UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

         

**Form 10-Q**

         

**(Mark        One)**

 

x      QUARTERLY        REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the first        quarterly period ended**March 31, 2008.**

OR

o       TRANSITION        REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the        transition period from__________to__________.

    

| Commission file number: 0-27824                                                                                     |
|---------------------------------------------------------------------------------------------------------------------|
| **SPAR Group, Inc.**                                                                                                |
| (Exact name of registrant as specified in its                        charter)                                       |
| Delaware                                                                                                            | 33-0684451 |
| State of Incorporation                                                                                              | IRS Employer Identification No. |
| 560 White Plains Road, Suite 210, Tarrytown, New York                        10591                                  |
| (Address of principal executive offices, including zip                        code)

                          |

 

Registrant’s telephone number, including area code: (914)        332-4100

Indicate by check whether the registrant (1) has filed all reports required        to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the        preceding 12 months (or for such shorter period that the registrant was required to file        such reports), and (2) has been subject to such filing requirements for the past 90        days:   

| xYes   | oNo |
|------------------|-----|

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

| Large Accelerated Filero | Accelerated Filer o   |  |
|--------------------------|----------------------------|--|
| Non-Accelerated Filero   | Smaller Reporting Companyx |  |

 

(Do not        check if a smaller reporting company)

Indicate        by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the        Exchange Act).    YES o      NOx

         

On March 31, 2008 there were 19,129,177 shares of Common Stock        outstanding.

         

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**SPAR        Group, Inc.**

Index

| **PART                        I:**              **FINANCIAL INFORMATION** |                                                                                                                                                                    |
|-------------------------------------------------------------------------------------------------------------------------------------------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                  |                                                                                                                                                                         |  |
| Item 1.                                                                                                                                         | Financial Statements                                                                                                                                                    |   |
|                                                                                                                                            |                                                                                                                                                                         |   |
|                                                                                                                                            | Consolidated Balance Sheets as of                        March 31, 2008 and December 31, 2007                                                                           | 2

                          |
|                                                                                                                                            |                                                                                                                                                                    |   |
|                                                                                                                                            | Consolidated Statements of                        Operations for the three months ended March 31, 2008 and                        2007                                  | 3 |
|                                                                                                                                            |                                                                                                                                                                         |   |
|                                                                                                                                            | Consolidated Statements of Cash                        Flows for the three months ended March 31, 2008 and 2007                                                         | 4 |
|                                                                                                                                            |                                                                                                                                                                    |   |
|                                                                                                                                            | Notes to Consolidated Financial                        Statements                                                                                                       | 5 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 2.                                                                                                                                         | Management’s Discussion and Analysis                        of Financial Condition, Results of Operations, Liquidity and Capital                        Resources | 17 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 3.                                                                                                                                         | Quantitative and Qualitative Disclosures                        about Market Risk                                                                                       | 23 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 4.                                                                                                                                         | Controls and Procedures                                                                                                                                                 | 24 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| **PART                        II:**             **OTHER INFORMATION**          |                                                                                                                                                                    |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 1.

                                                                                                                                  | Legal Proceedings                                                                                                                                                       | 25 |
| Item 1A.

                                                                                                                                 | Risk Factors                                                                                                                                                            | 25 |
| Item 2.                                                                                                                                         | Unregistered Sales of Equity                        Securities and Use of Proceeds                                                                                      | 25 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 3.                                                                                                                                         | Defaults upon Senior                        Securities                                                                                                                  | 26 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 4.                                                                                                                                         | Submission of Matters to a Vote of                        Security Holders                                                                                              | 26 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 5.                                                                                                                                         | Other Information                                                                                                                                                       | 26 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| Item 6.                                                                                                                                         | Exhibits                                                                                                                                                                | 26 |
|                                                                                                                                            |                                                                                                                                                                    |   |
| **SIGNATURES**                                                                                                                                  |                                                                                                                                                                    | 27 |

 

 

1

 

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| **PART I:** | **FINANCIAL INFORMATION** |
|-------------|---------------------------|

**Item 1.        Financial Statements**

**SPAR Group, Inc.**

Consolidated Balance Sheets

(In        thousands, except share and per share data)

 

 

|                                                                                                                                                      |   | **March 31,****2008** |       | **December 31,****2007** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------|------------|--------------------------|--------|
|                                                                                                                                                      |   | **(Unaudited)**       |       | **(Note)**               |   |
| **Assets**                                                                                                                            |   |                  |       |                     |   |   |   |
| Current assets:                                                                                                                       |   |                  |       |                     |   |   |   |
| Cash and cash equivalents                                                                                                             |   | **$**                 | **2,409**  |                     | $      | 1,246 |   |
| Accounts receivable, net                                                                                                              |   |                  | **12,991** |                     |   | 13,748 |   |
| Prepaid expenses and other current                        assets                                                                      |   |                  | **1,177**  |                     |   | 975 |   |
| Total current assets                                                                                                                  |   |                  | **16,577** |                     |   | 15,969 |   |
|                                                                                                                                  |   |                  |       |                     |   |   |   |
| Property and equipment,                        net                                                                                    |   |                  | **1,466**  |                     |   | 1,528 |   |
| Goodwill                                                                                                                              |   |                  | **798**    |                     |   | 798 |   |
| Other assets                                                                                                                          |   |                  | **1,679**  |                     |   | 1,648 |   |
| Total assets                                                                                                                          |   | **$**                 | **20,520** |                     | $      | 19,943 |   |
|                                                                                                                                  |   |                  |       |                     |   |   |   |
| **Liabilities and stockholders’                        equity**                                                                 |   |                  |       |                     |   |   |   |
| Current liabilities:                                                                                                                  |   |                  |       |                     |   |   |   |
| Accounts payable                                                                                                                      |   | **$**                 | **4,654**  |                     | $      | 3,631 |   |
| Accrued expenses and other current                        liabilities                                                                 |   |                  | **4,735**  |                     |   | 3,981 |   |
| Accrued expenses due to                        affiliates                                                                             |   |                  | **1,808**  |                     |   | 2,107 |   |
| Customer deposits                                                                                                                     |   |                  | **747**    |                     |   | 580 |   |
| Lines of credit                                                                                                                       |   |                  | **5,055**  |                     |   | 6,119 |   |
| Total current liabilities                                                                                                             |   |                  | **16,999** |                     |   | 16,418 |   |
|                                                                                                                                  |   |                  |       |                     |   |   |   |
| Other long-term                        liabilities                                                                                    |   |                  | **266**    |                     |   | 299 |   |
| Minority interest                                                                                                                     |   |                  | **741**    |                     |   | 676 |   |
| Total liabilities                                                                                                                     |   |                  | **18,006** |                     |   | 17,393 |   |
|                                                                                                                                  |   |                  |       |                     |   |   |   |
| Commitments and contingencies (Note –                        9)                                                                 |   |                  |       |                     |   |   |   |
|                                                                                                                                  |   |                  |       |                     |   |   |   |
| Stockholders’                        equity:                                                                                    |   |                  |       |                     |   |   |   |
| Preferred stock, $.01 par value:                                                                                                                          |   |                  |       |                     |   |   |   |
| Authorized shares – 3,000,000Issued and outstanding shares –89,286 – March 31,                        2008          |   |                  | **1**      |                     |   | — |   |
| Common stock, $.01 par value:                                                                                                                             |   |                  |       |                     |   |   |   |
| Authorized shares –                        47,000,000                                                                           |   |                  |       |                     |   |   |   |
| Issued and outstanding shares –19,129,177 – March 31, 200819,089,177 – December 31,                        2007     |   |                  | **191**    |                     |   | 191 |   |
| Treasury stock                                                                                                                        |   |                  | **(1**     | **)**                    |   | (1 | ) |
| Accumulated other comprehensive                        loss                                                                           |   |                  | **(46**    | **)**                    |   | (43 | ) |
| Additional paid-in                        capital                                                                                     |   |                  | **12,198** |                     |   | 11,982 |   |
| Accumulated deficit                                                                                                                   |   |                  | **(9,829** | **)**                    |   | (9,579 | ) |
| Total stockholders’                        equity                                                                               |   |                  | **2,514**  |                     |   | 2,550 |   |
| Total liabilities and stockholders’                        equity                                                               |   | **$**                 | **20,520** |                     | $      | 19,943 |   |

| Note: | The Balance Sheet at December 31, 2007, is an excerpt from                        the audited financial statements at that date but does not include certain                        information and footnotes required by accounting principles generally                        accepted in the United States for complete financial statements. |
|-------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

*See        accompanying notes.*

 

2

 

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**SPAR Group, Inc.**

Consolidated Statements of Operations

(unaudited)

(In        thousands, except per share data)

 

|                                                                                |   | **Three Months Ended March 31,** |       |
|-------------------------------------------------------------------------------------|--------|----------------------------------|------------|
|                                                                                |   | **2008**                         |       | **2007** |   |
| Net revenues                                                                        |   | **$**                            | **17,454** |   | **$** | 15,413 |   |
| Cost of revenues                                                                    |   |                             | **12,484** |   |   | 10,498 |   |
| Gross profit                                                                        |   |                             | **4,970**  |   |   | 4,915 |   |
|                                                                                |   |                             |       |   |   |   |   |
| Selling, general and administrative expenses                                        |   |                             | **4,658**  |   |   | 5,005 |   |
| Depreciation and amortization                                                       |   |                             | **208**    |   |   | 197 |   |
| Operating income (loss)                                                             |   |                             | **104**    |   |   | (287 | ) |
|                                                                                |   |                             |       |   |   |   |   |
| Interest expense                                                                    |   |                             | **81**     |   |   | 89 |   |
| Other expense                                                                       |   |                             | **43**     |   |   | 21 |   |
| Loss before provision for income taxes and minority                        interest |   |                             | **(20**    | **)** |   | (397 | ) |
|                                                                                |   |                             |       |   |   |   |   |
| Provision for income taxes                                                          |   |                             | **164**    |   |   | 67 |   |
| Loss before minority interest                                                       |   |                             | **(184**   | **)** |   | (464 | ) |
|                                                                                |   |                             |       |   |   |   |   |
| Minority interest                                                                   |   |                             | **66**     |   |   | 45 |   |
| Net loss                                                                            |   | **$**                            | **(250**   | **)** | $ | (509 | ) |
|                                                                                |   |                             |       |   |   |   |   |
| Basic/diluted net loss per common share:                                            |   |                             |       |   |   |   |   |
|                                                                                |   |                             |       |   |   |   |   |
| Net loss – basic/diluted                                                      |   | **$**                            | **(0.01**  | **)** | $ | (0.03 | ) |
|                                                                                |   |                             |       |   |   |   |   |
| Weighted average common shares                                                      |   |                             |       |   |   |   |   |
| – basic/diluted                                                               |   |                             | **19,129** |   |   | 18,934 |   |

 

*See        accompanying notes*

 

3

 

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**SPAR Group, Inc.**

Consolidated Statements of Cash Flows

(unaudited)(In thousands)

 

|                                                                                    |   | **Three Months Ended March 31,** |       |
|-----------------------------------------------------------------------------------------|--------|----------------------------------|------------|
|                                                                                    |   | **2008**                         |       | **2007** |   |
| **Operating activities**                                                                |   |                             |       |   |   |   |   |
| Net cash provided by operating activities                                               |   | **$**                            | **2,375**  |   | $ | 3,044 |   |
|                                                                                    |   |                             |       |   |   |   |   |
| **Investing activities**                                                                |   |                             |       |   |   |   |   |
| Purchases of property and equipment                                                     |   |                             | **(146**   | **)** |   | (346 | ) |
|                                                                                    |   |                             |       |   |   |   |   |
| **Financing activities**                                                                |   |                             |       |   |   |   |   |
| Net payments on lines of credit                                                         |   |                             | **(1,064** | **)** |   | (1,709 | ) |
| Other long-term liabilities                                                             |   |                             | **(33**    | **)** |   | **—** |   |
| Proceeds from employee stock purchase plan and options                        exercised |   |                             | **34**     |   |   | **—** |   |
| Net cash used in financing activities                                                   |   |                             | **(1,063** | **)** |   | (1,709 | ) |
|                                                                                    |   |                             |       |   |   |   |   |
| Translation loss                                                                        |   |                             | **(3**     | **)** |   | (5 | ) |
|                                                                                    |   |                             |       |   |   |   |   |
| Net change in cash and cash equivalents                                                 |   |                             | **1,163**  |   |   | 984 |   |
| Cash and cash equivalents at beginning of period                                        |   |                             | **1,246**  |   |   | 1,148 |   |
| Cash and cash equivalents at end of period                                              |   | **$**                            | **2,409**  |   | $ | 2,132 |   |
|                                                                                    |   |                             |       |   |   |   |   |
| **Supplemental disclosure of cash flows                        information**            |   |                             |       |   |   |   |   |
| Interest paid                                                                           |   | **$**                            | **96**     |   | $ | 64 |   |
| Taxes paid                                                                              |   | **$**                            | **4**      |   | $ | 5 |   |

 

The        Company acquired equipment by entering into capital leases in the amount of $358,000 in the        first quarter of 2007.

The        Company issued preferred stock in the first quarter of 2008. Upon issuance of the preferred        shares the accrued expenses due to affiliates was reduced by $100,000.

*See        accompanying notes.*

 

4

 

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**SPAR Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited)**

 

| **1.** | **Basis of Presentation** |
|--------|---------------------------|

The accompanying unaudited, consolidated financial statements of SPAR Group,        Inc., a Delaware corporation (“SGRP”), and its subsidiaries (together with        SGRP, collectively, the “Company” or the “SPAR Group”) have been        prepared in accordance with accounting principles generally accepted in the United States        for interim financial information and with the instructions to Form 10-Q and Article 10 of        Regulation S-X. Accordingly, they do not include all of the information and footnotes        required by accounting principles generally accepted in the United States for complete        financial statements. In the opinion of management, all adjustments considered necessary        for a fair presentation have been included in these interim financial statements. However,        these interim financial statements should be read in conjunction with the annual        consolidated financial statements and notes thereto for the Company as contained in the        Company’s Annual Report for 2007 on Form 10-K for the year ended December 31, 2007,        as filed with the Securities and Exchange Commission (the “SEC”) on March 31,        2008, (the “Company’s Annual Report for 2007 on Form 10-K”). The        Company’s results of operations for the interim periods are not necessarily        indicative of its operating results for the entire year.

| **2.** | **Business and Organization** |
|--------|-------------------------------|

The Company is a supplier of merchandising and other marketing services        throughout the United States and internationally. The Company also provides in-store event        staffing, product sampling, radio frequency identification (“RFID”) services,        technology services and marketing research.

Today the Company operates in 13 countries whose population represents        approximately 48% of the total world population. The Company’s operations are        currently divided into two divisions: the Domestic Merchandising Services Division and the        International Merchandising Services Division. The Domestic Merchandising Services Division        provides merchandising and marketing services, in-store event staffing, product sampling,        RFID services, technology services and marketing research to manufacturers and retailers in        the United States. The various services are primarily performed in mass merchandisers,        electronics store chains, drug store chains and convenience and grocery stores. The        International Merchandising Services Division was established in July 2000 and through its        subsidiaries, the Company currently provides similar merchandising and marketing services        in Japan, Canada, Turkey, South Africa, India, Romania, China, Lithuania, Latvia, Estonia,        Australia and New Zealand. The Company continues to focus on expanding its merchandising        and marketing services business throughout the world.

5

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

 

| **3.** | **Earnings Per Share** |
|--------|------------------------|

The following table sets forth the computations of basic and diluted        earnings per share (in thousands, except per share data):

|                                                                        | **Three Months Ended****March 31,** |
|-----------------------------------------------------------------------------|-------------------------------------|
|                                                                        | **2008**                            | **2007** |
| Numerator:                                                                  |                                |   |
|                                                                        |                                |   |
| Net loss                                                                    | $    (250)      | $     (509) |
|                                                                        |                                |   |
| Denominator:                                                                |                                |   |
| Shares used in basic net lossper                        share calculation   | 19,129                              | 18,934 |
|                                                                        |                                |   |
| Effect of diluted securities:                                               |                                |   |
| Employee stock options                                                      | –                   | –  |
|                                                                        |                                |   |
| Shares used in diluted net lossper                        share calculation | 19,129                              | 18,934  |
|                                                                        |                                |   |
| Basic and diluted net lossper common                        share           | $    (0.01)     | $     (0.03) |

 

 

| **4.** | **Lines of Credit** |
|--------|---------------------|

In January 2003, the Company (other than SGRP’s foreign subsidiaries)        and Webster Business Credit Corporation, then known as Whitehall Business Credit        Corporation (“Webster”), entered into the Third Amended and Restated Revolving        Credit and Security Agreement (as amended, collectively, the “Credit        Facility”). The Credit Facility provides for a $7.0 million revolving line of credit        maturing on January 23, 2009. In March 2007 the credit facility was further amended to,        among other things, delay the Minimum Fixed Coverage ratio until the fourth quarter 2007,        establish an EBITDA covenant and increase the interest rate by .25% beginning March 28,        2007. In May 2007 the credit facility was amended to provide for an availability reserve of        $500,000. In August 2007 the credit facility was further amended to reduce the availability        reserve to $250,000 until November 30, 2007. On November 16, 2007 Webster amended the        credit facility to extend the availability reserve of $250,000 indefinitely and to reduce        the revolving line of credit to $5.0 million. Borrowings are based upon a borrowing base        formula as defined in the agreement (principally 85% of “eligible” domestic        accounts receivable less certain reserves). The Credit Facility is secured by all of the        assets of the Company and its domestic subsidiaries. The Credit Facility also limits        certain expenditures, including, but not limited to, capital expenditures and other        investments. In addition, Mr. Robert G. Brown, a Director, the Chairman and a major        stockholder of SGRP, and Mr. William H. Bartels, a Director, the Vice Chairman and a        major stockholder of SGRP, have provided personal guarantees of the Credit Facility        totaling $1.0 million.

The basic interest rate under the Credit Facility is Webster’s        “Alternative Base Rate” plus 1.0% per annum (a total of 6.25% per annum at        March 31, 2008), which automatically changes with each change made by Webster in such        Alternative Base Rate. The Company at its option, subject to certain conditions, may elect        to have portions of its loans under the Credit Facility bear interest at various LIBOR        rates plus 3.25% per annum based on fixed periods of one, two, three or nine months. The        actual average interest rate under the Credit Facility was 7.06% per annum for the three        months ended March 31, 2008.

 

6

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

The domestic revolving loan balances outstanding under the Credit Facility        were $3.9 million and $4.9 million at March 31, 2008 and December 31, 2007, respectively.        As of March 31, 2008, the SPAR Group had unused availability under the Credit Facility of        $120,000 out of the remaining maximum $1.1 million unused revolving line of credit after        reducing the borrowing base by outstanding loans.

Because of the requirement to maintain a lock box arrangement with Webster        and Webster’s ability to invoke a subjective acceleration clause at its discretion,        borrowings under the Credit Facility are classified as current at March 31, 2008 and        December 31, 2007, in accordance with EITF 95-22,*Balance Sheet        Classification of Borrowings Outstanding Under Revolving Credit Agreements That Include        Both a Subjective Acceleration Clause and a Lock-Box        Agreement*.

The Company was not in violation of any covenants at March 31, 2008, and        does not expect to be in violation at future measurement dates. However, there are no        assurances that the Company will not be in violation of certain covenants in the future.        Should the Company be in violation, there are no assurances that Webster will issue waivers        of any future violations.

The Japanese subsidiary, SPAR FM Japan, Inc., has line of credit agreements        totaling 100 million Yen, or approximately $1.0 million (based upon the exchange rate at        March 31, 2008). The outstanding balances under the line of credit agreements were 90        million Yen, or approximately $907,000 at March 31, 2008 and 90 million Yen, or        approximately $802,000 at December 31, 2007 (based upon the exchange rate at those dates).        The average interest rate was 1.88% per annum for the three months ended March 31, 2008. In        addition, the Japan subsidiary had cash balances totaling 209 million Yen, or approximately        $2.1 million and 137 million Yen, or approximately $1.2 million at March 31, 2008 and        December 31, 2007 respectively (based upon the exchange rates at those dates).

The Australian subsidiary, SPARFACTS Australia Pty. Ltd., has a revolving        line of credit arrangement with Oxford Funding Pty. Ltd. for $1.1 million (Australian) or        approximately $1.0 million (based upon the exchange rate at March 31, 2008). There was no        outstanding balance under the line of credit agreement at March 31, 2008 and a balance of        $315,000 (Australian) or approximately $276,000 at December 31, 2007 (based upon the        exchange rate at that date). The average interest rate was 12.6% per annum for the three        months ended March 31, 2008.

SPAR Canada Company, a wholly owned subsidiary, has a credit agreement with        Royal Bank of Canada providing for a Demand Operating Loan for a maximum borrowing of $1.0        million (Canadian) or approximately $978,000 (based upon the exchange rate at March 31,        2008). The Demand Operating Loan provides for borrowings based upon a borrowing base        formula as defined in the agreement (principally 75% of eligible accounts receivable less        certain deductions). The outstanding balances under the line of credit agreement were        $236,000 (Canadian) or approximately $231,000 and $140,000 (Canadian) or approximately        $143,000 at March 31, 2008 and December 31, 2007, respectively (based upon the exchange        rate at those dates). The average interest rate was 6.25% per annum for the three months        ended March 31, 2008.

| **5.** | **Capital Lease Obligations** |
|--------|-------------------------------|

In 2007, the Company capitalized certain equipment leases. The economic        substance of the leases is such that the Company is financing the acquisition of the assets        through the leases. The equipment has a cost of $582,000, accumulated depreciation of        $185,000 and a net book value of $397,000 at March 31, 2008.

 

7

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

Annual future minimum lease payments required under the leases, together        with their present value as of March 31, 2008 are as follows:

 

|                                                                                |   |   |
|-------------------------------------------------------------------------------------|--------|--------|
| Year EndingDecember 31:                                                             |   | Amount |
|                                                                                |   |   |   |
| 2008                                                                                |   | $      | 167,000 |
| 2009                                                                                |   |   | 223,000 |
| 2010                                                                                |   |   | 96,000 |
|                                                                                |   |   | 486,000 |
| Less amount representing interest                                                   |   |   | 61,000 |
| Present value of net minimum lease payments                                         |   |   | 425,000 |
| Less current portion included with other current                        liabilities |   |   | 176,000 |
| Long-term portion included with other long-term                        liabilities  |   | $      | 249,000 |

 

| **6.** | **Related-Party Transactions** |
|--------|--------------------------------|

Mr. Robert G. Brown, a Director, the Chairman and a major stockholder        of SGRP, and Mr. William H. Bartels, a Director, the Vice Chairman and a major        stockholder of SGRP, are executive officers and the sole stockholders and directors of SPAR        Marketing Services, Inc. (“SMS”), SPAR Management Services, Inc.        (“SMSI”), and SPAR Infotech, Inc. (“SIT”).

SMS and SMSI provided approximately 99% of the Company’s domestic        merchandising specialists field force (through independent contractors) for both the three        months ended March 31, 2008 and 2007, and approximately 80% and 78% of the Company’s        domestic field management, at a total cost to the Company of approximately $4.4 million and        $4.7 million for the three months ended March 31, 2008 and 2007, respectively. Pursuant to        the terms of the Amended and Restated Field Service Agreement dated as of January 1, 2004,        SMS provides the services of SMS’s merchandising specialist field force of        approximately 4,200 independent contractors to the Company. Pursuant to the terms of the        Amended and Restated Field Management Agreement dated as of January 1, 2004, SMSI provides        53 full-time national, regional and district managers to the Company. For those services,        the Company has agreed to reimburse SMS and SMSI for all of their costs of providing those        services and to pay SMS and SMSI each a premium equal to 4% of their respective costs.        Total net premiums (4% of SMS and SMSI costs) paid to SMS and SMSI for services rendered        were approximately $170,000 and $189,000 for the three months ended March 31, 2008, and        2007, respectively. The Company has been advised that Messrs. Brown and Bartels are        not paid any salaries as officers of SMS or SMSI so there were no salary reimbursements for        them included in such costs or premium. However, since SMS and SMSI are “Subchapter        S” corporations and are owned by Messrs. Brown and Bartels, they benefit from        any income of such companies allocated to them.

SIT provided substantially all of the Internet computer programming services        purchased by the Company at a total cost of approximately $188,000 and $166,000 for the        three months ended March 31, 2008 and 2007, respectively. SIT provided approximately 6,100        and 5,400 hours of Internet computer programming services to the Company for the three        months ended March 31, 2008 and 2007, respectively. Pursuant to the Amended and Restated        Programming and Support Agreement dated as of September 15, 2007, SIT continues to provide        programming services to the Company for which the Company has agreed to pay SIT competitive        hourly wage rates for time spent on Company matters and to reimburse the related        out-of-pocket expenses of SIT and its personnel. The average hourly billing rate was $30.96        and $30.69 for the three months ended March 31, 2008 and 2007, respectively. The Company        has been advised that no hourly charges or business expenses for Messrs. Brown and        Bartels were charged to the Company by SIT for the three months ended March 31, 2008 and        2007, respectively. However, since SIT is a “Subchapter S” corporation and is        owned by Messrs. Brown and Bartels, they benefit from any income of such company        allocated to them.

 

8

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

In November 2004 and January 2005, the Company entered into        separate operating lease agreements between SMS and the Company’s wholly owned        subsidiaries, SPAR Marketing Force, Inc. (“SMF”) and SPAR Canada Company        (“SPAR Canada”), respectively. In March 2005 SMF entered into an additional        operating lease with SMS. Each lease had a term of 36 months. The equipment leased by SMF        and SPAR Canada was handheld computers and the total monthly lease expense for SMF and SPAR        Canada was $20,232 and $2,972, respectively.

By March 31, 2008, all of the operating leases noted above        had expired. Both SMF and SPAR Canada elected to notify SMS of its intention to continue to        lease the equipment for an additional twelve month period. The extended lease payments are        based upon the fair market value of the equipment as of the expiration dates and an        effective interest rate of 10% per annum. The revised monthly lease payments are $10,050        for SMF and $1,500 for SPAR Canada. SMF and SPAR Canada accrued the cost of the revised        lease payments since the expiration of the original leases and in March 2008 SMS forgave        the total indebtedness for the accrued monthly lease amounts that were due as of March 31,        2008 totaling $39,000.

In addition to the $39,000 in operating lease payments SMS        forgave, SMSI also forgave $100,000 that was owed by the Company for field management        expenses as of March 31, 2008. It should also be noted that SMSI forgave an additional        $100,000 of the Company's indebtedness in exchange for 89,286 shares of Preferred Stock        (see Note 16, Preferred Stock).

Through arrangements with the Company, SMS, SMSI and SIT participate in        various benefit plans, insurance policies and similar group purchases by the Company, for        which the Company charges them their allocable shares of the costs of those group items and        the actual costs of all items paid specifically for them. All transactions between the        Company and the above affiliates are paid and/or collected by the Company in the normal        course of business.

The following transactions occurred between the Company and the above        affiliates (in thousands):

 

|                                                                           |   | **Three Months Ended March 31,** |
|--------------------------------------------------------------------------------|--------|----------------------------------|
|                                                                           |   | **2008**                         |   | **2007** |
| Services provided by affiliates:                                               |   |                             |   |   |   |   |
| Independent contractor services (SMS)                                          |   | **$**                            | **3,441** |   | $ | 3,871 |
|                                                                           |   |                             |   |   |   |   |
| Field management services (SMSI)                                               |   | **$**                            | **996** |   | $ | 793 |
|                                                                           |   |                             |   |   |   |   |
| Handheld computer leases (SMS)                                                 |   | **$**                            | **7** |   | $ | 70 |
|                                                                           |   |                             |   |   |   |   |
| Internet and software program Consulting services                        (SIT) |   | **$**                            | **188** |   | $ | 166 |

         

|                                     | **March 31,**                                | **December 31,**                     |
|------------------------------------------|----------------------------------------------|--------------------------------------|
| Accrued expenses due to affiliates:      | **2008**                                     | **2007**                             |
|                                     |                                         |                                 |
| SPAR Marketing Services, Inc.(SMS)       | **$      1,327**    | $     1,490 |
| SPAR Management Services, Inc. (SMSI)    | **398**                                      | 457                                  |
| SPAR Infotech, Inc. (SIT)                | **83**                                       | 160                                  |
| Total accrued expenses due to affiliates | **$**     **1,808** | $     2,107 |

 

 

In addition to the above, through the services of Affinity Insurance, Ltd.        (“Affinity”), the Company purchases insurance coverage for its casualty and        property insurance risk. The Company’s Chairman and Vice Chairman own, through SMSI,        a minority (less than 5%) equity interest in Affinity.

         

 

9

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

| **7.** | **Stock-Based Compensation** |
|--------|------------------------------|

The Company grants options to purchase shares of the Company’s common        stock to its employees and certain employees of its affiliates. Under SFAS No. 123(R), the        Company accounts for its employee and affiliate employee stock option expense as        compensation expense in the Company’s financial statements when the stock options are        granted. Share-based compensation cost is measured on the grant date, based on the fair        value of the award calculated at that date, and is recognized over the requisite service        period, which generally is the options’ vesting period. Fair value is calculated        using the Black-Scholes option pricing model. The fair value of the option continues to be        updated through the vesting date. The options granted have a ten (10) year life and vest        over four-year periods at a rate of 25% per year, beginning on the first anniversary of the        date of grant.

Based upon the Black-Scholes calculation, share-based compensation expense        related to employee stock option grants totaled approximately $49,000 and $80,000 for the        three months ended March 31, 2008 and 2007 respectively. Compensation expense related to        non-employee stock option grants awarded to the employees of the Company’s        affiliates, was approximately $34,000 and $37,000 for the three months ended March 31, 2008        and 2007, respectively. The impact of the total share-based compensation expense on        basic/diluted earnings per share was approximately $0.004and $0.006 for the three months        ended March 31, 2008 and 2007, respectively.

| **8.** | **Customer Deposits** |
|--------|-----------------------|

Customer deposits at March 31, 2008, were approximately $747,000        (approximately $28,000 from domestic operations and approximately $719,000 from        international operations) compared to approximately $580,000 at December 31, 2007        (approximately $120,000 from domestic operations and approximately $460,000 from        international operations).

| **9.** | **Commitments and Contingencies** |
|--------|-----------------------------------|

**International Commitments**

The Company’s international business model is to partner with local        merchandising companies and combine the Company’s proprietary software and expertise        in the merchandising and marketing services business with their partner’s knowledge        of the local market. In 2001, the Company established its Japanese subsidiary to provide        the latest in-store merchandising and marketing services to the Japanese market. Since        2003, the Company has expanded its international presence to Canada, Turkey, South Africa,        India, Romania, China, Lithuania, Latvia, Estonia, Australia, and New Zealand. Today the        Company has nine subsidiaries operating in 13 countries whose population represents        approximately 48% of the total world population.

Certain of these subsidiaries are profitable, while others are operating at        a loss. In the event certain subsidiaries have continued losses, the Company may be        required to make additional cash infusions into those subsidiaries.

**Legal Matters**

Safeway Inc. (“Safeway”) filed a Complaint against PIA        Merchandising Co., Inc. (“PIA Co.”), a wholly owned subsidiary of SPAR Group,        Inc. (“SGRP”), Pivotal Sales Company (“Pivotal”), a wholly owned        subsidiary of PIA Co., and SGRP in Alameda Superior Court, case no. 2001028498 on October        24, 2001. Safeway claims, as subsequently amended, alleged causes of action for breach of        contract and breach of implied contract. PIA Co. and Pivotal filed cross-claims against        Safeway on or about March 11, 2002, and amended them on or about October 15, 2002, alleging        causes of action by PIA Co. and Pivotal against Safeway for breach of contract,        interference with economic relationship, unfair trade practices and unjust enrichment.        Trial commenced in March 2006.

 

10

 

----

**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

On May 26, 2006, the jury in this case returned a verdict resulting in a net        award of $1,307,700 to Pivotal, a SGRP subsidiary. This net award is to be paid by Safeway        and resulted from separate jury findings that awarded damages to those SGRP subsidiaries on        certain claims and damages to Safeway on other claims. In particular, the jury awarded        damages to Pivotal of $5,760,879 for Safeway’s interference with Pivotal’s        contractual relationships with third party manufacturers and also awarded $782,400 to        Pivotal and PIA for Safeway’s breach of contract with those SGRP subsidiaries. The        jury awarded damages to Safeway of $5,235,579 for breach of contract by SGRP and those SGRP        subsidiaries. Judgment was entered in favor of Pivotal in September 2006 for $1,307,700.        Both parties filed post trial motions but all post trial motions were denied. Notices of        Appeal were thereafter filed by both Safeway and Pivotal. Pivotal/SGRP is seeking to have        Safeway’s judgment overturned, thereby increasing the award to Pivotal by over $5        million. Safeway has asked for a new trial on the judgment found against it. The appellate        process is expected to take fourteen to twenty four months to complete. In the interim, the        court ordered a mediation of the dispute, which took place but was not successful in        resolving the matter. Accordingly, the appeals will proceed. The Company has recorded the        net $1.3 million settlement award in other assets.

Briefing on the appeals commenced in the first quarter of 2008. It is        expected that opposition and reply briefs will be completed by July, 2008. Thereafter, an        oral argument hearing date will be assigned by the court of appeal.

In addition to the above, the Company is a party to various other legal        actions and administrative proceedings arising in the normal course of business. In the        opinion of Company’s management, disposition of these other matters are not        anticipated to have a material adverse effect on the financial position, results of        operations or cash flows of the Company.

| **10.** | **Geographic Data** |
|---------|---------------------|

A summary of the Company’s net revenues, operating income (loss) and        long lived assets by geographic area for the three months ended March 31, 2008 and 2007,        respectively, and at March 31, 2008 and December 31, 2007, are as follows (in        thousands):

 

|               |   | **Three Months Ended March 31,** |
|--------------------|--------|----------------------------------|
|               |   | **2008**                         |   | **2007** |
| Net revenues:      |   |                             |   |   |   |   |
| United States      |   | **$**                            | 7,443 |   | $ | 8,433 |
| International      |   |                             | 10,011 |   |   | 6,980 |
| Total net revenues |   | **$**                            | 17,454 |   | $ | 15,413 |

         

 

|                          |   | **Three Months Ended March 31,** |   |
|-------------------------------|--------|----------------------------------|--------|
|                          |   | **2008**                         |   | **2007** |   |
| Operating income (loss):      |   |                             |   |   |   |   |   |
| United States                 |   | $                                | (233   | ) | $ | (273 | ) |
| International                 |   |                             | 337    |   |   | (14 | ) |
| Total operating income (loss) |   | $                                | 104    |   | $ | (287 | ) |

 

 

11

 

----

**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

 

|                    |   | **March31,                        2008** |      |   |   | **December31,2007** |   |
|-------------------------|--------|------------------------------------------|-----------|--------|--------|---------------------|--------|
| Long lived assets:      |   |                                     |      |   |   |                |   |   |   |
|                    |   |                                     |      |   |   |                |   |   |   |
| United States           |   | **$**                                    | **3,648** |   |   |                | $      | 3,706 |   |
| International           |   |                                     | **295**   |   |   |                |   | 268 |   |
| Total long lived assets |   | **$**                                    | **3,943** |   |   |                | $      | 3,974 |   |

 

International revenues disclosed above were based upon revenues reported by        the Company’s nine international subsidiaries. The Japan subsidiary contributed 19%        and 18% of the consolidated net revenues of the Company for the three months ended March        31, 2008 and 2007, respectively. The Canadian subsidiary contributed 10% and 8% of the        consolidated net revenues of the Company for the three months ended March 31, 2008 and        2007, respectively. The Australian subsidiary contributed 11% and 9% of the consolidated        net revenues of the Company for the three months ended March 31, 2008 and 2007,        respectively. Each of the remaining foreign subsidiaries contributed less than 7% of the        consolidated net revenues of the Company for the three ended March 31, 2008 and 2007,        respectively.

| **11.** | **Supplemental Balance Sheet                        Information** |
|---------|-------------------------------------------------------------------|

         

|                                                                                       |   | **March 31,****2008** |   | **December 31,                        2007** |   |
|--------------------------------------------------------------------------------------------|--------|-----------------------|--------|----------------------------------------------|--------|
| Accounts receivable, net, consists of the following (in                        thousands): |   |                  |   |                                         |   |   |   |
|                                                                                       |   |                  |   |                                         |   |   |   |
| Trade                                                                                      |   | $                     | 8,935  |                                         | $      | 9,833 |   |
| Unbilled                                                                                   |   |                  | 3,813  |                                         |   | 3,789 |   |
| Non-trade                                                                                  |   |                  | 415    |                                         |   | 289 |   |
|                                                                                       |   |                  | 13,163 |                                         |   | 13,911 |   |
| Less allowance for doubtful accounts                                                       |   |                  | (172   | )                                            |   | (163 | ) |
| Accounts receivable, net                                                                   |   | $                     | 12,991 |                                         | $      | 13,748 |   |

 

 

|                                                                                          |   | **March 31,****2008** |   | **December 31,                        2007** |
|-----------------------------------------------------------------------------------------------|--------|-----------------------|--------|----------------------------------------------|
| Property and equipment, net, consists of the following (in                        thousands): |   |                  |   |                                         |   |   |
|                                                                                          |   |                  |   |                                         |   |   |
| Equipment                                                                                     |   | **$**                 | 6,810  |                                         | $ | 6,781 |
| Furniture and fixtures                                                                        |   |                  | 630    |                                         |   | 625 |
| Leasehold improvements                                                                        |   |                  | 245    |                                         |   | 245 |
| Capitalized software development costs                                                        |   |                  | 1,936  |                                         |   | 1,837 |
|                                                                                          |   |                  | 9,621  |                                         |   | 9,488 |
| Less accumulated depreciation and amortization                                                |   |                  | 8,155  |                                         |   | 7,960 |
| Property and equipment, net                                                                   |   | **$**                 | 1,466  |                                         | $ | 1,528 |

 

 

12

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

 

|                                                                                                           |   | **March 31,****2008** |   | **December 31,**

**2007** |
|----------------------------------------------------------------------------------------------------------------|--------|-----------------------|--------|----------------------------|
| Accrued expenses and other current liabilities consist of                        the following (in thousands): |   |                  |   |                       |   |   |
|                                                                                                           |   |                  |   |                       |   |   |
| Taxes payable                                                                                                  |   | **$**                 | 900    |                       | $ | 664 |
| Accrued accounting and legal expense                                                                           |   |                  | 440    |                       |   | 227 |
| Accrued salaries payable                                                                                       |   |                  | 1,366  |                       |   | 1,304 |
| Other                                                                                                          |   |                  | 2,029  |                       |   | 1,786 |
| Accrued expenses and other current liabilities                                                                 |   | **$**                 | 4,735  |                       | $ | 3,981 |

 

| **12.** | **Foreign Currency Rate Fluctuations** |
|---------|----------------------------------------|

The Company has foreign currency exposure associated with its international        subsidiaries. In both 2008 and 2007, these exposures are primarily concentrated in the        Canadian Dollar, Australian Dollar and Japanese Yen. At March 31, 2008, international        assets totaled $10.1 million and international liabilities totaled $14.2 million.        International revenues for the three months ended March 31, 2008 and 2007 were $10.0        million and $7.0 million, respectively. The international division reported a net income        (loss) of approximately $69,000 and $(118,000) for the three months ended March 31, 2008        and 2007, respectively.

In those        countries where the Company had the greater risk for currency exposure, the total assets        and liab ilities are as follows (in thousands):

 

| **Country** | **Total Assets** | **Total Liabilities** |
|-------------|------------------|-----------------------|
| Canada      | $                | 1,221                 | $ | 897 |
| Australia   |             | 1,873                 |   | 1,396 |
| Japan       |             | 4,093                 |   | 3,765 |

 

| **13.** | **Interest Rate Fluctuations** |
|---------|--------------------------------|

The Company is exposed to market risk related to the variable interest rate        on its lines of credit. At March 31, 2008, the Company’s outstanding lines of credit        totaled approximately $5.0 million, as noted in the table below (in thousands):

| Location      | Variable Interest Rate (1) | Local Currency Amount      | US Dollars Equivalent (2) |
|---------------|----------------------------|----------------------------|---------------------------|
| United States | 6.25%                      |   3,917 USD           | $3,917                    |
| Japan         | 1.88%                      | 90,000 YEN                 | 907                       |
| Canada        | 6.25%                      |     236 CAD | 231                       |
|          |                       |                       | $5,055                    |

         

| (1) | Based on interest rate at March 31, 2008. |
|-----|-------------------------------------------|

| (2) | Based on exchange rate at March 31, 2008. |
|-----|-------------------------------------------|

Based on the 2008 average outstanding borrowings under variable-rate debt, a        one-percentage point increase in interest rates would negatively impact pre-tax earnings        and cash flows for the three months ended March 31, 2008 by approximately        $14,000.

 

13

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

| **14.** | **Recently Issued Accounting Standards** |
|---------|------------------------------------------|

In September 2006, the FASB issued SFAS No. 157, “Fair Value        Measurements” The statement defines fair value, establishes a framework for measuring        fair value in generally accepted accounting principles, and expands disclosures about fair        value measurements. This statement applies under other accounting pronouncements that        require or permit fair value measurements, the FASB having previously concluded in those        accounting pronouncements that fair value is the relevant measurement attribute.        Accordingly, this statement does not require any new fair value measurements. SFAS No. 157        is effective January 1, 2008 for financial assets and liabilities and January 1, 2009 for        non-financial assets and liabilities. There was no material impact from this statement on        our financial condition and results of operations.

 

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option        for Financial Assets and Financial Liabilities – including an amendment of FASB        Statement No. 115” (“SFAS No. 159”), which permits entities to choose to        measure many financial instruments and certain other items at fair value that are not        currently required to be measured at fair value. SFAS No. 159 also establishes presentation        and disclosure requirements designed to facilitate comparisons between entities that choose        different measurement attributes for similar types of assets and liabilities. SFAS No. 159        does not affect any existing accounting literature that requires certain assets and        liabilities to be carried at fair value. SFAS No. 159 does not eliminate disclosure        requirements included in other accounting standards, including requirements for disclosures        about fair value measurements included in SFAS No. 157 and SFAS No. 107, “Disclosures        about Fair Value of Financial Instruments.” SFAS No. 159 is effective as of the        beginning of an entity’s first fiscal year that begins after November 15, 2007. There        was no material impact from this statement on our financial condition and results of        operations.

 

In December 2007, the FASB issued SFAS No. 141(Revised), “Business        Combinations” (“SFAS No. 141(R)”), which replaces SFAS No. 141,        “Business Combinations,” and requires an acquirer to recognize the assets        acquired, the liabilities assumed, and any non-controlling interest in the acquiree at the        acquisition date, measured at their fair values as of that date, with limited exceptions.        This statement also requires the acquirer in a business combination achieved in stages to        recognize the identifiable assets and liabilities, as well as the non-controlling interest        in the acquiree, at the full amounts of their fair values. SFAS No. 141(R) makes various        other amendments to authoritative literature intended to provide additional guidance or to        confirm the guidance in that literature to that provided in this statement. This statement        applies prospectively to business combinations for which the acquisition date is on or        after the beginning of the first annual reporting period beginning on or after December 15,        2008. We expect to adopt this statement on January 1, 2009. SFAS No. 141(R)’s impact        on accounting for business combinations is dependent upon acquisitions after the effective        date.

In December 2007, FASB issued SFAS No. 160, “Non-controlling Interests        in Consolidated Financial Statements,” which amends Accounting Research Bulletin No.        51, “Consolidated Financial Statements,” to improve the relevance,        comparability, and transparency of the financial information that a reporting entity        provides in its consolidated financial statements. SFAS No. 160 establishes accounting and        reporting standards that require the ownership interests in subsidiaries not held by the        parent to be clearly identified, labeled and presented in the consolidated statement of        financial position within equity, but separate from the parent’s equity. This        statement also requires the amount of consolidated net income attributable to the parent        and to the non-controlling interest to be clearly identified and presented on the face of        the consolidated statement of income. Changes in a parent’s ownership interest while        the parent retains its controlling financial interest must be accounted for consistently,        and when a subsidiary is deconsolidated, any retained non-controlling equity investment in        the former subsidiary must be initially measured at fair value. The gain or loss on the        deconsolidation of the subsidiary is measured using the fair value of any non-controlling        equity investment. The statement also requires entities to provide sufficient disclosures        that clearly identify and distinguish between the interests of the parent and the interests        of the non-controlling owners. This statement applies prospectively to all entities that        prepare consolidated financial statements and applies prospectively for fiscal years, and        interim periods within those fiscal years, beginning on or after December 15, 2008. We        don’t believe this statement will impact our financial condition or results of        operations but may impact the format of our financial statements.

 

14

 

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**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

In March 2008, the FASB issued Statement of Financial Accounting Standards        (“SFAS”) No. 161, “Disclosures about Derivative Investments and Hedging        Activities, an amendment of FASB Statement No. 133”, which requires additional        disclosures about the objectives of the derivative instruments and hedging activities, the        method of accounting for such instruments under SFAS No. 133 and its related        interpretations, and a tabular disclosure of the effects of such instruments and related        hedged items on our financial position, financial performance, and cash flows. SFAS No. 161        is effective for us beginning January 1, 2009. We are currently assessing the potential        impact, if any, that adoption of SFAS No. 161 may have in our financial        statements.

| **15.** | **Taxes** |
|---------|-----------|

In July 2006, the FASB issued FASB interpretation No. 48 (“FIN        48”), *Accounting for Uncertainty in Income Taxes*. FIN 48 prescribes detailed        guidance for the financial statement recognition, measurement and disclosure of uncertain        tax positions recognized in an enterprise’s financial statements in accordance with        FASB Statement No. 109, *Accounting for Income Taxes*. Tax positions must meet a        more-likely-than-not recognition threshold at the effective date to be recognized upon the        adoption of FIN 48 and in subsequent periods. FIN 48 is effective for fiscal years        beginning after December 15, 2006 and the provisions of FIN 48 will be applied to all tax        positions upon initial adoption of the Interpretation. FIN 48 requires that interest and        penalties that the tax law requires to be paid on the underpayment of taxes should be        accrued on the difference between the amount claimed or expected to be claimed on the        return and the tax benefit recognized in the financial statements. The Company’s        policy is to record this interest and penalties as additional tax expense.

SPAR and its subsidiaries file numerous consolidated, combined and separate        company income tax returns in the U.S. Federal jurisdiction and in many U.S. state and        foreign jurisdictions. With few exceptions, SPAR is subject to U.S. Federal, state and        local income tax examinations for the years 2004 through the present. However, tax        authorities have the ability to review years prior to the position taken by the Company to        the extent that SPAR utilized tax attributes carried forward from those prior        years.

The Company adopted the provisions of FASB Interpretation No. 48 Accounting        for uncertainty in Income Taxes, on January 1, 2007. In management’s view, the        Company’s tax reserves at March 31, 2008, totaling $182,000 for potential domestic        state tax and federal tax liabilities were sufficient to meet the requirements of FIN 48.        The reserve for potential international tax liabilities totaling $180,000 was also deemed        sufficient to satisfy FIN 48. For the first quarter of 2008 the reserve for FIN 48        exposures increased $23,000.

Details of the Company’s FIN 48 reserves at March 31, 2008 are        outlined in the table below (in thousands):

 

|                 |   | Taxes  |    | Interest |   | Penalty |   | Total Tax Liability |
|----------------------|--------|--------|---------|----------|--------|---------|--------|---------------------|
| Domestic             |   |   |    |     |   |    |   |                |   |   |   |   |
| State                |   | $      | 116     |     | $      | 43      |   | $                   | 23 |   | $ | 182 |
| Federal              |   |   | — |     |   | — |   |                | — |   |   | — |
| International        |   |   | 125     |     |   | 32      |   |                | 23 |   |   | 180 |
| Total FIN 48 Reserve |   | $      | 241     |     | $      | 75      |   | $                   | 46 |   | $ | 362 |

 

| **16.** | **Preferred Stock** |
|---------|---------------------|

On March 28, 2008, SGRP filed a “Certificate of Designation of Series        “A” Preferred Stock of SPAR Group, Inc.” (the “Preferred        Designation”), creating a series of 3,000,000 shares of Preferred Stock designated as        “Series A Preferred Stock” with a par value of $0.01 per share (the        “Preferred Stock”), which designation had been approved by SGRP’s Board        of Directors (the “Board”) on March 27, 2008.

The Preferred Designation provides that each share of Preferred Stock is to        be issued at a value equal to the closing bid price of SGRP’s common stock (the        “Common Stock”) immediately preceding the day SGRP and the purchaser(s) entered        into a binding commitment to issue and acquire Preferred Stock. The Preferred Stock        will

 

15

 

----

**SPAR        Group, Inc.**

**Notes        to Consolidated Financial Statements**

**(unaudited) (continued)**

 

accrue        a 10% dividend payable in either cash (when permitted by law and Nasdaq and authorized by        the Board) or common stock when authorized by the Board (valued at the current market price        of a share of common stock at the time paid but not less that the initial purchase price of        a share of such preferred). All accrued and unpaid dividends and potential dividends must        be paid to the holders of the Preferred Stock before any dividends can be paid to the        holders of the Common Stock. The face value (purchase price) of the Preferred Stock and all        accrued and unpaid dividends and potential dividends must be paid to the holders of the        Preferred Stock before any liquidating distributions can be made to the holders of the        Common Stock. The consent of all of the holders of the Preferred Stock is required for SGRP        to make any changes in the Preferred Designation or issue any other class of preferred        stock senior to or pari passu with the Preferred Stock.

The Preferred Stock is redeemable, at the discretion of the Corporation        only, for a cash redemption price equal to its face value (purchase price) plus all accrued        and unpaid dividends and potential dividends. Each share of Preferred Stock is convertible        into one share of Common Stock at the rate of one to one at the option of the holder, which        option would be exercisable for so long as the Preferred Stock is outstanding (even if the        Corporation has elected to redeem). Such a conversion also requires that the Corporation        satisfy all accrued and unpaid dividends and potential dividends at the same time. The        Preferred Stock votes with the Common Stock (no class voting) and have voting rights equal        to one vote per share of Preferred Stock.

On March 27, 2008, the Board also authorized the issuance of up to 530,000        shares of Preferred Stock to its affiliates, Robert G. Brown and William H. Bartels (who        are officers, directors and significant shareholders of SGRP - see Note 6, Related-Party        Transactions) in return for (among other things) cash or the reduction of an equivalent        debt owed by the Company to SPAR Management Services, Inc. (“SMSI”), an        affiliate of SGRP wholly owned by Mr. Brown and Mr. Bartels. On March 31, 2008,        the Corporation, Mr. Brown, Mr. Bartels and SMSI entered into an agreement to        issue and purchase 89,286 shares of Preferred Stock at $1.12 per share (the closing bid        price of SGRP’s Common Stock for the most recent trading day available immediately        preceding such agreement date). Pursuant to that agreement, SGRP’s payable to SMSI        was reduced by $100,000, and SGRP issued 54,564 shares of Preferred Stock to Mr. Brown        and 34,722 shares of Preferred Stock to Mr. Bartels, all effective March 31, 2008.        SGRP’s Audit Committee reviewed and unanimously approved this transaction, including        the terms of the Preferred Stock and the affiliated relationship of the parties. The offer        and sale of such Preferred Stock have not been registered under the Securities Act or other        securities laws, as they were a non-public offer and sale made in reliance upon (among        other things) Section 4 (2) of the Securities Act.

| **17.** | **Reclassifications** |
|---------|-----------------------|

Certain reclassifications have been made to the 2007 financial statements to        conform with the 2008 presentation.

         

16

 

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**SPAR        Group, Inc.**

 

| **Item 2.** | **Management’s Discussion and Analysis of Financial                        Condition, Results of Operations, Liquidity and Capital                        Resources** |
|-------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

**Forward-Looking Statements**

Statements contained in this Quarterly Report on Form 10-Q for the three        months ended March 31, 2008 (this “Quarterly Report”), of SPAR Group, Inc.        (“SGRP” , and together with its subsidiaries, the “SPAR Group” or        the “Company “), include “forward-looking statements” (within the        meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities        Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the        “Exchange Act”, and together with the Securities Act, the “Securities        Laws”) that are based on the Company’ s best estimates. In particular and        without limitation, this “Management ‘s Discussion and Analysis of Financial        Condition, Results of Operations, Liquidity and Capital Resources” contains such        forward-looking statements, which are included in (among other places) the discussions        respecting net revenues from significant clients, significant chain work and international        joint ventures, federal taxes and net operating loss carryforwards, commencement of        operations and future funding of international joint ventures, credit facilities and        covenant compliance, cost savings initiatives, liquidity and sources of cash availability.        Forward-looking statements involve known and unknown risks, uncertainties and other factors        that could cause the Company’s actual results, performance and achievements, whether        expressed or implied by such forward-looking statements, to not occur, to not be realized        or to be less than expected. Such forward-looking statements generally are based upon the        Company’ s best estimates of future results, performance or achievement, current        conditions and the most recent results of operations. Forward-looking statements may be        identified by the use of forward-looking terminology such as “may”,        “will”, “likely”, “expect”, “intend”,        “believe”, “estimate”, “anticipate”,        “continue” or similar terms, variations of those terms or the negative of those        terms. You should carefully consider such risks, uncertainties and other information,        disclosures and discussions containing cautionary statements or identifying important        factors that could cause actual results to differ materially from those provided in the        forward-looking statements.

You should carefully review this management discussion and analysis together        with the risk factors and other cautionary statements contained in the Company’s        Annual Report on Form 10-K for the fiscal year ended December 31, 2007, as filed with the        Securities and Exchange Commission (the “SEC”) on March 31, 2008 (the        “Company’s Annual Report for 2007 on Form 10-K”), including the risk        factors described in Item 1A of that annual report under the caption “Certain Risk        Factors” and the changes (if any) in such risk factors described in Item IA of Part        II of this Quarterly Report (collectively, “Risk Factors” ), as well as the        cautionary statements contained in this Quarterly Report. All forward-looking statements        attributable to the Company or persons acting on its behalf are expressly qualified by the        Risk Factors and other cautionary statements in this Quarterly Report and in the        Company’ s Annual Report for 2007 on Form 10-K, which are incorporated by reference        into this Quarterly Report. Although the Company believes that its plans, intentions and        expectations reflected in or suggested by such forward-looking statements are reasonable,        the Company cannot assure that such plans, intentions or expectations will be achieved in        whole or in part, that it has identified all potential risks or that it can successfully        avoid or mitigate such risks in whole or in part. The Company undertakes no obligation to        publicly update or revise any forward-looking statements, or any Risk Factors or other        cautionary statements, whether as a result of new information, future events or otherwise,        except as required by law.

**Overview**

Today the Company operates in 13 countries whose population represents        approximately 48% of the total world population. The Company’s operations are        currently divided into two divisions: the Domestic Merchandising Services Division and the        International Merchandising Services Division. The Domestic Merchandising Services Division        provides merchandising and marketing services, in-store event staffing, product sampling,        RFID services, technology services and marketing research to manufacturers and retailers in        the United States. The various services are primarily performed in mass merchandisers,        electronics store chains, drug store chains and convenience and grocery stores. The        International Merchandising Services Division was established in July 2000 and through its        subsidiaries, the Company currently provides similar merchandising and marketing services        in Japan, Canada, Turkey, South Africa, India, Romania, China, Lithuania, Latvia, Estonia,        Australia and New Zealand.

 

17

 

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**SPAR        Group, Inc.**

 

***Domestic Merchandising Services Division***

The Company’s Domestic Merchandising Services Division provides        nationwide merchandising and other marketing services primarily on behalf of consumer        product manufacturers and retailers at mass merchandisers, electronics store chains, drug        store chains and grocery stores. Included in its clients are home entertainment, general        merchandise, health and beauty care, consumer goods and food product companies in the        United States.

Merchandising and marketing services primarily consist of regularly        scheduled dedicated routed services and special projects provided at the store level for a        specific retailer or single or multiple manufacturers or distributors. Services also        include stand-alone large-scale implementations. These services may include sales enhancing        activities such as ensuring that client products authorized for distribution are in stock        and on the shelf, adding new products that are approved for distribution but not presently        on the shelf, setting category shelves in accordance with approved store schematics,        ensuring that shelf tags are in place, checking for the overall salability of client        products and setting new and promotional items and placing and/or removing point of        purchase and other related media advertising. Specific in-store services can be initiated        by retailers or manufacturers or distributors, and include new store openings and existing        store resets, re-merchandising, remodels and category implementations, new product        launches, special seasonal or promotional merchandising, focused product support and        product recalls. The Company also provides in-store product demonstrations, in-store        product sampling and other in-store event staffing services, RFID services, technology        services and marketing research services.

***International Merchandising Services Division***

In July 2000, the Company established its International Merchandising        Services Division, operating through a wholly owned subsidiary, SPAR Group International,        Inc. (“SGI”), to focus on expanding its merchandising and marketing services        business worldwide. Currently, the Company’s international subsidiaries are as        follows:

| HeadquarterLocation  | Ownership Percentage | DateEstablished |
|----------------------|----------------------|-----------------|
| Osaka, Japan         | 50%                  | May 2001        |
| Toronto, Canada      | 100%                 | June 2003       |
| Istanbul, Turkey     | 51%                  | July 2003       |
| Durban, South Africa | 51%                  | April 2004      |
| New Delhi, India     | 51%                  | April 2004      |
| Bucharest, Romania   | 51%                  | December 2004   |
| Hong Kong, China     | 50%                  | February 2005   |
| Siauliai, Lithuania  | 51%                  | September 2005  |
| Melbourne, Australia | 51%                  | April 2006      |

 

**Critical Accounting Policies**

There were no material changes during the three months ended March 31, 2008,        to the Company’s critical accounting policies as reported in the Company’s        Annual Report for 2007 on Form 10-K.

 

18

 

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**SPAR        Group, Inc.**

 

**Results        of Operations**

**Three months ended March 31, 2008, compared to three months ended        March 31, 2007**

The following table sets forth selected financial data and data as a        percentage of net revenues for the periods indicated (in thousands, except percent        data).

 

|                                                                          |   | **Three Months Ended March 31,** |   |
|-------------------------------------------------------------------------------|--------|----------------------------------|--------|
|                                                                          |   | **2008**                         |   | **2007** |   | **Increase/** |   |
|                                                                          |   | **$**                            |   | **%** |   | **$** |   | **%** |   | **(decrease)** |   |
| Net revenues                                                                  |   | $                                | 17,454 |   | 100.0 | % | $ | 15,413 |   | 100.0 | % | 13.2 | % |
| Cost of revenues                                                              |   |                             | 12,484 |   | 71.5 |   |   | 10,498 |   | 68.1 |   | 18.9 |   |
| Selling, general & administrative expense                                 |   |                             | 4,658  |   | 26.7 |   |   | 5,005 |   | 32.5 |   | (7.0 | ) |
| Depreciation and amortization                                                 |   |                             | 208    |   | 1.2 |   |   | 197 |   | 1.3 |   | 5.5 |   |
| Interest expense                                                              |   |                             | 81     |   | 0.5 |   |   | 89 |   | 0.6 |   | (8.8 | ) |
| Other expense                                                                 |   |                             | 43     |   | 0.3 |   |   | 21 |   | 0.1 |   | 110.5 |   |
| Loss before income tax provision and minority                        interest |   |                             | (20    | ) | (0.1 | ) |   | (397 | ) | (2.6 | ) | (95.0 | ) |
| Provision for income taxes                                                    |   |                             | 164    |   | 0.9 |   |   | 67 |   | 0.4 |   | 144.1 |   |
| Loss before minority interest                                                 |   |                             | (184   | ) | (1.1 | ) |   | (464 | ) | (3.0 | ) | (60.2 | ) |
| Minority interest                                                             |   |                             | 66     |   | 0.4 |   |   | 45 |   | 0.3 |   | 48.1 |   |
| Net loss                                                                      |   | $                                | (250   | ) | 1.4 | % | $ | (509 | ) | (3.3 | )% | (50.8 | )% |

 

**Net        Revenues**

Net revenues for the three months ended March 31, 2008, were $17.5 million,        compared to $15.4 million for the three months ended March 31, 2007, an increase of $2.1        million or 13.2%.

International net revenues totaled $10.0 million for the three months ended        March 31, 2008, compared to $7.0 million for the same period in 2007, an increase of $3.0        million or 43.4%. The increase in 2008 international net revenues was due to net revenue        increases from Australia $618,000, India $515,000, Turkey $287,000, Canada $548,000, Japan        $551,000, South Africa $123,000 and China $409,000, partially offset by net revenue        decreases in Romania $16,000 and Lithuania $5,000.

Domestic net revenues totaled $7.5 million in the three months ended March        31, 2008, compared to $8.4 million for the same period in 2007. Domestic net revenues        decreased $900,000 primarily as a result of the loss of a significant client. Approximately        9% and 12% of the Company’s net revenues for the three months ended March 31, 2008        and 2007, respectively, resulted from merchandising services performed for clients at a        leading domestic electronics chain. Services performed for these clients in that        electronics chain also accounted for approximately 5% and 10% of the Company’s        accounts receivable at March 31, 2008 and December 31, 2007, respectively. The        Company’s contractual relationships or agreements are with various clients and not        that retail electronics chain.

One client accounted for 7% and 6% of the Company’s net revenues for        the three months ended March 31, 2008 and 2007, respectively. The client accounted for        approximately 6% and 3% of the Company’s accounts receivable at March 31, 2008 and        December 31, 2007, respectively.

The loss of the ability to provide merchandising and marketing services in        the above and/or other chains or the loss of this client or other clients could        significantly decrease the Company’s revenues and could have a material adverse        effect on the Company’s business, results of operations and financial        condition.

**Cost of        Revenues**

Cost of revenues consists of in-store labor and field management wages,        related benefits, travel and other direct labor-related expenses. Cost of revenues was        71.5% of net revenues for the three months ended March 31, 2008 and 68.1% for the three        months ended March 31, 2007. The increase in cost of revenues as a percent of net revenues        of 3.4% is primarily a result of international operations.

 

19

 

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**SPAR        Group, Inc.**

 

Domestic cost of revenues was 67.4% of net revenues for the        three months ended March 31, 2008 and 67.3% of net revenues for the three months ended        March 31, 2007. In the first quarter of 2008, SPAR Management Services, Inc.        (“SMS”), an affiliate of the Company, forgave $100,000 of debt owed by the        Company for field management expenses. Excluding this transaction, domestic cost of revenue        as a percent of net revenues was 68.7%, an increase of 1.4% directly attributed to a mix in        higher cost project work in the quarter ended March 31, 2008 compared to the same period in        2007.

Internationally, the cost of revenues was 74.6% of net revenues for the        three months ended March 31, 2008 and 69.0% of net revenues for the three months ended        March 31, 2007. The international cost of revenues percentage increase was primarily        attributed to higher cost of revenues as a percentage of net revenues in Canada, China and        Turkey.

Approximately 89% and 87% of the Company’s domestic cost of revenues        in the three months ended March 31, 2008 and 2007, respectively, resulted from in-store        independent contractor and field management services purchased from certain of the        Company’s affiliates, SPAR Marketing Services, Inc. (“SMS”), and SPAR        Management Services, Inc. (“SMSI”), respectively (see Note 6 - Related-Party        Transactions).

**Selling, General and Administrative Expenses**

Selling, general and administrative expenses include corporate overhead,        project management, information technology, executive compensation, human resources, and        legal and accounting expenses. Selling, general and administrative expenses decreased by        $347,000, or 7.0%, for the three months ended March 31, 2008, to $4.7 million compared to        $5.0 million for the same period in 2007.

International selling, general and administrative expenses totaled $2.2        million for the three months ended March 31, 2008, compared to $2.1 million for the same        period in 2007. The $44,000 increase in international selling, general and administrative        expenses was primarily due to Japan $132,000 and Canada $24,000, partially offset by        decreased expenses from Australia of $126,000. All other international subsidiaries        resulted in a net increase of $14,000.

Domestic selling, general and administrative expenses totaled $2.5 million        for the three months ended March 31, 2008, compared to $2.9 million for the same period in        2007. The decrease in domestic selling, general and administrative expenses of $391,000 was        primarily due to a decrease in payroll related expenses of $179,000 and reduced building        related expenses of $149,000 ($73,000 was related to a one-time charge in 2007 for        relocation expenses). In addition, there was a reduction in operating lease expense for        equipment provided by the Company’s affiliate SMS totaling $63,000 (see Note 6,        Related-Party Transactions).

**Depreciation and Amortization**

Depreciation and amortization charges for the three months ended March 31,        2008, totaled $208,000 and were comparable to $197,000 for the same period in 2007.          

**Interest Expense**

Interest expense totaled $81,000 and $89,000 for the three months ended        March 31, 2008 and 2007, respectively.

**Other        Expense**

Other expense totaled $43,000 and $21,000 for the three months ended March        31, 2008 and 2007, respectively.

**Income        Taxes**

Income taxes for the three months ended March 31, 2008 were approximately        $164,000 for taxes due on international profits and minimum domestic state taxes. Income        taxes for the three months ended March 31, 2007 were approximately $67,000 for minimum        domestic state taxes. There were no tax provisions for federal tax as the Company reported        a loss for the three months ended March 31, 2008, and provides a valuation allowance        against any benefits from operating loss carryforwards.

 

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**SPAR        Group, Inc.**

 

**Minority Interest**

Minority interest of approximately $66,000 and $45,000 resulted from the net        operating profits of the Company’s 51% owned subsidiaries and 50% owned subsidiaries        for the three months ended March 31, 2008 and 2007, respectively.

**Net        Loss**

The Company had a net loss of $250,000 for the three months ended March 31,        2008, or $0.01 per diluted share, compared to a net loss of $509,000, or $0.03 per diluted        share, for the corresponding period last year.

***Liquidity and Capital Resources***

In the three months ended March 31, 2008 the Company had a net loss of        $250,000.

Net cash provided by operating activities for the three months ended March        31, 2008 was $2.4 million compared to $3.0 million for the prior year. The decrease in net        cash provided by operating activities was primarily due to a smaller decrease in total        dollars in accounts receivable, an increase in prepaid expenses and a decrease in accrued        expenses due affiliates. This was partially offset by a larger increase in accounts payable        and accrued expenses in 2008 as compared to the first quarter of 2007.

Net cash used in investing activities for the three months ended March 31,        2008 and March 31, 2007, was approximately $146,000 and $346,000, respectively. The        decrease in net cash used in investing activities was a result of decreased purchases of        property and equipment.

Net cash used in financing activities for the three months ended March 31,        2008 and 2007, was approximately $1.1 million and $1.7 million, respectively. The decrease        in net cash used in financing activities was primarily a result of reduced net payments on        lines of credit.

The above activity resulted in an increase in cash and cash equivalents for        the three months ended March 31, 2008, of approximately $1.2 million.

At March 31, 2008, the Company had negative working capital of $422,000, as        compared to a negative $449,000 at December 31, 2007. The Company’s current ratio was        0.98 at March 31, 2008, and 0.97 at December 31, 2007.

In January 2003, the Company (other than SGRP’s foreign subsidiaries)        and Webster Business Credit Corporation, then known as Whitehall Business Credit        Corporation (“Webster”), entered into the Third Amended and Restated Revolving        Credit and Security Agreement (as amended, collectively, the “Credit        Facility”). The Credit Facility provides for a $7.0 million revolving line of credit        maturing on January 23, 2009. In March 2007 the credit facility was further amended to,        among other things, delay the Minimum Fixed Coverage ratio until the fourth quarter 2007,        establish an EBITDA covenant and increase the interest rate by .25% beginning March 28,        2007. In May 2007 the credit facility was amended to provide for an availability reserve of        $500,000. In August 2007 the credit facility was further amended to reduce the availability        reserve to $250,000 until November 30, 2007. On November 16, 2007 Webster amended the        credit facility to extend the availability reserve of $250,000 indefinitely and to reduce        the revolving line of credit to $5.0 million. Borrowings are based upon a borrowing base        formula as defined in the agreement (principally 85% of “eligible” domestic        accounts receivable less certain reserves). The Credit Facility is secured by all of the        assets of the Company and its domestic subsidiaries. The Credit Facility also limits        certain expenditures, including, but not limited to, capital expenditures and other        investments.   In addition, Mr. Robert G. Brown, a Director, the Chairman        and a major stockholder of SGRP, and Mr. William H. Bartels, a Director, the Vice        Chairman and a major stockholder of SGRP, have provided personal guarantees of the Credit        Facility totaling $1.0 million.

 

21

 

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**SPAR        Group, Inc.**

 

 

The basic interest rate under the Credit Facility is Webster’s        “Alternative Base Rate” plus 1.0% per annum (a total of 6.25% per annum at        March 31, 2008), which automatically changes with each change made by Webster in such        Alternative Base Rate.  The Company at its option, subject to certain conditions, may        elect to have portions of its loans under the Credit Facility bear interest at various        LIBOR rates plus 3.25% per annum based on fixed periods of one, two, three or nine months.        The actual average interest rate under the Credit Facility was 7.06% per annum for the        three months ended March 31, 2008.

The domestic revolving loan balances outstanding under the Credit Facility        were $3.9 million and $4.9 million at March 31, 2008 and December 31, 2007, respectively.        As of March 31, 2008, the SPAR Group had unused availability under the Credit Facility of        $120,000 out of the remaining maximum $1.1 million unused revolving line of credit after        reducing the borrowing base by outstanding loans.

Because of the requirement to maintain a lock box arrangement with Webster        and Webster’s ability to invoke a subjective acceleration clause at its discretion,        borrowings under the Credit Facility are classified as current at March 31,2008 and        December 31, 2007, in accordance with EITF 95-22,*Balance Sheet        Classification of Borrowings Outstanding Under Revolving Credit Agreements That Include        Both a Subjective Acceleration Clause and a Lock-Box        Agreement*.

The Company was not in violation of any covenants at March 31, 2008, and        does not expect to be in violation at future measurement dates. However, there are no        assurances that the Company will not be in violation of certain covenants in the future.        Should the Company be in violation, there are no assurances that Webster will issue such        waivers in the future.

The Japanese subsidiary, SPAR FM Japan, Inc., has line of credit agreements        totaling 100 million Yen, or approximately $1.0 million (based upon the exchange rate at        March 31, 2008). The outstanding balances under the line of credit agreements were 90        million Yen, or approximately $907,000 at March 31, 2008 and 90 million Yen, or        approximately $802,000 at December 31, 2007 (based upon the exchange rate at those dates).        The average interest rate was 1.88% per annum for the three months ended March 31, 2008. In        addition, the Japan subsidiary had cash balances totaling 209 million Yen, or approximately        $2.1 million and 137 million Yen, or approximately $1.2 million at March 31, 2008 and        December 31, 2007 respectively (based upon the exchange rates at those dates).

The Australian subsidiary, SPARFACTS Australia Pty. Ltd., has a revolving        line of credit arrangement with Oxford Funding Pty. Ltd. for $1.1 million (Australian), or        approximately $1.0 million (based upon the exchange rate at March 31, 2008). There was        no outstanding balance under the line of credit agreement at March 31, 2008 and a        balance of $315,000 (Australian), or approximately $276,000 at December 31, 2007 (based        upon the exchange rate at that date). The average interest rate was 12.6% per annum for the        three months ended March 31, 2008.

SPAR Canada Company, a wholly owned subsidiary, has a credit agreement with        Royal Bank of Canada providing for a Demand Operating Loan for a maximum borrowing of $1.0        million (Canadian), or approximately $978,000 (based upon the exchange rate at March 31,        2008). The Demand Operating Loan provides for borrowings based upon a borrowing base        formula as defined in the agreement (principally 75% of eligible accounts receivable less        certain deductions). The outstanding balances under the line of credit agreement were        $236,000 (Canadian), or approximately $231,000 and $140,000 (Canadian), or approximately        $143,000 at March 31, 2008 and December 31, 2007, respectively (based upon the exchange        rate at those dates). The average interest rate was 6.25% per annum for the three months        ended March 31, 2008.

The Company’s international business model is to partner with local        merchandising companies and combine the Company’s proprietary software and expertise        in the merchandising and marketing services business with their partner’s knowledge        of the local market. In 2001, the Company established its first subsidiary in Japan and has        continued this strategy. As of this filing, the Company is currently operating in 13        countries and has 9

 

22

 

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**SPAR        Group, Inc.**

 

international subsidiaries. Certain of these subsidiaries are profitable,        while others are operating at a loss. In the event of continued losses, the Company may be        required to provide additional cash infusions into those subsidiaries with        losses.

Management believes that based upon the Company’s existing credit        facilities, projected results of operations and other financing available to the Company        (including amounts due to affiliates), sources of cash availability should be sufficient to        support ongoing operations over the next twelve months. However, continued losses, delays        in collection of receivables due from any of the Company’s major clients, or a        significant reduction in business from such clients could have a material adverse effect on        the Company’s cash resources and its ongoing ability to fund operations.

**Certain        Contractual Obligations**

The following table contains a summary of certain of the Company’s        contractual obligations by category as of March 31, 2008 (in thousands).

| **Contractual Obligations** | **Period in****which payments are                        due** |
|-----------------------------|----------------------------------------------------------------|
| Total                       | Less than 1 year                                               | 1-3 years | 3-5 years | More than 5 years |
| Credit Facilities           | $ 5,055                                                        | $ 5,055 | $       – | $      – | $ – |
| Capital Lease Obligations   | 486                                                            | 223 | 263 | – | – |
| Operating Lease Obligations | 3,414                                                          | 713 | 1,957 | 744 | – |
| Total                       | $ 8,955                                                        | $ 5,991 | $ 2,220 | $  744 | $ – |

 

**Item 3. Quantitative and Qualitative Disclosures        about Market Risk**

The Company’s accounting policies for financial instruments and        disclosures relating to financial instruments require that the Company’s consolidated        balance sheets include the following financial instruments: cash and cash equivalents,        accounts receivable, accounts payable and lines of credit. The Company carries current        assets and liabilities at their stated or face amounts in its consolidated financial        statements, as the Company believes those amounts approximate the fair value for these        items because of the relatively short period of time between origination of the asset or        liability and their expected realization or payment. The Company monitors the risks        associated with asset and liability positions, as well as interest rates. The        Company’s investment policy objectives require the preservation and safety of the        principal, and the maximization of the return on investment based upon its safety and        liquidity objectives.

The Company is exposed to market risk related to the variable interest rate        on its lines of credit. At March 31, 2008, the Company’s outstanding lines of        credit totaled $5.0 million, as noted in the table below (in thousands):

| Location      | Variable Interest Rate (1) | Local Currency Amount | US Dollars Equivalent (2) |
|---------------|----------------------------|-----------------------|---------------------------|
| United States | 6.25%                      | 3,917 USD             |                           | $3,917 |
| Japan         | 1.88%                      | 90,000 YEN            |                           | 907 |
| Canada        | 6.25%                      | 236 CAD               |                           | 231 |
|          |                       |                  | $5,055                    |

         

| (1) | Based on interest rate at March 31,                        2008**.** |
|-----|----------------------------------------------------------------------|

| (2) | Based on exchange rate at March 31, 2008. |
|-----|-------------------------------------------|

Based on the 2008 average outstanding borrowings under variable-rate debt, a        one-percentage point increase in interest rates would negatively impact pre-tax earnings        and cash flows for the three months ended March 31, 2008 by approximately        $14,000.

 

23

 

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**SPAR        Group, Inc.**

 

The Company has foreign currency exposure associated with its international        subsidiaries. In both 2008 and 2007, these exposures are primarily concentrated in the        Canadian Dollar, Australian Dollar and Japanese Yen. At March 31, 2008, international        assets totaled $10.1 million and international liabilities totaled $14.2 million.        International revenues for the three months ended March 31, 2008 and 2007 were $10.0        million and $7.0 million, respectively. The international division reported a net income        (loss) of approximately $69,000 and $(118,000) for the three months ended March 31, 2008        and 2007, respectively.

In those countries where the Company had the greater risk for currency        exposure, the total assets and liabilities are as follows (in thousands):

| **Country** | **Total Assets** | **Total Liabilities** |
|-------------|------------------|-----------------------|
| Canada      | $                | 1,221                 | $ | 897 |
| Australia   |             | 1,873                 |   | 1,396 |
| Japan       |             | 4,093                 |   | 3,765 |

 

| **Item 4.**  **Controls and                        Procedures** |
|---------------------------------------------------------------------------|

The Company’s Chief Executive Officer and Chief Financial Officer        evaluated the effectiveness of the Company’s disclosure controls and procedures (as        defined in Exchange Act Rules 13a-14 and 15d-14) as of the end of the period covering this        report. Based on this evaluation, the Chief Executive Officer and Chief Financial Officer        concluded that the Company’s disclosure controls and procedures are effective to        provide reasonable assurance that information required to be disclosed by the Company in        the reports that it files or submits under the Exchange Act is recorded, processed,        summarized and reported within the time periods specified by the Securities and Exchange        Commission’s rules and forms.

There were no significant changes in the Company’s internal controls        or in other factors that could significantly affect these controls during the three months        covered by this report or from the end of the reporting period to the date of this Form        10-Q.

The Company has established a plan, documented and tested its domestic        internal controls over financial reporting required by Section 404 of the Sarbanes-Oxley        Act of 2002 and has developed a plan to document and test its internal controls as they        pertain to its material international subsidiaries.

 

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**SPAR        Group, Inc.**

 

**PART        II: OTHER INFORMATION**

| **Item 1.**   | **Legal Proceedings** |
|-------------------------|-----------------------|

Safeway Inc. (“Safeway”) filed a Complaint against PIA        Merchandising Co., Inc. (“PIA Co.”), a wholly owned subsidiary of SPAR Group,        Inc. (“SGRP”), Pivotal Sales Company (“Pivotal”), a wholly owned        subsidiary of PIA Co., and SGRP in Alameda Superior Court, case no. 2001028498 on October        24, 2001. Safeway claims, as subsequently amended, alleged causes of action for breach of        contract and breach of implied contract. PIA Co. and Pivotal filed cross-claims against        Safeway on or about March 11, 2002, and amended them on or about October 15, 2002, alleging        causes of action by PIA Co. and Pivotal against Safeway for breach of contract,        interference with economic relationship, unfair trade practices and unjust enrichment.        Trial commenced in March 2006.

On May 26, 2006, the jury in this case returned a verdict resulting in a net        award of $1,307,700 to Pivotal, a SGRP subsidiary. This net award is to be paid by Safeway        and resulted from separate jury findings that awarded damages to those SGRP subsidiaries on        certain claims and damages to Safeway on other claims. In particular, the jury awarded        damages to Pivotal of $5,760,879 for Safeway’s interference with Pivotal’s        contractual relationships with third party manufacturers and also awarded $782,400 to        Pivotal and PIA for Safeway’s breach of contract with those SGRP subsidiaries. The        jury awarded damages to Safeway of $5,235,579 for breach of contract by SGRP and those SGRP        subsidiaries. Judgment was entered in favor of Pivotal in September 2006 for $1,307,700.        Both parties filed post trial motions but all post trial motions were denied. Notices of        Appeal were thereafter filed by both Safeway and Pivotal. Pivotal/SGRP is seeking to have        Safeway’s judgment overturned, thereby increasing the award to Pivotal by over $5        million. Safeway has asked for a new trial on the judgment found against it. The appellate        process is expected to take fourteen to twenty four months to complete. In the interim, the        court ordered a mediation of the dispute, which took place but was not successful in        resolving the matter. Accordingly, the appeals will proceed. The Company has recorded the        net $1.3 million settlement award in other assets.

Briefing on the appeals commenced in the first quarter of 2008. It is        expected that opposition and reply briefs will be completed by July, 2008. Thereafter, an        oral argument hearing date will be assigned by the court of appeal.

In addition to the above, the Company is a party to various other legal        actions and administrative proceedings arising in the normal course of business. In the        opinion of Company’s management, disposition of these other matters are not        anticipated to have a material adverse effect on the financial position, results of        operations or cash flows of the Company.

| **Item 1A.**   | **Risk Factors** |
|--------------------------|------------------|

The Company’s Annual Report for 2007 on Form 10-K describes various        risk factors applicable to the Company and its businesses in Item 1 under the caption        “Certain Risk Factors”, which risk factors are incorporated by reference into        this Quarterly Report. There have been no material changes in the Company’s risk        factors since the Company’s Annual Report for 2007 on Form 10-K.

| **Item 2.**   | **Unregistered Sales of Equity Securities and Use of                        Proceeds** |
|-------------------------|----------------------------------------------------------------------------------------|

Item 2(a): Not applicable

Item 2(b): Not applicable

Item 2(c): Not applicable

 

25

 

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**SPAR        Group, Inc.**

 

| **Item 3.**   | **Defaults upon Senior Securities** |
|-------------------------|-------------------------------------|

Item 3(a): Defaults under Indebtedness: None.

Item 3(b): Defaults under Preferred Stock: Not applicable.

| **Item 4.**   | **Submission of Matters to a Vote of Security                        Holders** |
|-------------------------|--------------------------------------------------------------------------------|

Not applicable.

| **Item 5.**   | **Other Information** |
|-------------------------|-----------------------|

Not applicable.

| **Item 6.**   | **Exhibits** |
|-------------------------|--------------|

|  | 10.1 | Series A                    Preferred Stock Subscription Agreement dated as of March 31, 2008 by and among                    SPAR Group, Inc., each of Robert G. Brown and William H. Bartels and SPAR                    Management Services, Inc., as filed herewith.                                  |
|--|------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | 10.2 | Debtor                    Finance Agreement dated as of May 24, 2006 by and among Bendingo Bank Limited                    ACN and Sparfacts Pty Ltd. together with  Bendingo Bank Limited ACN                    Standard Terms and Conditions, as filed herewith.                        |
|  | 31.1 | Certification of the CEO pursuant to 18 U.S.C. Section                        1350 adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, as                        filed herewith.                                                                                                           |
|  | 31.2 | Certification of the CFO pursuant to 18 U.S.C. Section                        1350 adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, as                        filed herewith.                                                                                                           |
|  | 32.1 | Certification of the CEO pursuant to 18 U.S.C. Section                        1350 adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as                        filed herewith.                                                                                                           |
|  | 32.2 | Certification of the CFO pursuant to 18 U.S.C. Section 1350                        adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as filed                        herewith.                                                                                                                     |

 

26

 

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**SPAR        Group, Inc.**

 

**SIGNATURES**

Pursuant to the requirements of the Securities Exchange Act of 1934, the        Registrant has duly caused this report to be signed on its behalf by the undersigned        thereunto duly authorized.

         

| Date: May 15, 2008   | SPAR Group, Inc., Registrant                                                               |
|--------------------------------|--------------------------------------------------------------------------------------------|
|                           |                                                                                       |
|                           |                                                                                       |
|                           | By:/s/ James R.                        Segreto                                             |
|                           | James R. SegretoChief Financial Officer, Treasurer, Secretaryand duly authorized signatory |
|                           |                                                                                       |
|                           |                                                                                       |

 

 

27

 

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**SPAR        Group, Inc.**

 

**EXHIBIT INDEX**

 

|  | 10.1 | Series A                Preferred Stock Subscription Agreement dated as of March 31, 2008 by and among SPAR                Group, Inc., each of Robert G. Brown and William H. Bartels and SPAR Management                Services, Inc., as filed herewith.                              |
|--|------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|  | 10.2 | Debtor                Finance Agreement dated as of May 24, 2006 by and among Bendingo Bank Limited ACN                and Sparfacts Pty Ltd. together with  Bendingo Bank Limited ACN Standard                Terms and Conditions, as filed herewith.                    |
|  | 31.1 | Certification of the CEO pursuant to 18 U.S.C. Section 1350                    adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, as filed                    herewith.                                                                                                   |
|  | 31.2 | Certification of the CFO pursuant to 18 U.S.C. Section 1350                    adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, as filed                    herewith.                                                                                                   |
|  | 32.1 | Certification of the CEO pursuant to 18 U.S.C. Section 1350                    adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as filed                    herewith.                                                                                                   |
|  | 32.2 | Certification of the CFO pursuant to 18 U.S.C. Section 1350                    adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as filed                    herewith.                                                                                                             |

 

 

 

 

28

 

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