will cease
    upon the earlier of the expiration of a period of time
    equivalent to the period of time the director served as a member
    of the Board or the death of the director. The Directors
    Retirement Plan was suspended in 2001. Messrs. Christ and
    Warner ceased to serve as members of the Board as of
    February 15, 2007. In accordance with the agreements
    reached with the Company upon the 2001 suspension of the
    Directors Retirement Plan, (i) Mr. Warner has received
    3,278 shares of Allied stock, and (ii) Mr. Christ
    will receive monthly cash benefits commencing when he reaches
    the age 70 (starting in 2017), which could aggregate to a
    maximum of $136,000. No further benefits have accrued or will
    accrue under the plan since its suspension in 2001.(6)
    
    This is the annual payment for a $1 million life insurance
    policy including the
    gross-up for
    taxes.  Compensation
    Committee Interlocks and Insider Participation
    Compensation
    Committee Report
  Form 10-K. Form 10-K.
  Compensation
    Committee
     59




---



##### 



ITEM 12.
    SECURITY
    OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
    RELATED STOCKHOLDER MATTERS    Name and Address of

Amount and Nature ofTitle of Class

Beneficial Owner

Beneficial Ownership

Percent of Class(1)Common

Pirate Capital LLC(2)
    200 Connecticut Avenue
    Norwalk, Connecticut 06854

1,170,361
    Owned indirectly


18.2
%Common

Kings Road Investments Ltd(3).
    c/o Polygon Investment Partners LLP
    598 Madison Avenue
    14th Floor
    New York, New York  10022

580,444
    Owned directly


9.0
%Common

Wynnefield Capital Management,
    LLC(4)
    450 Seventh Avenue
    Suite 509
    New York, New York 10123

587,235


9.1
%Common

Dimensional Fund(5)
    Advisors, Inc.
    1299 Ocean Ave.,
    11th Floor
    Santa Monica, California 90401

492,914
    Owned directly


7.7
%Common

Tamarack Enterprise Fund(6)
    100 Fifth Street
    Suite 2300
    Minneapolis, Minnesota 55402

365,900
    Owned directly


5.7
%Common

Aegis Financial Corporation(7)
    1100 North Glebe Road
    Suite 1040
    Arlington, Virginia  22201

348,650
    Owned directly


5.4
%     (1)
    
    Based upon 6,440,944 shares of common stock outstanding.(2)
    
    Pirate Capital LLC and Thomas R. Hudson, Jr. filed a
    Schedule 13D/A with the SEC on December 19, 2006.
    Previous filings state that Pirate Capital LLC and Thomas R.
    Hudson, Jr. are deemed to have shared voting and shared
    dispositive power with respect to 1,170,361 shares, which
    shares are owned of record by Jolly Roger Fund LP and Jolly
    Roger Offshore Fund Ltd.(3)
    
    Kings Road Investments Ltd. filed a Schedule 13G with the
    SEC on February 9, 2007 reporting ownership of a note
    convertible 483,559 shares and a stock purchase warrant
    exercisable into 96,885 shares.(4)
    
    Wynnefield Capital Management, LLC, Wynnefield Capital, Inc.,
    Wynnefield Partners Small Cap Value, L.P., Wynnefield Partners
    Small Cap Value, L.P. I., and Wynnefield Small Cap Value
    Offshore Fund,Ltd., filed a Schedule 13D/A with the SEC on
    December 20, 2006.(5)
    
    Dimensional Fund Advisors, Inc. (Dimensional),
    a registered investment advisor, filed an amended
    Schedule 13G with the SEC on February 9, 2007.(6)
    
    Tamarack Enterprise Fund filed a Schedule 13G with the SEC
    on January 25, 2006.(7)
    
    Aegis Financial Corporation, William S. Berno, Paul Gamble, and
    Scott L. Barbee jointly filed an amendment to its
    Schedule 13G with the SEC on February 14, 2007. 60




---



##### 



Name and Address of

Amount and Nature ofTitle of Class

Beneficial Ownership

Beneficial Owner

Percent of Class(1)Common

Thomas R. Hudson, Jr.

1,170,361(2)
    Owned indirectly


18.2
%Common

J. H. Binford Peay, III

267,121(3)
    Owned  directly


4.2
%Common

John G. Meyer, Jr.

68,223(4)
    Owned directly


1.1
%Common

Monte L. Pickens

65,594(5)
    Owned directly


1.0
%Common

Robert P. Dowski

60,450(6)
    Owned directly


*Common

Wayne F. Hosking

34,021(7)
    Owned directly


*Common

Ronald H. Griffith

31,775(8)
    Owned directly


*Common

Gilbert F. Decker

20,401(9)
    Owned directly


*Common

John J. Marcello

20,663
    Owned directly


*Common

Luis Palacio

10,000
    Owned directly


*Common

Charles S. Ream

1,637
    Owned directly


*Common

Frederick G. Wasserman

0
    Owned directly


*Common

All executive officers and
    directors as a group(12)

579,885(10)
    Owned directly


9.0
%     (1)
    
    Based upon 6,440,944 shares of common stock outstanding
    plus any outstanding options, by director.(2)
    
    Pirate Capital LLC and Thomas R. Hudson, Jr. filed a
    Schedule 13D/A with the SEC on December 19, 2006.
    Previous filings state that Pirate Capital LLC and Thomas R.
    Hudson, Jr. are deemed to have shared voting and shared
    dispositive power with respect to 1,170,361 shares, which
    shares are owned of record by Jolly Roger Fund LP and Jolly
    Roger Offshore Fund Ltd.(3)
    
    Includes stock options for 206,500 shares which may be
    exercised within sixty (60) days.(4)
    
    Includes 1,637 shares issuable upon retirement from the
    Board pursuant to the Directors Deferred Compensation Plan.(5)
    
    Includes stock options for 64,000 shares which may be
    exercised within sixty (60) days.(6)
    
    Includes stock options for 35,000 shares which may be
    exercised within sixty (60) days.(7)
    
    Includes stock options for 32,000 shares which may be
    exercised within sixty (60) days.(8)
    
    Includes stock options for 13,000 shares which may be
    exercised within sixty (60) days.(9)
    
    Includes stock options for 13,000 shares which may be
    exercised within sixty (60) days and 5,201 shares
    issuable upon retirement from the Board pursuant to the
    Directors Deferred Compensation Plan.(10)
    
    This total includes stock options for 363,500 shares which
    may be exercised within sixty (60) days and 6,838 shares
    issuable upon retirement from the Board.  *
    
    Less than 1% 61




---



##### 



ITEM 13.
    CERTAIN
    RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR
    INDEPENDENCE.      ITEM 14.
    PRINCIPAL
    ACCOUNTING FEES AND SERVICE.    2006


2005Audit fees

$
2,613,000


$
2,163,000Audit-related fees


0



0Tax fees


0



0All other fees


0



0Total

$
2,613,000


$
2,163,000         case-by-case
 PART IV  ITEM 15.
    EXHIBITS AND
    FINANCIAL STATEMENT SCHEDULES  Exhibit No.

Description of Exhibits3
.1

Certificate of Incorporation, as
    amended (Incorporated by reference from
    Form 10-Q
    filed in August 2002).3
.2

Amended and restated By-Laws
    (Incorporated by reference from
    Form 10-Q
    filed in August 2004).4
.1

Rights Agreement between Allied
    and Mellon Investor Services, LLC (Incorporated by reference
    from
    Form 8-K
    filed in June 2001).4
.2

First Amendment To Rights
    Agreement, dated as of June 15, 2006 (incorporated by
    reference from
    Form 8-A/A
    filed on June 21, 2006).4
.3

Second Amendment To Rights
    Agreement, dated as of November 30, 2006 (incorporated by
    reference from
    Form 8-K
    filed on December 7, 2006).10
.1

Employment Agreement between
    Allied and John J. Marcello (Incorporated by reference from
    Form 10-Q
    filed in August 2005). 62




---



##### 



Exhibit No.

Description of Exhibits10
.2

Employment Agreement between
    Allied and Robert P. Dowski (Incorporated by reference from
    Form 10-Q
    filed in November 2005).10
.3

Employment Agreement between
    Allied and Monte L. Pickens (Incorporated by reference from
    Form 8-K
    filed in April 2003).10
.4

Employment Agreement letter
    amendment between Allied and Monte L. Pickens (Incorporated by
    reference from
    Form 10-Q
    filed in August 2004).10
.5

Employment Agreement between
    Allied and Wayne F. C. Hosking, Jr. (Incorporated by
    reference from
    Form 8-K
    filed in April 2004).10
.6

2001 Equity Incentive Plan, as
    amended (Incorporated by reference from Proxy Statements filed
    in April 2001, April 2002 and May 2005).10
.7

8% Convertible Debenture,
    Series A and related documents (Incorporated by reference
    from
    Form 8-K
    filed in July 2002).10
.8

Credit Agreement for MECAR S.A.
    (Incorporated by reference from
    Form 10-Q
    filed in August 2002).10
.9

Award/Contract dated as of
    March 1, 2002, by and between MECAR S.A. and
    U.S. Government (Incorporated by reference from
    Form 10-Q
    filed in August 2002).10
.10

Employee Stock Purchase Plan, as
    amended (Incorporated by reference from
    Form 10-Q
    filed in November 2002).10
.11

Lease Agreement, as amended
    (Incorporated by reference from
    Form 10-Q
    filed in November 2002).10
.12

Amendment to Lease Agreement10
.13

Form of Indemnity Agreement for
    Directors and Executive Officers (Incorporated by reference from
    Form 10-Q
    filed in November 2002).10
.14

International Distribution
    Agreement (Incorporated by reference from
    Form 10-Q
    filed in November 2002).10
.15

Deferred Compensation Plan for
    Non-Employee Directors (Incorporated by reference from
    Form 10-Q
    filed in August 2004).10
.16

Loan and Security Agreement among
    Wilton Funding, LLC and Allied and certain of its subsidiaries
    (Incorporated by reference from
    Form 8-K
    filed in June 2004)10
.17

Amendment to Loan and Security
    Agreement among Wilton Funding, LLC and Allied and certain of
    its subsidiaries (Incorporated by reference from
    Form 10-K/A
    filed in March 2005)10
.18

Stock Option Agreement-Employee
    Form (Incorporated by reference from
    Form 10-Q
    filed in November 2004)10
.19

Directors Stock Option
    Agreement-Director
    Form (Incorporated by reference from
    Form 10-Q
    filed in November 2004)10
.20

Summary of Annual Compensation of
    Board Members10
.21

Restricted Stock Agreement
    (Incorporated by reference from
    Form 10-Q
    filed in May, 2005)10
.22

7.5% Senior Subordinated
    Convertible Notes and related documents (Incorporated by
    reference from
    8-K filed in
    March 2006).10
.23

Purchase Agreement, dated as of
    December 12, 2006, between The Allied Defense Group, Inc.
    and the buyers named therein (incorporated by reference from
    Form 8-K
    filed December 13, 2006).18
.1

Letter from independent public
    accountant related to change in application of accounting
    principle21


List of Subsidiaries(a)23


Consent of Independent Registered
    Public Accounting Firm(a)31
.1

Certification of Chief Executive
    Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
    of 2002(a)31
.2

Certification of Chief Financial
    Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
    of 2002(a)32


Certification Pursuant to
    18 U.S.C. Section 1350, as Adopted Pursuant to
    Section 906 of the Sarbanes-Oxley Act of 2002(a)     (a)
    
    Filed herewith  Reports
    on
    Form 8-K
  Form 8-K
 63




---



##### 



Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K Form 10-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
  Form 8-K
 64




---



##### 



SIGNATURES      By:
    /s/  John
    J. Marcello         By:

/s/  Robert
    P. DowskiRobert
    P. Dowski,

Chief Financial Officer and
    Treasurer

Date: March 22, 2007By:

/s/  Deborah
    F. RicciDeborah
    F. Ricci,

Controller

Date: March 22, 2007**********/s/  Ronald
    H. GriffithRonald
    H. Griffith,

Director

Date: March 16, 2007/s/  Gilbert
    F. DeckerGilbert
    F. Decker,

Director

Date: March 16, 2007/s/  John
    G. Meyer, Jr.John
    G. Meyer, Jr.,

Director

Date: March 16, 2007/s/  J.H
    Binford
    Peay, IIIJ.H
    Binford Peay, III,

Director

Date: March 16, 2007/s/  Charles
    S. ReamCharles
    S. Ream,

Director

Date: March 16, 2007/s/  John
    J. MarcelloJohn
    J. Marcello,

Director

Date: March 16, 2007/s/  Thomas
    R.
    Hudson, Jr.Thomas
    R. Hudson, Jr. ,

Director

Date: March 16, 2007/s/  Frederick
    G. WassermanFrederick
    G. Wasserman,

Director

Date: March 16, 2007  65




---



##### 



SECURITIES AND EXCHANGE
    COMMISSION
  Washington, D.C.
    20549
  CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
  December 31, 2006
  FORMING A
    PART OF
 ANNUAL REPORT PURSUANT
    TO
 THE SECURITIES EXCHANGE ACT OF
    1934
  FORM 10-K
 OF
 The Allied Defense Group Inc.
  F-1




---



##### 



The
    Allied Defense Group Inc.
  INDEX TO
    CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
  PageManagements
    Report on Internal Controls Over Financial Reporting


F-3Report of
    Independent Registered Public Accounting Firm


F-5Report of
    Independent Registered Public Accounting Firm


F-7Report of
    Independent Registered Public Accounting Firm


F-8Consolidated
    Balance Sheets at December 31, 2006 and 2005


F-9Consolidated
    Statements of Operations for each of the three years ended
    December 31, 2006


F-10Consolidated
    Statements of Stockholders Equity and Comprehensive Income
    for each of the three years ended December 31,
    2006


F-11Consolidated
    Statements of Cash Flows for each of the three years ended
    December 31, 2006


F-12Notes to
    Consolidated Financial Statements


F-13Schedules as of and for the three
    years ended December 31, 2006Schedule
    I  Condensed Financial Information of
    Registrant


F-49Schedule II 
    Valuation and Qualifying Accounts


F-52  F-2




---



##### 



MANAGEMENTS
    REPORT ON INTERNAL CONTROLS OVER FINANCIAL REPORTING                 F-3




---



##### 



Form 10-K,
  /s/  Robert
    P. Dowski

/s/  John
    J. MarcelloRobert P. Dowski

John J. Marcello.Chief Financial Officer

Chief Executive OfficerMarch 22, 2007

March 22, 2007  F-4




---



##### 



Report of
    Independent Registered Public Accounting Firm      Internal Control 
    Integrated Framework
             F-5




---



##### 



/s/ BDO Seidman LLP
    F-6




---



##### 



Report of
    Independent Registered Public Accounting Firm          ,
    Share-Based Payment. Accounting for Certain Hybrid Financial
    Instruments.
    Internal Control  Integrated Framework
  /s/ BDO Seidman LLP
    F-7




---



##### 



REPORT
    OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM             /s/  Grant
    Thornton LLP
  Baltimore, Maryland
  F-8




---



##### 



The
    Allied Defense Group, Inc.
  CONSOLIDATED
    BALANCE SHEETS
 December 31,
  2006


2005(In thousands of dollars)ASSETSCurrent AssetsCash and cash equivalents

$
19,740


$
7,803Restricted cash


8,401



7,428Accounts receivable, net


19,623



18,547Costs and accrued earnings on
    uncompleted contracts


25,745



35,178Inventories, net


24,964



34,300Deferred tax asset






2,696Fair value of foreign exchange
    contracts






5Prepaid and other current assets


4,431



8,339Total current assets


102,904



114,296Property, Plant and Equipment,
    net


33,331



29,826Other AssetsIntangible assets, net


12,142



13,353Goodwill


17,630



16,698Deferred tax asset, non-current






5,672Other assets


2,038



1,101Total other assets


31,810



36,824TOTAL ASSETS

$
168,045


$
180,946CURRENT LIABILITIESBank overdraft facility

$
13,702


$
15,086Current maturities of long-term debt


9,799



4,342Accounts payable


12,778



31,004Accrued liabilities


18,784



15,097Customer deposits


20,215



9,956Foreign exchange contracts


6



1,161Senior convertible note


26,907



Income taxes


3,877



1,288Total current liabilities


106,068



77,934LONG-TERM OBLIGATIONSShort term debt to be refinanced






13,539Long-term debt, less current
    maturities and unamortized discount


4,844



7,820Deferred tax liability, non-current


15



Derivative instrument


1,192



Other long-term liabilities


579



160Total long-term obligations


6,630



21,519TOTAL LIABILITIES


112,698



99,453CONTINGENCIES AND
    COMMITMENTSSTOCKHOLDERS
    EQUITYPreferred stock, no par value;
    authorized, 1,000,000 shares; none issued






Common stock, par value,
    $.10 per share; authorized 30,000,000 shares; issued
    and outstanding, 6,440,944 in 2006 and 5,982,008 in 2005


644



598Capital in excess of par value


43,312



34,354Retained Earnings (Deficits)


(6,631
)


34,466Accumulated other comprehensive
    income


18,022



12,075Total Stockholders Equity


55,347



81,493TOTAL LIABILITIES AND
    STOCKHOLDERS EQUITY

$
168,045


$
180,946    F-9




---



##### 



The
    Allied Defense Group, Inc.
  CONSOLIDATED
    STATEMENTS OF OPERATIONS
 Years
    ended December 31, 2006, 2005, and 2004
  2006


2005


2004(In thousands of dollars, except per share data)Revenues

$
128,685


$
112,222


$
146,201Cost and expensesCost of sales


107,021



94,154



105,819Selling and administrative


37,690



36,471



29,605Research and development


8,476



7,190



6,695Goodwill impairment






3,060



Total cost and expenses


153,187



140,875



142,119Operating income (loss)


(24,502
)


(28,653
)


4,082Other income
    (expense)Interest income


1,068



580



549Interest expense


(9,026
)


(2,568
)


(2,441
)Gain on fair value of Senior
    Convertible notes and warrants


1,901







Other  net


2,038



(1,926
)


(511
)Total other expense


(4,019
)


(3,914
)


(2,403
)Earnings (loss) before income
    taxes and cumulative effect of change in the application of
    accounting principle


(28,521
)


(32,567
)


1,679Income tax expense
    (benefit)


12,576



1,060



309Earnings (loss) before cumulative
    effect of accounting change


(41,097
)


(33,627
)


1,370Cumulative effect of accounting
    change, net of income taxes of $2,726






(5,293
)


Net Earnings (Loss)

$
(41,097
)

$
(38,920
)

$
1,370Earnings (loss) per
    share:BasicEarnings (loss) before cumulative
    effect of accounting change

$
(6.78
)

$
(5.84
)

$
0.25Cumulative effect of accounting
    change, net of income taxes






(0.92
)


Net earnings (loss)

$
(6.78
)

$
(6.76
)

$
0.25DilutedEarnings (loss) before cumulative
    effect of accounting change

$
(6.78
)

$
(5.84
)

$
0.24Cumulative effect of accounting
    change, net of income taxes






(0.92
)


Net earnings (loss)

$
(6.78
)

$
(6.76
)

$
0.24Weighted average number of
    common shares:Basic


6,065,732



5,754,951



5,568,183Diluted


6,065,732



5,754,951



5,745,282    F-10




---



##### 



The
    Allied Defense Group, Inc.CONSOLIDATED STATEMENTS OF STOCKHOLDERS
    EQUITY AND
    COMPREHENSIVE INCOMEYears ended December 31, 2006, 2005 and 2004
  AccumulatedPreferred


Common Stock


Capital


Retained


Other


TotalStock, no





$.10


in Excess


Earnings


Comprehensive


StockholdersPar Value


Shares


Par value


of Par Value


(Deficit)


(Loss) Income


Equity(In thousands of dollars, except per share data)Balance at January 1,
    2004

$




5,551,373


$
555


$
26,700


$
72,016


$
15,452


$
114,723Common stock awards






5,753



1



105











106Employee stock purchase plan
    purchases






16,241



1



259











260Exercise of stock options






27,734



3



346











349Warrants issued














68











68Issue of stock options














432











432Comprehensive income:Net earnings for the year


















1,370







1,370Currency translation adjustment






















8,245



8,245Total comprehensive income


























9,615Balance at December 31,
    2004

$




5,601,101


$
560


$
27,910


$
73,386


$
23,697


$
125,553Common stock awards






54,729



5



399











404Common stock issued with acquisition






118,072



11



2,489











2,500Employee stock purchase plan
    purchases






5,507



1



107











108Exercise of stock options






202,599



21



2,671











2,692Warrants issued














488











488Directors deferred stock














290











290Comprehensive loss:Net loss for the year


















(38,920
)






(38,920
)Currency translation adjustment






















(11,622
)


(11,622
)Total comprehensive loss


























(50,542
)Balance at December 31,
    2005

$




5,982,008


$
598


$
34,354


$
34,466


$
12,075


$
81,493Common stock awards






16,584



2



761











763Retired stocks






(1,345
)






(29
)










(29
)Common stock issued in Private
    Placement






400,000



40



6,644











6,684Employee stock purchase plan
    purchases






7,530



1



151











152Exercise of stock options






36,167



3



397











400Warrants issued














373











373Directors deferred stock














164











164Issue of stock options














497











497Comprehensive loss:Net loss for the year


















(41,097
)






(41,097
)Currency translation adjustment






















5,947



5,947Total comprehensive loss


























(35,150
)Balance at December 31,
    2006

$




6,440,944


$
644


$
43,312


$
(6,631
)

$
18,022


$
55,347    F-11




---



##### 



The
    Allied Defense Group, Inc.
  CONSOLIDATED
    STATEMENTS OF CASH FLOWS
 Years
    ended December 31,
  2006


2005


2004(In thousands of dollars)Cash flows from operating
    activitiesNet earnings (loss) for the year

$
(41,097
)

$
(38,920
)

$
1,370Adjustments to reconcile net
    earnings (loss) to net cash provided by (used in) operating
    activitiesCumulative effect of accounting
    change






5,293



Goodwill impairment






3,060



In-process research &
    development






944



Unrealized (gains) losses on
    forward contracts


(1,220
)


(4,798
)


4,758Depreciation and amortization


7,761



6,082



4,551Gain related to fair value of notes
    and warrants


(1,901
)






(Gain) loss on sale of fixed assets


245



(400
)


(44
)Deferred taxes


8,889



(3,975
)


(2,405
)Provision for estimated losses on
    contracts


222



39



662Amortization of debt issue costs
    and conversion feature


1,765



220



179Common stock and stock option awards


1,255



694



538Deferred director stock awards


164







(Increase) decrease in operating
    assets and increase(decrease) in liabilitiesRestricted cash and restricted
    deposits


(243
)


2,683



6,387Accounts receivable


676



16,325



(5,741
)Cost and accrued earnings on
    uncompleted contracts


12,575



196



14,556Inventories


11,859



(19,363
)


(4,208
)Prepaid expenses and assets


3,367



(3,909
)


1,275Accounts payable and accrued
    liabilities


(17,897
)


12,905



(15,965
)Customer deposits


8,795



2,334



3,340Deferred compensation


27



(1,829
)


521Income taxes


2,358



190



(370
)Net cash provided by (used in)
    operating activities


(2,400
)


(22,229
)


9,404Cash flows from investing
    activitiesCapital expenditures


(7,022
)


(8,167
)


(5,036
)Acquisitions, net of cash acquired


(473
)


(9,443
)


(525
)Proceeds from sale of fixed assets


1,306







45Net cash used in investing
    activities


(6,189
)


(17,610
)


(5,516
)Cash flows from financing
    activitiesNet (decrease) increase in
    short-term borrowings


3,421



594



(14,013
)Repayment on capital lease
    obligations


(2,267
)


(2,297
)


(2,357
)(Decrease) increase in bank
    overdraft facility


(2,965
)


9,534



1,293Principal payments on long-term
    borrowing


(14,000
)


(2,478
)


(5,922
)Proceeds from issuance of long-term
    debt


30,000



12,000



2,300Debt issue costs


(1,908
)






(860
)Proceeds from employee stock
    purchase plan


129



108



261Proceeds from option exercises


429



2,692



348Proceeds from issuance of stock


6,684







Retirement of stock


(30
)






Restricted cash and restricted
    deposits










(2,000
)Net cash provided by (used in)
    financing activities


19,493



20,153



(20,950
)Effects of exchange rates on
    cash


1,033



(451
)


1,625Net increase (decrease) in cash


11,937



(20,137
)


(15,437
)Cash at beginning of
    year


7,803



27,940



43,377Cash at end of year

$
19,740


$
7,803


$
27,940Supplemental Disclosures of Cash
    Flow Information:Cash paid during the year forInterest

$
7,440


$
1,838


$
2,389Income taxes


1,780



4,541



7,782Supplemental Non-Cash Investing
    and Financing Activities:Capital leases

$
2,157


$
850


$
2,481Non-cash consideration in
    connection with business acquisition






8,672



Warrants issued in conjunction with
    long term debt


2,387



488



68    F-12




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS
 (Thousands
    of Dollars)
  NOTE A 
    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
  Basis of Presentation.
  
    ARC Europe, S. A. (ARC Europe), a Belgian company,
    Allied Research Corporation Limited (Limited), an inactive
    United Kingdom company,
    News/Sports Microwave Rental, Inc. (NSM), a California
    corporation,
    Titan Systems, Inc., (Titan), a Texas corporation,
    SeaSpace Corporation (SeaSpace), a California
    corporation, and
    MECAR USA, a Delaware corporation,
    Allied Technology, LLC (Allied Technology), a
    Maryland limited liability company
    Global Microwave Systems, Inc. (GMS), a California
    corporation.      Nature of Operations.
  Foreign Currency Translation.
  Reclassifications.
  Use of Estimates.
  Accounting Change.
 F-13




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   Cash and cash equivalents.
  Accounts Receivable.
  Costs and Accrued Earnings on Uncompleted
    Contracts.
  Inventories.
  Property, Plant and Equipment.
  Buildings and improvements


20 - 30 yearsMachinery and equipment


3 - 10 yearsDemonstration Inventory


3 - 7 years         Impairment of Long-Lived Assets. Accounting for the Impairment or
    Disposal of Long-Lived Assets.
  Intangibles/Goodwill.
 F-14




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  Goodwill and Other Intangible
    Assets. Accounting for the Impairment or Disposal of Long-Lived
    Assets.
    Derivative Financial Instruments. Accounting for Derivative
    Instruments and Hedging Activities
  Revenue
    and Cost Recognition.
  
    Percentage of Completion Method  Revenues
    under fixed price contracts are recognized on the
    percentage-of-completion
    method measured by direct labor incurred to total estimated
    direct labor (MECAR) or on a total cost incurred to total
    estimated cost basis (MECAR USA, NSM and SeaSpace). The actual
    costs on these contracts may differ from the Companys
    estimate at completion. Provision for estimated losses and
    penalties on contracts are recorded when identified. Revenues
    under cost-plus-fixed-fee and time and material contracts are
    recognized on the basis of costs incurred during the period plus
    the fee earned. As contracts extend over one or more years,
    revisions in costs and earnings estimated during the course of
    the work are reflected in the accounting period in which the
    facts which require the revision become known. The revenue
    recognized during the year on the contracts in progress for
    2006, 2005 and 2004 were $86,751, $81,301 and $115,462,
    respectively. Costs and accrued profits on uncompleted direct
    and indirect fixed price contracts with foreign governments,
    direct and indirect U.S. government foreign military sales
    (FMS) contracts, and custom designed domestic security and
    weather systems, which are billable upon completion, are carried
    as costs and accrued earnings on uncompleted contracts.
    Completed contract method  Revenues from the
    sale of traditional fire & security systems, as well as
    battlefield effects simulators, are recognized upon shipment.
    Security system maintenance contract revenues are recognized
    over the term of the contract on a straight-line basis. Revenues
    from service work rendered are recorded when performed. At
    SeaSpace and VSK, the elements of fire and security systems are
    separable into units of accounting in accordance with EITF
    00-21,
    Accounting for Revenue Arrangements with Multiple Deliverables.
    The maintenance contracts are sold separately from the product
    and installation F-15




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  contracts and are priced at market value. There are no
    provisions related to performance, cancellation, termination or
    refunds.        Advertising.
  Research and Development.
  Capitalization of Software. 98-1 (SOP 98-1), Accounting for the Costs of Computer Software Developed or
    Obtained for Internal Use
  Warranties.
  Environmental Regulations.
  Income Taxes.
  Earnings Per Common Share.
 F-16




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   Stock-Based Compensation Share-Based
    Payments Accounting for Stock-Based
    Compensation, Statement of
    Cash Flows.
  Accounting for Stock Issued to Employees
             F-17




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
     2005


2004(In thousands, except per share data)Reported net earnings (loss)

$
(38,920
)

$
1,370Elimination of compensation costs
    recognized under the intrinsic value method, net of tax


24



286Stock-based compensation costs
    that would have been included in the determination of reported
    net earnings, if the fair value method was applied to all
    awards, net of tax


(457
)


(584
)Pro forma net earnings (loss)

$
(39,353
)

$
1,072Basic earnings (loss) per share:Reported earnings per share

$
(6.76
)

$
0.25Compensation costs, net of tax


(0.08
)


(0.05
)Pro forma basic earnings (loss)
    per share

$
(6.84
)

$
0.20Diluted earnings (loss) per share:Reported earnings (loss) per share

$
(6.76
)

$
0.24Compensation costs, net of tax


(0.08
)


(0.05
)Pro forma basic earnings (loss)
    per share

$
(6.84
)

$
0.19     2006


2005


2004Risk free interest rate


4.63
%


3.93
%


3.63
%Expected volatility rate


31.79
%


41.05
%


33.90
%Expected lives  years


4



3



3Divided yield










       Major Customers.
 F-18




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    Concentrations of Credit Risk.
        Recent Accounting Pronouncements. Accounting for
    Certain Hybrid Financial Instruments instrument-by-instrument
  Fair Value
    Measurements
 F-19




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   Accounting for Uncertainty in
    Income Taxes  an interpretation of
    SFAS No. 109
  The Fair Value
    Option for Financial Assets and Financial
    Liabilities  Including an amendment of FASB Statement
    No. 115
  No. EITF 00-19-2, Accounting for Registration Payment Arrangements Accounting for Contingencies No. EITF 00-19-2 No. EITF 00-19-2
  NOTE
    B−LIQUIDITY AND CAPITAL RESOURCES
     F-20




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
          Senior
    Subordinated Convertible Notes
    Letters
    Alleging Default
    
    On February 20, 2007, the Company received a letter from
    Kings Road Investments, Ltd. (Kings Road), one of
    the holders of the Companys convertible notes, asserting
    events of default under the note. The letter states that Kings
    Road is electing to accelerate and redeem the note in its
    entirety. Kings Road seeks payment of the $12,500 principal
    amount plus a redemption premium of approximately $3,125 and
    default interest of approximately $500. The Company strongly
    disputes the alleged events of default. The Company is currently
    in discussions with Kings Road in an attempt to resolve these
    issues. There is no assurance that the Company will be
    successful in defending the allegations.
    On March 19, 2007 and March 20, 2007, the Company
    received letters from Portside Growth and Opportunity Fund
    (Portside) and LBI Group, Inc. (LBI), two other
    holders of the Companys convertible notes, asserting
    events of default very similar to those asserted by Kings
    Road. Both letters seek to accelerate and redeem the notes in
    their entirety. Portside seeks immediate payment of $7,500
    principal amount plus a redemption premium of $1,875 and default
    interest of approximately $545. LBI seeks F-21




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  immediate payment of $4,000 principal amount plus a redemption
    premium of $1,000 and default interest of approximately $284.
    The Company strongly disputes the alleged events of default. The
    Company is currently in discussions with Portside and LBI in an
    attempt to resolve these issues. There is no assurance that the
    Company will be successful in defending the allegations.  Debt
    Covenant Requires Effective Registration by March 29,
    2007
  Form 10-K Form S-1 Form S-1 Form S-1/A S-1/A Form 10-K.
  MECAR
    Credit Facility Default
    The
    Companys Plan for 2007
     F-22




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
       and/or
    
    The Company will be able to get the common shares underlying the
    convertible debt financing registered and avoid the event of
    default with the note holders,
    The credit facility at MECAR will not be suspended again and if
    MECAR fails to meet the financial covenants the banking group
    will be willing to waive the covenants,
    The Company will be able to sell SeaSpace in 2007 in order to
    use the cash proceeds for operations,
    The Company will be able to issue additional shares of common
    stock to raise capital as needed,
    The Company will be able to refinance any of its existing debt
    if it becomes callable.  and/or and/or
 F-23




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  NOTE C 
    ACQUISITIONS
  Global
    Microwave Systems, Inc.
    Intangible WeightedAllocation


Average Useful LifeCurrent assets

$
4,714Property and equipment


500Other Assets


21IntangiblesDeveloped Technologies


5,272


10 yearsTrade Name


2,915


IndefiniteNon-Competition Agreement


1,705


3 yearsPurchased in-process
    research & development


944


Expensed in Research and
    Development in 2005Goodwill


6,437


IndefiniteTotal assets acquired

$
22,508Current liabilities


(2,299
)Net assets acquired

$
20,209   NOTE D 
    CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE
   F-24




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   2005


2004Pro forma amounts assuming
    change in application of accounting principle applied
    retroactively:Net earnings (loss)

$
(38,920
)

$
1,370Elimination of the cumulative
    effect of the change
    in          accounting
    principle, net of taxes


5,293



Impact of change in MECAR revenue
    recognition based on total direct labor rather than total direct
    costs, net of taxes  unaudited






(1,691
)Pro Forma net loss

$
(33,627
)

$
(321
)Pro Forma loss per share:Basic

$
(5.84
)

$
(0.06
)Diluted

$
(5.84
)

$
(0.06
)   NOTE E 
    RESTRICTED CASH
    2006


2005Collateralized performance bonds
    and advance payment guarantees

$
8,317


$
5,393Senior secured facility deposit






2,000Other


84



35$
8,401


$
7,428     NOTE F 
    ACCOUNTS
    RECEIVABLE AND COSTS & ACCRUED EARNINGS ON UNCOMPLETED
    CONTRACTS    2006


2005Direct and indirect receivables
    from governments

$
7,716


$
1,777Commercial and other receivables


12,670



16,98420,386



18,761Less allowance for doubtful
    receivables


(763
)


(214
)$
19,623


$
18,547    F-25




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
      NOTE G 
    INVENTORIES
    2006


2005Raw materials

$
16,131


$
14,481Work in process


7,988



19,265Finished goods


2,530



1,43626,649



35,182Less reserve for obsolescence


(1,685
)


(882
)$
24,964


$
34,300   NOTE H 
    PROPERTY, PLANT & EQUIPMENT
    2006


2005Land

$
683


$
612Buildings and improvements


26,111



22,451Machinery and equipment


69,847



59,064Demonstration Inventory


1,644



1,515$
98,285


$
83,642Less accumulated depreciation


(64,954
)


(53,816
)$
33,331


$
29,826     Capital Leases.
    2006


2005Leased equipment

$
10,151


$
10,823Less: accumulated amortization


(4,627
)


(4,135
)$
5,524


$
6,688  F-26




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    Year Ending December 31,2007

$
1,7862008


8782009


4062010


151Total minimum lease payments


3,221Less: Amount representing interest


(150
)Present value of net minimum lease
    payments

$
3,071   NOTE I 
    INTANGIBLE ASSETS
    December 31, 2006


December 31, 2005Gross


Accumulated





Gross


AccumulatedAmount


Amortization


Net


Amount


Amortization


NetIntangible assets subject to
    amortization:Capitalized Software

$
1,055


$
808


$
247


$
1,055


$
582


$
473Developed Technologies


5,272



615



4,657



5,272



81



5,191Customer Lists


2,297



863



1,434



2,297



727



1,570Patents and Trade Name


1,234



506



728



1,225



392



833Other


2,548



692



1,856



2,228



162



2,066Sub Total

$
12,406


$
3,484


$
8,922


$
12,077


$
1,944


$
10,133Intangible assets with indefinite
    lives:Trade Names


3,220







3,220



3,220







3,220Total

$
15,626


$
3,484


$
12,142


$
15,297


$
1,944


$
13,353     Year

Amount2007

$
1,8102008


1,4682009


9662010


8802011


873   NOTE J 
    GOODWILL
   F-27




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
      Ammunition &


ElectronicWeapons Effects


Security


Other


TotalBalance as of January 1, 2005

$
1,395


$
8,559


$
4,447


$
14,401Goodwill acquired during the year






5,964







5,964Impairment loss










(3,060
)


(3,060
)Foreign exchange fluctuation






(607
)






(607
)Balance as of December 31,
    2005

$
1,395


$
13,916


$
1,387


$
16,698Goodwill acquired during the year






473







473Foreign exchange fluctuation






459







459Balance as of December 31,
    2006

$
1,395


$
14,848


$
1,387


$
17,630       NOTE K 
    BANK CREDIT FACILITY
   F-28




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    NOTE L 
    ACCRUED
    LOSSES ON CONTRACTS, DEFERRED COMPENSATION AND WARRANTY
    RESERVES  Accrued losses on contracts.
  Deferred compensation.
  Accrued Warranty Costs.
  NOTE M 
    LONG-TERM DEBT
    2006


2005Fair value of Senior subordinated
    convertible notes

$
26,907


$
Notes payable, less unamortized
    discount






13,539Note related to GMS acquisition,
    less unamortized discount


6,431



6,173Mortgage loan agreements


152



193Loan for CMS Security Systems
    acquisition


100



200Notes Payable


4,747



868Capital leases and other


3,213



4,728Total Long-Term Debt obligations


41,550



25,701Less current maturities


(36,706
)


(4,342
)Long-Term Debt, less current
    maturities and unamortized discount

$
4,844


$
21,359     2006


2005Short term debt to be refinanced

$



$
13,539Long-term debt, less current
    maturities and unamortized discount


4,844



7,820Total

$
4,844


$
21,359   Senior subordinated convertible notes.
 F-29




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    Form 10-K Form S-1 Form S-1 Form S-1/A S-1 Form 10-Q Form 10-K.
           F-30




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  Accounting
    for Certain Hybrid Instruments
    Notes payable. Classification of Short-Term
    Obligations Expected to be Refinanced
  Loan for Global Microwave System
    acquisition.
  Mortgage Loan Agreements.
 F-31




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   Loan for CMS Security Systems acquisition.
  Notes Payable.
  Capital Leases and Other.
    Year

Amount2007

$
36,7062008


4,1422009


4132010


1492011


140Total

$
41,550   NOTE N 
    CONVERTIBLE SUBORDINATED DEBENTURE
  Convertible Subordinated Debenture.
  NOTE O 
    BENEFIT PLANS
    NOTE P 
    CONTINGENCIES AND COMMITMENTS
   F-32




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
       Year

Amount2007

$
1,0722008


6682009


4052010


2542011


2562012 and after


329         NOTE Q 
    FAIR VALUE OF FINANCIAL INSTRUMENTS
    2006


2005Carrying


Estimated


Carrying


EstimatedAmount


Fair Value


Amount


Fair ValueNotes payable and long-term
    obligations, including current maturities

$
14,643


$
14,643


$
25,701


$
25,701Senior Subordinated Convertible
    Notes


26,907



26,907







Detachable warrants


1,192



1,192







Foreign exchange contracts


6



6



1,156



1,156Off-balance-sheet instruments:Guarantees and performance bonds






31,399







28,123  F-33




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    
    The fair value of notes payable and long-term obligations is
    estimated based on approximate market prices for the same or
    similar issues or the current rates offered to the Company for
    debt of the same remaining maturities. The Company believes the
    aggregate carrying value approximates fair value.
    The Senior Subordinated Notes are treated as derivatives and are
    carried at fair value in accordance with SFAS 155
    Accounting for Certain Hybrid Instruments. The fair value
    of senior subordinated notes is estimated based on approximate
    market prices of the Company stock or the current rates offered
    to the Company for debt of the same remaining maturities.
    The fair value of detachable warrants is estimated based on the
    Black Scholes model, the term, stock price and exercise price of
    the warrants. In addition, the interpolation of the
    3-year and
    5-year
    treasury rates as of December 31, 2006, as reported by the
    Federal Reserve Bank for the period of time between the
    valuation date and the expiration date is used in the model.
    The fair value of foreign exchange contracts is based on the
    mark to market calculations performed at the end of each period.
    The balance sheet at December 31, 2006 and 2005 includes
    the fair value of MECARs forward contracts liability of $0
    and $1,161, respectively, and the fair value of VSKs
    forward contracts of $6 liability and $5 asset, respectively.
    Estimated fair values for off-balance-sheet instruments, which
    include performance bonds and advance payment guarantees are
    reflected at the face value of these obligations, since
    management does not expect to have any claims against these
    obligations based on its past experience.  NOTE R 
    DERIVATIVE FINANCIAL INSTRUMENTS
  Derivatives
    and hedging
    Fair
    value hedges
   F-34




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   Cash
    flow hedges
    Derivatives
    not designated as hedges
    Counterparty
    credit risk
    NOTE S 
    STOCKHOLDERS EQUITY
    2001 Equity Incentive Plan.
  1997 Incentive Stock Plan.
 F-35




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   1992 Employee Stock Purchase Plan.
  Rights Agreement.
        The
    following table summarizes option activity:
  2006


2005


2004Weighted





Weighted





WeightedAverage





Average





AverageExercise





Exercise





ExerciseShares


Price


Shares


Price


Shares


PriceOptions outstanding at beginning
    of year


507,667


$
16.94



632,266


$
14.69



620,000


$
14.08Options granted


30,000



15.05



120,000



22.68



40,000



20.43Options exercised


(36,167
)


11.87



(202,599
)


13.28



(27,734
)


9.21Options forfeited






















Options expired










(42,000
)


17.19







Options outstanding at end of year


501,500


$
17.20



507,667


$
16.94



632,266


$
14.69Options exercisable at end of year


384,500







375,667







416,930Weighted-average fair value of
    options, granted during the year

$
4.45






$
8.42






$
7.59  F-36




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  The
    following table summarizes options outstanding at
    December 31, 2006:
  ExercisableWeighted


Average





WeightedRange of

Average


Remaining


Number


AverageNumber


Exercise

Exercise


Contractual


of


ExerciseOutstanding


Prices

Prices


Life


Options


Prices100,000


$8.63

$
8.63



4.01 Years



100,000


$
8.6340,000


$14.90

$
14.90



1.33 Years



32,000


$
14.90361,500


$15.05 to $25.00

$
19.82



3.69 Years



252,500


$
19.44501,500


$8.63 to $25.00

$
17.20







384,500


$
16.25     Intrinsic
    Value at December 31, 2006:
  ExercisableWeighted








WeightedAverage


Aggregate


Number


Average


AggregateNumber

Exercise


Intrinsic


of


Exercise


IntrinsicOutstanding

Prices


Value*


Options


Prices


Value*100,000

$
8.63


$
1,262



100,000


$
8.63


$
1,26240,000

$
14.90


$
254



32,000


$
14.90


$
203209,000

$
17.37


$
811



169,000


$
17.41


$
649$
2,327










$
2,114     *
    
    The intrinsic value of a stock option is the amount by which
    the market value of the underlying stock exceeds the exercise
    price of the option. The market value of our stock was $21.25 at
    December 31, 2006.  The following table summarizes restricted stock (nonvested)
    shares outstanding as of December 31, 2006
  Weighted-Average GrantRestricted Stock

Shares


Date Fair ValueRestricted at January 1, 2006


51,793


$
22.99Granted


8,300



22.08Vested


(14,330
)


22.62Forfeited


(2,464
)


22.58Restricted shares at
    December 31, 2006


43,299


$
22.25      F-37




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   NOTE T 
    OTHER  NET
    2006


2005


2004Net currency transaction gains
    (losses)

$
921


$
(3,482
)

$
(1,530
)Miscellaneous  net


1,117



1,556



1,019$
2,038


$
(1,926
)

$
(511
)     NOTE U 
    INCOME TAXES
      2006


2005


2004Domestic

$
(14,260
)

$
(21,594
)

$
(6,066
)Foreign


(14,261
)


(10,973
)


7,745$
(28,521
)

$
(32,567
)

$
1,679     2006


2005


2004Current ProvisionDomestic

$
(18
)

$
(61
)

$
417Foreign


3,705



2,800



6,364Total Current Provision


3,687



2,739



6,781Deferred Provision (Benefit)Domestic






3,501



(2,995
)Foreign


8,889



(5,180
)


(3,477
)Total Deferred Provision (Benefit)


8,889



(1,679
)


(6,472
)Total tax provision

$
12,576


$
1,060


$
309  F-38




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    2006


2005


2004Taxes at statutory rate


(34.0
)%


(34.0
)%


34.0
%State taxes, net of federal benefit


(1.1
)


(2.9
)


(4.9
)Impact of international operations






0.4



127.6Goodwill and other permanent
    differences






3.8



Other permanent differences


(1.8
)


2.2



10.8Valuation allowance


80.9



33.8



(149.1
)Income taxes


44.0
%


3.3
%


18.4
%     2006


2005Deferred tax assetsInventory

$
463


$
386Compensation accruals


188



152Valuation adjustments


541



598Accrued expenses


110



471Business tax credits


458



458Deferred compensation


559



476Capitalized R&D


1,939



2,013Derivatives






253Revenue recognition






2,223Foreign tax credit carryforwards


2,290



2,368Net operating loss carryforwards


31,187



12,325Gross deferred tax asset


37,735



21,723Valuation allowance


(36,821
)


(12,784
)Total deferred tax assets

$
914


$
8,939Deferred tax
    liabilitiesDepreciation and amortization

$
(476
)

$
(498
)Fair value adjustment of financial
    instrument


(453
)Deferred income






(73
)Total deferred tax liabilities

$
(929
)

$
(571
)Net Deferred Tax Assets
    (Liabilities)

$
(15
)

$
8,368      F-39




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
           F-40




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
   NOTE V 
    EARNINGS PER COMMON SHARE
    2006


2005


2004Earnings (loss) before cumulative
    effect of accounting change

$
(41,097
)

$
(33,627
)

$
1,370Cumulative effect of accounting
    change, net of taxes






(5,293
)


Net earnings after cumulative
    effect of accounting change

$
(41,097
)

$
(38,920
)

$
1,370Weighted average number of basic
    shares


6,065,732



5,754,951



5,568,183Warrants










2,381Stock Options










174,718Weighted average number of diluted
    shares


6,065,732



5,754,951



5,745,282Basic earnings (loss) per share
    before cumulative effect of accounting change

$
(6.78
)

$
(5.84
)

$
0.25Cumulative effect of accounting
    change, net of taxes






(0.92
)


Basic earnings (loss) per share

$
(6.78
)

$
(6.76
)

$
0.25Diluted earnings (loss) per share
    before cumulative effect of accounting change

$
(6.78
)

$
(5.84
)

$
0.24Cumulative effect of accounting
    change, net of taxes






(0.92
)


Diluted earnings (loss) per share

$
(6.78
)

$
(6.76
)

$
0.24     NOTE W 
    GEOGRAPHIC AREAS AND INDUSTRY SEGMENTS
  Disclosure about Segments of an Enterprise and Related
    Information
     F-41




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    sub-miniature
        F-42




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  2006


2005


2004Revenues from external
    customersAmmunition & Weapons
    Effects

$
70,798


$
67,396


$
93,793Electronic Security


50,881



38,802



45,973Other


7,006



6,024



6,435$
128,685


$
112,222


$
146,201Interest expenseAmmunition & Weapons
    Effects

$
3,377


$
1,406


$
1,483Electronic Security


168



79



48Other


11



4



1Corporate


5,470



1,079



909$
9,026


$
2,568


$
2,441Interest incomeAmmunition & Weapons
    Effects

$
577


$
258


$
203Electronic Security


224



222



275Other


18



23



21Corporate


249



77



50$
1,068


$
580


$
549Income tax expense
    (benefit)Ammunition & Weapons
    Effects

$
11,337


$
(4,481
)

$
614Electronic Security


1,280



2,707



2,694Other


(23
)


1,094



(1,411
)Corporate


(18
)


1,740



(1,588
)$
12,576


$
1,060


$
309Depreciation and
    amortizationAmmunition & Weapons
    Effects

$
4,474


$
3,498


$
2,764Electronic Security


2,414



1,939



1,216Other


680



595



524Corporate


193



50



47$
7,761


$
6,082


$
4,551   F-43




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  2006


2005


2004Segment profit (loss) before
    taxes and cumulative effect of accounting changeAmmunition & Weapons
    Effects

$
(20,312
)

$
(18,119
)

$
1,671Electronic Security


2,428



(2,041
)


6,987Other


(1,210
)


(6,238
)


(3,283
)Corporate


(9,427
)


(6,169
)


(3,696
)$
(28,521
)

$
(32,567
)

$
1,679Segment assetsAmmunition & Weapons
    Effects

$
87,281


$
118,669


$
127,880Electronic Security


55,699



49,528



45,231Other


6,977



8,270



12,808Corporate


18,088



4,479



6,312$
168,045


$
180,946


$
192,231Capital Expenditure for Segment
    assetsAmmunition & Weapons
    Effects

$
3,491


$
6,706


$
2,271Electronic Security


1,897



1,041



1,525Other


84



411



1,230Corporate


1,550



9



10$
7,022


$
8,167


$
5,036   Amounts
    Net of intersegment receivables.
    Geographic Segment Data2006


2005


2004Revenues from external
    customersUnited States(1)

$
62,270


$
45,216


$
56,932Belgium


15,828



19,229



25,694France


11,336



3,254



6,676Cyprus


8,366



909



Saudi Arabia


7,937



24,010



33,657Venezuela


6,510



8,348



8,900Bahrain


4,177







Indonesia


1,916







Germany


1,881



1,331



1,345The Netherlands


1,757







Ireland


1,141







Brunei






598



Kuwait






869



Taiwan


4



1,570



Japan


178



1,278



353Qatar






1,196



2,844Other foreign countries


5,384



4,414



9,800$
128,685


$
112,222


$
146,201     (1)
    
    Includes foreign military sales for the benefit of Saudi
    Arabia.  F-44




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  Geographic Segment Data2006


2005


2004Segment assetsBelgium

$
105,858


$
131,801


$
152,934United Kingdom


183



171



199United States(1)


62,004



48,974



39,098$
168,045


$
180,946


$
192,231     (1)
    
    Net of inter-segment receivables and investments.  2006


2005


2004Property and
    equipmentBelgium

$
26,340


$
24,813


$
27,956United States


6,991



5,013



2,338$
33,331


$
29,826


$
30,294   NOTE X 
    QUARTERLY FINANCIAL DATA (UNAUDITED)
  First


Second


Third


Fourth2006

Quarter


Quarter


Quarter


Quarter


TotalRestated(Amounts in thousands, except per share data)Revenues

$
36,168


$
31,296


$
26,152


$
35,069


$
128,685Gross profit


8,759



6,452



5,719



734



21,664Net Earnings (Loss)


(3,711
)


(5,033
)


492



(32,845
)


(41,097
)Per share Net Earnings (Loss):Basic

$
(0.62
)

$
(0.83
)

$
0.08


$
(5.35
)

$
(6.78
)Diluted

$
(0.62
)

$
(0.83
)

$
0.08


$
(5.35
)

$
(6.78
)        F-45




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
     September 30,
    2006
  Impact from


As PreviouslyInventory


Reported inAdjustments


10-Q/ARestatedRevenues

$
26,152


$
(1,060
)

$
27,212Cost of Sales


20,433



5,948



14,485Operating Income (loss)


(6,899
)


(7,008
)


109Earnings (loss) before income taxes


(3,779
)


(7,008
)


3,229Income tax expense (benefit)


(4,271
)


(5,008
)


737Net earnings (loss)


492



(2,000
)


2,492Net earnings (loss) per
    share  basic

$
0.08


$
(0.33
)

$
0.41Net earnings (loss) per
    share  diluted

$
0.08


$
(0.33
)

$
0.40Weighted Average number of common
    shares:Basic


6,059,989







6,059,989Diluted


6,165,446







6,165,446   First


Second


Third


Fourth2005

Quarter


Quarter


Quarter


Quarter


Total(Amounts in thousands, except per share data)Revenues

$
24,018


$
26,158


$
26,819


$
35,227


$
112,222Gross profit


4,101



7,904



(175
)


6,238



18,068Net earnings (loss)- before
    cumulative effect of change in the application of accounting
    principle


(3,656
)


(811
)


(6,761
)


(22,399
)


(33,627
)Net Earnings (Loss)


(9,233
)


(701
)


(6,666
)


(22,320
)


(38,920
)Per share Net Earnings (Loss):Basic

$
(1.64
)

$
(0.12
)

$
(1.15
)

$
(3.75
)

$
(6.76
)Diluted

$
(1.64
)

$
(0.12
)

$
(1.15
)

$
(3.75
)

$
(6.76
)   NOTE Y 
    OFF-BALANCE SHEET TRANSACTION
   F-46




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
    NOTE Z 
    SUBSEQUENT EVENTS
  Disposal
    of SeaSpace
      December 31,


December 31,2006


2005AssetCurrent AssetsCash and cash equivalents

$
246


$
259Accounts receivable, net


2,110



1,416Costs and accrued earnings on
    uncompleted contracts


211



483Inventories, net


572



919Due to parent


(852
)


Prepaid and other current assets


325



101Total current assets


2,612



3,178Property, Plant and Equipment, net


481



885Other AssetsIntangible assets, net


2,491



2,555Goodwill


1,387



1,387Other assets


6



2083,884



4,150Total Assets


6,977



8,213Current LiabilitiesCurrent maturities of long-term
    debt


106



130Accounts payable


685



466Accrued liabilities


749



571Customer deposits


309



669Income taxes






1Total current liabilities


1,849



1,837Long-term ObligationsLong-term debt, less current
    maturities


156



147156



147Total Liabilities

$
2,005


$
1,984  F-47




---



##### 



The
    Allied Defense Group, Inc.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS 
    Continued
  Senior
    Subordinated Convertible Notes
       F-48




---



##### 



SCHEDULE I 
    CONDENSED FINANCIAL INFORMATION OF REGISTRANT  The
    Allied Defense Group, Inc.
    (Parent Company)
    BALANCE SHEETS
    December 31,
  2006


2005(Thousands of dollars)ASSETSCash and cash equivalents

$
3,938


$
1,267Restricted cash


84



2,000Investment in subsidiaries


76,822



99,451Due from subsidiaries


8,241



322Other


3,877



1,411Total assets

$
92,962


$
104,451LIABILITIES AND
    STOCKHOLDERS EQUITYLIABILITIESAccounts payable and accrued
    liabilities

$
2,773


$
2,811Income tax


102



102Deferred compensation


186



160Long term debt, less unamortized
    discount


6,455



19,712Derivative instrument


1,192



Convertible Debenture, less
    unamortized discount


26,907



Total liabilities


37,615



22,785STOCKHOLDERS
    EQUITYCommon stock


644



598Capital in excess of par value


43,312



34,354Retained earnings (deficit)


(6,631
)


34,466Accumulated other comprehensive
    income


18,022



12,24855,347



81,666$
92,962


$
104,451  F-49




---



##### 



SCHEDULE I 
    CONDENSED FINANCIAL INFORMATION OF
    REGISTRANT  (Continued)
  The
    Allied Defense Group, Inc.
    (Parent Company)
    STATEMENTS OF OPERATIONS
 Years ended December 31,
  2006


2005


2004(Thousands of dollars)IncomeIntercompany management fees

$
5,745


$
4,805


$
4,249Dividends from subsidiaries


550



10,430



Gain on fair value of Senior
    Convertible notes and warrants


1,901







Other  net


246



20



458,442



15,255



4,294Costs and expensesAdministrative and other


17,270



11,735



7,945Earnings (loss) before equity in
    operations of subsidiaries


(8,828
)


3,520



(3,651
)Equity (loss) in operations of
    subsidiaries, less dividends received


(32,287
)


(40,402
)


3,411Earnings (loss) before income taxes


(41,115
)


(36,882
)


(240
)Income taxes (benefit)


(18
)


2,038



(1,610
)NET EARNINGS (LOSS)

$
(41,097
)

$
(38,920
)

$
1,370Earnings per common shareBasic

$
(6.78
)

$
(6.76
)

$
0.25Diluted

$
(6.78
)

$
(6.76
)

$
0.24  F-50




---



##### 



SCHEDULE I 
    CONDENSED FINANCIAL INFORMATION OF
    REGISTRANT  (Continued)
  The
    Allied Defense Group, Inc.
    (Parent Company)
    STATEMENTS OF CASH FLOWS
 Years ended December 31,
  2006


2005


2004Cash flows from operating activitiesNet earnings (loss) for the year

$
(41,097
)

$
(38,920
)

$
1,370Adjustments to reconcile net
    earnings (loss) to net cash provided by (used in) operating
    activitiesEquity in operations of subsidiaries


31,737



29,972



(3,411
)Dividend from subsidiary


550



10,430



Depreciation and amortization


193



50



47Deferred taxes






1,485



(804
)Amortization of debenture issue
    costs and conversion feature


1,765



220



179Gain related to fair value of notes
    and warrants


(1,901
)






Common stock and stock option awards


1,255



404



539Deferred director stock awards


164







Changes in assets and liabilitiesOther assets


132



(497
)


(477
)Due to subsidiaries


(5,627
)


880



(1,605
)Accounts payable and accrued
    liabilities


(896
)


816



1,270Deferred compensation


27



(216
)


(27
)Income taxes


(1
)


98



427,398



43,642



(4,285
)Net cash provided by (used in)
    operating activities


(13,699
)


4,722



(2,915
)Cash flows used in investing
    activitiesCapital expenditures


(1,550
)


(9
)


(10
)Equity infusions in subsidiaries


(4,855
)


(7,353
)


(6,367
)Acquisitions


(473
)


(9,443
)


(125
)Net cash used in investing
    activities


(6,878
)


(16,805
)


(6,502
)Cash flows from financing activitiesProceeds from issuance of long-term
    debt


30,000



12,000



2,000Debt issue costs


(1,908
)






(77
)Principal payments on debenture


(14,000
)


(2,478
)


(5,250
)Repayment on capital lease
    obligations


(8
)






Proceeds from employee stock
    purchase plan


129



108



261Proceeds from option exercises


429



2,691



348Issuance of stock


6,684







Retirement of stock


(30
)






Restricted cash


1,952



12



(1,887
)Net cash provided by (used in)
    financing activities


23,248



12,333



(4,605
)Net increase (decrease) in cash and
    equivalents


2,671



250



(14,022
)Cash and equivalents at beginning
    of year


1,267



1,017



15,039Cash and equivalents at end of year

$
3,938


$
1,267


$
1,017Supplemental Disclosures of Cash
    Flow Information:Cash paid during the year for:Income taxes

$



$



$
45Interest


3,843



496



641Supplemental of Non-Cash Investing
    and Financing Activities:Capital leases


24







Non-cash consideration in
    connection with business acquisition






8,672



Warrants issued in conjunction with
    long term debt


2,387



488



68  F-51




---



##### 



SCHEDULE II 
    VALUATION AND QUALIFYING ACCOUNTS  The
    Allied Defense Group, Inc.
    Valuation and Qualifying Accounts
    Years ended December 31, 2006, 2005 and 2004
  AdditionsBalance at


Charged to


Charged





BalanceBeginning


Costs and


to Other





at End ofDescription

of Period


Expenses


Accounts


Deductions


Period(In thousands)Year ended December 31, 2006Estimated losses on contracts

$



$
222


$



$

(1)

$
222Allowance for doubtful receivables

$
214


$
610


$



$
61
(2)

$
763Valuation allowance on inventory

$
882


$
1,302


$



$
499


$
1,685Valuation allowances on deferred
    tax assets

$
12,784


$
24,037


$



$

(3)

$
36,821Warranty reserve

$
819


$
244


$



$
37


$
1,026Year ended December 31, 2005Estimated losses on contracts

$
726


$
39


$



$
765
(1)

$
Allowance for doubtful receivables

$
143


$
334


$



$
263
(2)

$
214Valuation allowance on inventory

$
668


$
1,687


$



$
1,473


$
882Valuation allowances on deferred
    tax assets

$
1,466


$
11,318


$



$

(3)

$
12,784Warranty reserve

$
912


$
98


$



$
191


$
819Year ended December 31, 2004Estimated losses on contracts

$
283


$
726


$



$
283
(1)

$
726Allowance for doubtful receivables

$
115


$
143


$



$
115
(2)

$
143Valuation allowance on inventory

$
214


$
454


$



$



$
668Valuation allowances on deferred
    tax assets

$
4,117


$
1,466


$



$
4,117
(3)

$
1,466Warranty reserve

$
944


$
61


$



$
93


$
912     (1)
    
    Represents amount of reserve relieved through completion
    of contracts.(2)
    
    Represents write-off of receivables.(3)
    
    Represents amounts of valuation allowance relieved through
    use of deferred tax assets. F-52




---



##### 



EXHIBIT INDEX
  Number

Description of Exhibit

Page21


List of Subsidiaries

E-223


Consent of Independent Registered
    Public Accounting Firm

E-323
.1

Consent of Independent Registered
    Public Accounting Firm

E-431
.1

Certification of Chief Executive
    Officer pursuant to Section 302 of Sarbanes-Oxley Act of
    2002, dated March 22, 2007

E-531
.2

Certification of Chief Financial
    Officer pursuant to Section 302 of Sarbanes-Oxley Act of
    2002, dated March 22, 2007

E-632


Certification of Chief Executive
    Officer and Chief Financial Officer pursuant to Section 906
    of Sarbanes-Oxley Act of 2002, dated March 22, 2007

E-7  E-1