UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549




FORM
10-K





x
            ANNUAL REPORT PURSUANT TO
      SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934





For the
fiscal year ended December 31, 2009


or





o
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934





Commission
file number 0-52294





AMERICAN
DG ENERGY INC.


(Exact
name of Registrant as specified in its charter)




Delaware
            
            04-3569304(State of
      incorporation or organization)
            
            (IRS Employer
      Identification No.)








45 First
      AvenueWaltham,
      Massachusetts
            
            02451(Address of
      Principal Executive Offices)
            
            (Zip
      Code)





Registrant’s
Telephone Number, Including Area Code: (781) 622-1120




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




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


Title
      of each class
              
              Name
      of each exchange on which registeredCommon Stock, $0.001
      par value
              
              NYSE
      Amex
  Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.


Yes o No x




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Securities Act.


Yes o No x




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




Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive
Data File required to be submitted and posted pursuant to Rule 405 of Regulation
S-T (§232.405 of this chapter) during the preceding 12 months (or for such
shorter period that the registrant was required to submit and post such
files).


Yes o    No
o




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




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






Large accelerated
      filer o
            
            Accelerated filer
      oNon-accelerated
      filer o
            
            Smaller reporting
      company x(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 No x




As of
June 30, 2009, the aggregate market value of the voting shares of the registrant
held by non-affiliates on the OTC Bulletin Board was approximately $41,397,788
based on a closing price per share of $2.75. For purposes of this calculation,
an aggregate of 20,717,659 shares of common stock held directly or by affiliates
of the directors and officers of the registrant have been included in the number
of shares held by affiliates.


As of
March 31, 2010 the registrant’s shares of common stock outstanding were:
44,088,964.


DOCUMENTS
INCORPORATED BY REFERENCE


Certain
information required by in Items 10, 11, 12, 13 and 14 of Part III of this
Annual Report on Form 10-K is incorporated by reference to our definitive Proxy
Statement for our 2009 Annual Meeting of Shareholders scheduled to be held on
May 21, 2009.


WARNING CONCERNING
FORWARD-LOOKING STATEMENTS


THIS
ANNUAL REPORT ON FORM 10-K CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE
MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 AND OTHER
FEDERAL SECURITIES LAWS. THESE FORWARD-LOOKING STATEMENTS ARE BASED ON OUR
PRESENT INTENT, BELIEFS OR EXPECTATIONS, AND ARE NOT GUARANTEED TO OCCUR AND MAY
NOT OCCUR. ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE CONTAINED IN OR
IMPLIED BY OUR FORWARD-LOOKING STATEMENTS AS A RESULT OF VARIOUS
FACTORS.
 
 WE
GENERALLY IDENTIFY FORWARD-LOOKING STATEMENTS BY TERMINOLOGY SUCH AS “MAY,”
“WILL,” “SHOULD,” “EXPECTS,” “PLANS,” “ANTICIPATES,” “COULD,” “INTENDS,”
“TARGET,” “PROJECTS,” “CONTEMPLATES,” “BELIEVES,” “ESTIMATES,” “PREDICTS,”
“POTENTIAL” OR “CONTINUE” OR THE NEGATIVE OF THESE TERMS OR OTHER SIMILAR WORDS.
THESE STATEMENTS ARE ONLY PREDICTIONS. THE OUTCOME OF THE EVENTS DESCRIBED IN
THESE FORWARD-LOOKING STATEMENTS IS SUBJECT TO KNOWN AND UNKNOWN RISKS,
UNCERTAINTIES AND OTHER FACTORS THAT MAY CAUSE OUR, OUR CUSTOMERS’ OR OUR
INDUSTRY’S ACTUAL RESULTS, LEVELS OF ACTIVITY, PERFORMANCE OR ACHIEVEMENTS
EXPRESSED OR IMPLIED BY THESE FORWARD-LOOKING STATEMENTS, TO
DIFFER.
 
 THIS
REPORT ALSO CONTAINS MARKET DATA RELATED TO OUR BUSINESS AND INDUSTRY. THESE
MARKET DATA INCLUDE PROJECTIONS THAT ARE BASED ON A NUMBER OF ASSUMPTIONS. IF
THESE ASSUMPTIONS TURN OUT TO BE INCORRECT, ACTUAL RESULTS MAY DIFFER FROM THE
PROJECTIONS BASED ON THESE ASSUMPTIONS. AS A RESULT, OUR MARKETS MAY NOT GROW AT
THE RATES PROJECTED BY THESE DATA, OR AT ALL. THE FAILURE OF THESE MARKETS TO
GROW AT THESE PROJECTED RATES MAY HAVE A MATERIAL ADVERSE EFFECT ON OUR
BUSINESS, RESULTS OF OPERATIONS, FINANCIAL CONDITION AND THE MARKET PRICE OF OUR
COMMON STOCK.
 
 SEE “ITEM
1A. RISK FACTORS,” “MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS” AND “BUSINESS,” AS WELL AS OTHER SECTIONS IN THIS
REPORT, THAT DISCUSS SOME OF THE FACTORS THAT COULD CONTRIBUTE TO THESE
DIFFERENCES. THE FORWARD-LOOKING STATEMENTS MADE IN THIS ANNUAL REPORT ON FORM
10-K RELATE ONLY TO EVENTS AS OF THE DATE OF WHICH THE STATEMENTS ARE MADE.
EXCEPT AS REQUIRED BY LAW, WE UNDERTAKE NO OBLIGATION TO UPDATE OR RELEASE ANY
FORWARD- LOOKING STATEMENTS AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR
OTHERWISE.




AMERICAN
DG ENERGY INC.


ANNUAL
REPORT ON FORM 10-K


FOR
THE FISCAL YEAR ENDED DECEMBER 31, 2009





TABLE
OF CONTENTS




PART
      IItem
      1.
              Business.
              
              2Item
      1A.
              Risk
      Factors.
              
              10Item
      1B.
              Unresolved
      Staff Comments.
              
              13Item
      2.
              Properties.
              
              14Item
      3.
              Legal
      Proceedings.
              
              14Item
      4.
              Reserved.
              
              14PART
      IIItem
      5.
              Market
      for the Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities.
              
              15Item
      6.
              Selected
      Financial Data.
              
              17Item
      7.
              Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations.
              
              17Item
      7A.
              Quantitative
      and Qualitative Disclosures About Market Risk.
              
              24Item
      8.
              Financial
      Statements and Supplementary Data.
              
              25Item
      9.
              Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosure.
              
              25Item
      9A(T).
              Controls
      and Procedures.
              
              25Item
      9B.
              Other
      Information.
              
              26PART
      IIIItem
      10.
              Directors,
      Executive Officers and Corporate Governance.
              
              27Item
      11.
              Executive
      Compensation.
              
              27Item
      12.
              Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters.
              
              27Item
      13.
              Certain
      Relationships and Related Transactions, and Director
      Independence.
              
              27Item
      14.
              Principal
      Accountant Fees and Services.
              
              27PART
      IVItem
      15.
              Exhibits
      and Financial Statement Schedules.
              
              28
  1





PART
I




Item
1.  Business.




General




American
DG Energy Inc., or the company, we, our or us, distributes, owns and operates
clean, on-site energy systems that produce electricity, hot water, heat and
cooling. Our business model is to own the equipment that we install at
customers’ facilities and to sell the energy produced by these systems to the
customers on a long-term contractual basis. We call this business the American
DG Energy “On-Site Utility”.




We offer
natural gas powered cogeneration systems that are highly reliable and energy
efficient. Our cogeneration systems produce electricity from an internal
combustion engine driving a generator, while the heat from the engine and
exhaust is recovered and typically used to produce heat and hot water for use at
the site. We also distribute and operate water chiller systems for building
cooling applications that operate in a similar manner, except that the engine’s
power drives a large air-conditioning compressor while recovering heat for hot
water. Cogeneration systems reduce the amount of electricity that the customer
must purchase from the local utility and produce valuable heat and hot water for
the site to use as required.  By simultaneously providing electricity,
hot water and heat, cogeneration systems also have a significant, positive
impact on the environment by reducing the carbon or CO2 produced
by offsetting the traditional energy supplied by the electric grid and
conventional hot water boilers.




Distributed
Generation of electricity or DG, or often referred to as cogeneration systems,
or combined heat and power systems, or CHP, is an attractive option for reducing
energy costs and increasing the reliability of available energy. DG
has  been successfully implemented by others in large industrial
installations over 10 Megawatts, or MW, where the market has been growing for
several years, and is increasingly being accepted in smaller size units because
of technology improvements, increased energy costs and better DG economics. We
believe that our target market (users of up to 1 MW) has been barely penetrated
and that the reduced reliability of the utility grid, increasing cost pressures
experienced by energy users, advances in new, low cost technologies and
DG-favorable legislation and regulation at the state and federal level will
drive our near-term growth and penetration into our target market. The company
maintains a website at www.americandg.com, but our website address included in
this Annual Report on Form 10-K is a textual reference only and the information
in the website is not incorporated by reference into this Annual Report on Form
10-K.




The
company was incorporated as a Delaware corporation on July 24, 2001 to install,
own, operate and maintain complete DG systems and other complementary systems at
customer sites and sell electricity, hot water, heat and cooling energy under
long-term contracts at prices guaranteed to the customer to be below
conventional utility rates. As of December 31, 2009, we had installed energy
systems, representing approximately 4,210 kilowatts, or kW, 33.5 million British
thermal units, or MMBtu’s, of heat and hot water and 2,200 tons of cooling. kW
is a measure of electricity generated, MMBtu is a measure of heat generated and
a ton is a measure of cooling generated. Due to the high efficiency CHP systems,
the Environmental Protection Agency, or EPA, has recognized them as a means to
improve the environment. We have estimated that our currently installed energy
systems running at 100% capacity have the potential to produce approximately
23,000 metric tons of carbon equivalents, less than typical separate heat and
power systems, resulting in emissions reductions equivalent to planting 4,710
acres of forest or removing the emissions of 3,780 automobiles.




We
believe that our primary near-term opportunity for DG energy and equipment sales
is where commercial electricity rates exceed $0.12 per kW hour, or kWh, which is
predominantly in the Northeast and California. These areas represent
approximately 15% of the U.S. commercial power market, with electricity revenues
in excess of $20.0 billion per year (see Figure 1 on page 6). Attractive DG
economics are currently attainable in applications that include hospitals,
nursing homes, multi-tenant residential housing, hotels, schools and colleges,
recreational facilities, food processing plants, dairies and other light
industrial facilities. Two CHP market analysis reports sponsored by the Energy
Information Administration, or EIA, in 2000 detailed the prospective CHP market
in the commercial and institutional sectors1 and in the industrial sectors2. These data sets were used to estimate the CHP
market potential in the 100 kW to 1 MW size range. These target market segments
comprise over 163,000 sites totaling 12.2 million kW of prospective DG capacity.
This is the equivalent of an $11.7 billion annual electricity market plus a $7.3
billion heat and hot water energy market, for a combined market potential of
$19.0 billion.





1 The Market and Technical Potential
for Combined Heat and Power in the Commercial/Institutional Sector;Prepared for the Energy Information Administration; Prepared by ONSITE
SYCOM Energy Corporation; January 2000
  2 The Market and Technical Potential
for Combined Heat and Power in the Industrial Sector;Prepared for the
Energy Information Administration; Prepared by ONSITE SYCOM Energy Corporation;
January 2000




2




We
believe that the largest number of potential DG users in the U.S. require less
than 1 MW of electric power and less than 1,200 tons of cooling capacity. We are
able to design our systems to suit a particular customer’s needs because of our
ability to place multiple units at a site. This approach is part of what allows
our products and services to meet changing power and cooling demands throughout
the day (also from season-to-season) and greatly improves efficiency through a
customer’s varying high and low power requirements.




American
DG Energy purchases energy equipment from various suppliers. The primary type of
equipment used is a natural gas-powered, reciprocating engine provided by
Tecogen Inc., or Tecogen. Tecogen is a leading manufacturer of natural gas,
engine-driven commercial and industrial cooling and cogeneration systems
suitable for a variety of applications, including hospitals, nursing homes and
schools.




As power
sources that use alternative energy technologies mature to the point that they
are both reliable and economical, we will consider employing them to supply
energy for our customers. We regularly assess the technical, economic, and
reliability issues associated with systems that use solar, micro-turbine or fuel
cell technologies to generate power.




Background
and Market




The
delivery of energy services to commercial and residential customers in the U.S.
has evolved over many decades into an inefficient and increasingly unreliable
structure. Power for lighting, air conditioning, refrigeration, communications
and computing demands comes almost exclusively from centralized power plants
serving users through a complex grid of transmission and distribution lines and
substations. Even with continuous improvements in central station generation and
transmission technologies, today’s power industry is only about 33%
efficient3 meaning that it discharges to the environment
roughly twice as much heat as the amount of electrical energy delivered to
end-users. Since coal accounts for more than half of all electric power
generation, these inefficiencies are a major contributor to rising atmospheric
CO2
emissions. As countermeasures are sought to limit global warming, pressures
against coal will favor the deployment of alternative energy
technologies.




On-site
boilers and furnaces burning either natural gas or petroleum distillate fuels
produce most thermal energy for space heating and hot water services. This
separation of thermal and electrical energy supply services has persisted
despite a general recognition that CHP can be significantly more energy
efficient than central generation of electricity by itself. Except in
large-scale industrial applications (e.g., paper and chemical manufacturing),
cogeneration has not attained general acceptance. This was due, in part, to the
long-established monopoly-like structure of the regulated utility industry.
Also, the technologies previously available for small on-site cogeneration
systems were incapable of delivering the reliability, cost and environmental
performance necessary to displace or even substantially modify the established
power industry structure.




The
competitive balance began to change with the passage of the Public Utility
Regulatory Policy Act of 1978, a federal statute that has opened the door to
gradual deregulation of the energy market by the individual states. In 1979, the
accident at Three Mile Island effectively halted the massive program of nuclear
power plant construction that had been a centerpiece of the electric generating
strategy among U.S. utilities for two decades. Several factors caused utilities’
capital spending to fall drastically, including well publicized cost overruns at
nuclear plants, an end to guaranteed financial returns on costly new facilities,
and growing uncertainty over which power plant technologies to pursue. Recently,
investors have become increasingly reluctant to support the risks of the
long-term construction projects required for new conventional generating and
distribution facilities.




Because
of these factors, electricity reserve margins have declined, and the reliability
of service has begun to deteriorate, particularly in regions of high economic
growth. Widespread acceptance of computing and communications technologies by
consumers and commercial users has further increased the demand for electricity,
while also creating new requirements for very high power quality and
reliability. At the same time, technological advances in emission control,
microprocessors and internet technologies have sharply altered the competitive
balance between centralized and DG. These fundamental shifts in economics and
requirements are key to the emerging opportunity for DG equipment and
services.




The
Role of DG




DG, or
cogeneration, is the production of two sources or two types of energy
(electricity or cooling and heat) from a single energy source (natural gas). We
use technology that utilizes a low-cost, mass-produced, internal combustion
engine from General Motors, used primarily in light trucks and sport utility
vehicles that is modified to run on natural gas. The engine spins either a
standard generator to produce electricity, or a conventional compressor to
produce cooling. For heating, since the working engine generates heat, we
capture the byproduct heat with a heat exchanger and utilize the heat for
facility applications in the form of space heating and hot water for buildings
or industrial facilities. This process is very similar to an automobile, where
the engine provides the motion to the automobile and the byproduct heat is used
to keep the passengers warm during the winter months. For refrigeration or
cooling, standard available equipment uses an electric motor to spin a
conventional compressor to make cooling. We replace the electric motor with the
same modified engine that runs on natural gas to spin the compressor to run a
refrigeration cycle and produce cooling.





1 Energy Information Administration,
Voluntary Reporting of Greenhouse Gases, 2004, Section 2, Reducing
Emissions from Electric Power, Efficiency Projects: Definitions and Terminology,
page 20




3


DG refers
to the application of small-scale energy production systems, including
electricity generators, at locations in close proximity to the end-use loads
that they serve. Integrated energy systems, operating at user sites but
interconnected to existing electric distribution networks, can reduce demand on
the nation’s utility grid, increase energy efficiency, avoid the waste inherent
in long distance wire and cable transmission of electricity, reduce air
pollution and greenhouse gas emissions, and protect against power outages,
while,in most
cases, significantly lowering utility costs for power users and building
operators.




The
growing importance of DG as a key component of our future energy supply is
underscored by the establishment of a Distributed Energy Program within the
U.S. Department of Energy, or the DOE. The DOE has stated its position on
this issue as follows:




“...there
are two problems at the root of the current power crunch. There is not always
enough power generation available to meet peak demand, and existing transmission
lines cannot carry all of the electricity needed by consumers.... Distributed
Energy resources are the power of choice for providing customers with reliable
energy supplies.... These Distributed Energy products and services use natural
gas and renewable energy and will be easily interconnected into the nation’s
infrastructure for the generation of electricity. Furthermore, our Program works
to encourage the expanded use of Distributed Energy technologies in applications
with the right combination and occurrence of electrical and thermal
demand...”




Until
recently, many DG technologies have not been a feasible alternative to
traditional energy sources because of economic, technological and regulatory
considerations. Even now, many “alternative energy” technologies (such as solar,
wind, fuel cells and micro-turbines) have not been sufficiently developed and
proven to economically meet the demands of commercial users or the ability to be
connected to the existing utility grid.




We supply
cogeneration systems that are capable of meeting the demands of commercial users
and that can be connected to the existing utility grid. Specific advantages of
the company’s on-site DG of multiple energy services, compared with traditional
centralized generation and distribution of electricity alone, include
the following:




·
            Greatly
      increased overall energy efficiency (typically over 80% versus less than
      33% for the existing
power grid).




·
            Rapid
      adaptation to changing demand requirements (e.g., weeks, not years to
      add new generating capacity where and when it
    is needed).




·
            Ability
      to by-pass transmission line and substation bottlenecks in congested
      service areas.




·
            Avoidance
      of site and right-of-way issues affecting large-scale power generation and
      distribution projects.




·
            Clean
      operation, in the case of natural gas fired reciprocating engines using
      microprocessor combustion controls and low-cost exhaust catalyst
      technology developed for automobiles, producing exhaust emissions well
      below the world’s strictest regional environmental standards
      (e.g., southern California).




·
            Rapid
      economic paybacks for equipment investments, often three to five years
      when compared to existing utility costs and
  technologies.




·
            Relative
      insensitivity to fuel prices due to high overall efficiencies achieved
      with cogeneration of electricity and thermal energy services, including
      the use of waste heat to operate absorption type air conditioning systems
      (displacing electric-powered cooling capacity at times of peak
      summer demand).




4




·
            Reduced
      vulnerability of multiple de-centralized small-scale generating units
      compared to the risk of major outages from natural disasters or terrorist
      attacks against large central-station power plants and long distance
      transmission lines.




·
            Ability
      to remotely monitor, control and dispatch energy services on a real-time
      basis using advanced switchgear, software, microprocessor and internet
      modalities. Through our on-site energy products and services, energy users
      are able to optimize, in real time, the mix of centralized and distributed
      electricity-generating resources.




The
disadvantages of the company’s on-site DG are:




·
            Cogeneration
      is a mechanical process and our equipment is susceptible to downtime or
      failure.




·
            The
      base-rate of an electric utility is determined by a certain number of
      subscribers. DG at a significant scale will reduce the number of
      subscribers and therefore it may increase the base-rate for the electric
      utility for its customer base.




·
            By
      committing to our long-term agreements, a customer may be forfeiting the
      opportunity to use more efficient technology that may become available in
      the future.




Also, DG systems possess significant
positive environmental impact. The EPA has created a Combined Heat and Power
Partnership to promote the benefits of DG systems. The company is a member of
this Partnership. The following statement is found on the EPA web
site.




“Combined heat and power systems offer
considerable environmental benefits when compared with purchased electricity and
onsite-generated heat. By capturing and utilizing heat that would otherwise be
wasted from the production of electricity, CHP systems require less fuel than
equivalent separate heat and power systems to produce the same amount of
energy.  Because less fuel is combusted, greenhouse gas emissions,
such as carbon dioxide (CO2), as well
as criteria air pollutants like nitrogen oxides (NOx) and
sulfur dioxide (SO2), are
reduced.”




The
DG Market Opportunity




We
believe that our primary near-term opportunity for DG energy and equipment sales
is where commercial electricity rates exceed $0.12 per kWh, which is
predominantly in the Northeast and California. These areas represent
approximately 15% of the U.S. commercial power market, with electricity
revenues in excess of $20 billion per year (see Figure 1. on page 6).
Attractive DG economics are currently attainable in applications that include
hospitals, nursing homes, multi-tenant residential housing, hotels, schools and
colleges, recreational facilities, food processing plants, dairies and other
light industrial facilities. Two CHP market analysis reports sponsored by the
EIA in 2000 detailed the prospective CHP market in the commercial and
institutional sectors4 and in the industrial sectors5. These data sets were used to estimate the CHP
market potential in the 100 kW to 1 MW size range. These target market segments
comprise over 163,000 sites totaling 12.2 million kW of prospective DG
capacity. This is the equivalent of an $11.7 billion annual electricity
market plus a $7.3 billion heat and hot water energy market, for a combined
market potential of $19 billion.




As shown
in Figure 1 on page 6, there are substantial variations in the electric rates
paid by commercial and institutional customers throughout the U.S. In
high-cost regions, monthly payments for energy services supplied by on-site DG
projects yield rapid paybacks (e.g., often 3-5 years) on an investment
in our systems. An additional 15% of commercial sector electricity, representing
annual revenues of $14 billion, is sold at rates between $0.085 and $0.12
per kWh as shown in Figure 1 on page 6. Although paybacks on DG projects would
be less rapid in such regions, future rate increases are expected to improve
DG economics.





4 The Market and Technical Potential
for Combined Heat and Power in the Commercial/Institutional Sector;
Prepared for the Energy Information Administration; Prepared by ONSITE SYCOM
Energy Corporation; January 2000
 5 The Market and Technical Potential
for Combined Heat and Power in the Industrial Sector; Prepared for the
Energy Information Administration; Prepared by ONSITE SYCOM Energy Corporation;
January 2000
 5




Figure 1




The
DG Market Opportunity


U.S.
Commercial/Institutional Electric Rate Profile




DG Market Chart




Source:
U.S. Energy Information Administration Data [2002]





Business
Model




We are a
DG onsite energy company that sells energy in the form of electricity, heat, hot
water and air conditioning under long-term contracts with commercial,
institutional and light industrial customers. We install our systems at no cost
to our customers and retain ownership of the system. Because our systems operate
at over 80% efficiency (versus less than 33% for the existing power grid),
we are able to sell the energy produced by these systems to our customers at
prices below their existing cost of electricity (or air conditioning), heat and
hot water. Our cogeneration systems consist of natural gas-powered internal
combustion engines that drive an electrical generator to produce electricity and
that capture the engine heat to produce space heating and hot water. Our energy
systems also can be configured to drive a compressor that produces air
conditioning and that also captures the engine heat. As of December 31, 2009, we
had 62 energy systems operational.




To date,
each of our installations runs in conjunction with the electric utility grid and
requires standard interconnection approval from the local utility. Our customers
use both our energy system and the electric utility grid for their electricity
requirements. We typically supply the first 20% to 60% of the building’s
electricity requirements while the remaining electricity is supplied by the
electric utility grid. Our customers are contractually bound to use the energy
we supply.




To date,
the price that we have charged our customers is set in our customer contracts at
a discount to the price of the building’s local electric utility. For the 20% to
60% portion of the customer’s electricity that we supply, the customer realizes
immediate savings on its electric bill. In addition to electricity, we sell our
customers the heat and hot water at the same price they were previously paying
or at a discount equivalent to their discount from us on electricity. Our air
conditioning systems are also priced at a discount so that the customer realizes
overall cost savings from the installation.




Since we
own and operate the energy systems and since our customers have no investment in
the units, our customers benefit from no capital requirements and no operating
responsibilities. We operate the energy systems so our customers require no
staff and have no energy system responsibilities; they are bound, however, to
pay for the energy supplied by the energy systems over the term of the
agreement.




Energy
and Products Portfolio




We
provide a full range of CHP product and energy options.  Our primary
energy and products are listed below:





·
            Energy
      Sales


o
            Electricity


o
            Thermal
      (Hot Water, Heat and Cooling)





·
            Energy
      Producing Products


o
            Cogeneration
      Packages




6






o
            Chillers


o
            Complementary
      Energy Equipment (e.g., boilers, etc.)


o
            Alternative
      Energy Equipment (e.g., solar, fuel cells,
etc.)





·
            Turnkey
      Installation Energy Producing Products with Incentives


·
            Other
      Revenue Opportunities





Energy
Sales





For
customers seeking an alternative to the outright purchase of CHP equipment, we
will install, maintain, finance, own and operate complete on-site CHP systems
that supply, on a long-term, contractual basis, electricity and other energy
services. We sell the energy to customers at a guaranteed discount rate to the
rates charged by conventional utility suppliers. Customers are billed monthly.
Our customers benefit from a reduction in their current energy bills without the
capital costs and risks associated with owning and operating a cogeneration or
chiller system. Also, by outsourcing the management and financing of on-site
energy facilities to us, they can reap the economic advantages of DG without the
need for retaining specialized in-house staff with skills unrelated to their
core business. Customers benefit from our On-Site Utility in a number of
ways:





·
            Guaranteed
      lower price for energy


·
            Only
      pay for the energy they use


·
            No
      capital costs for equipment, engineering and
  installation


·
            No
      equipment operating costs for fuel and maintenance


·
            Immediate
      cash flow improvement


·
            Significant
      green impact by the reduction of carbon produced


·
            No
      staffing, operations and equipment
  responsibility




Our
customers pay us for energy produced on site at a rate that is a certain
percentage below the rate at which the utility companies provide them electrical
and natural gas services. We measure the actual amount of electrical and thermal
energy produced, and charge our customers accordingly. We agree to install,
operate, maintain and repair our energy systems at our sole cost and expense. We
also agree to obtain any necessary permits or regulatory approvals at our sole
expense. Our agreements are generally for a term of 15 years, renewable for two
additional five years terms upon the mutual agreement of the
parties.




In
regions where high electricity rates prevail, such as the Northeast, monthly
payments for CHP energy services can yield attractive paybacks (e.g. often 3-5
years) on our investments in On-Site Utility projects. The price of natural gas
has a minor effect on the financial returns obtained from our energy service
contracts because the value of hot water and other thermal services produced
from the recovered heat generated by the internal combustion engine in our
on-site DG system will increase in proportion to higher fuel costs. This
recovered energy, which comprises up to 60 % of the total heating value of fuel
supplied to our CHP equipment, displaces fuel that would otherwise be burned in
conventional boilers. Each of our customer sites becomes a profit center. The
example below presents the energy supplied by two 75 kW cogeneration units and
the economics of a typical energy service contract where we supply 80% of the
site’s heat and hot water and 45% of the site’s electricity:




Annual
            
            
            Term
      (15 years)American
      DG Energy Revenue
            
            $
            284,000
            
            
            $
            4,908,000American
      DG Energy Gross Margin
            
            $
            84,000
            
            
            $
            1,456,000Customer
      Savings
            
            $
            32,000
            
            
            $
            545,000





The
example reflects an American DG Energy investment of $345,000 with a payback in
4 years or a 25% internal rate of return. The example also reflects a 2% of
expected annual increase in energy costs that should occur over the 15-year
period.




Energy
Producing Products




We
typically offer cogeneration units sized to produce 75 kW to 100 kW of
electricity and water chillers sized to produce 200 to 400 tons of cooling. For
cogeneration, we prefer a modular design approach to allow us to group multiple
units together to serve customers with considerably larger power requirements.
Often, cogeneration units are conveniently dispersed within a large operation,
such as a hospital or campus, serving multiple process heating systems that
would otherwise be impractical to serve from a single large machine. The
equipment we select often yield overall energy efficiencies in excess of 80%
(from our equipment supplier’s specifications).




7


Many
other DG technologies are challenged by technical, economic and reliability
issues associated with systems that generate power using solar, micro-turbine or
fuel cell technologies, which have not yet proven to be economical for typical
customer needs. When alternative energy technologies mature to the point that
they are both reliable and economical, we will employ them for the best-fit
applications.




Service and Installation





Where appropriate, we utilize the best
local service infrastructure for the equipment we deploy. We require long-term
maintenance contracts and ongoing parts sales. Our centralized remote monitoring
capability allows us to keep track of our equipment in the field. Our
installations are performed by local contractors with experience in energy
cogeneration systems.


For the occasional customers that want
to own the CHP system themselves, we offer our “turn-key” option whereby we
provide equipment, systems engineering, installation, interconnect approvals,
on-site labor and startup services needed to bring the complete CHP system
on-line. For some customers, we are also paid a fee to operate the systems and
may receive a portion of the savings generated from the equipment.





Other Funding and Revenue
Opportunities





American DG Energy is able to
participate in the demand response market and receive payments due to the
availability of our energy systems. Demand response programs provide payments
for either the reduction of electricity usage or the increase in electricity
production during periods of peak usage throughout a utility territory. We have
also received grants and incentives from state organizations and natural gas
companies for our installed energy systems.





Sales
and Marketing





Our On-Site Utility services are sold
directly to end-users by our in-house marketing team and by established sales
agents and representatives. We offer standardized packages of energy, equipment
and services suited to the needs of property owners and operators in healthcare,
hospitality, large residential, athletic facilities and certain industrial
sites. This includes national accounts and other customer groups having a common
set of energy requirements at multiple locations.





Our energy offering is translated into
direct financial gain for our clients, and is best appreciated by senior
management. These clients recognize the gain in cash flow, the increase in net
income and the preservation of capital we offer. As such, our energy sales are
focused on reaching these decision makers. Additionally, we have benefited with
increased sales and maintenance support through our joint venture, called
American DG NY LLC, or ADGNY, with AES-NJ Cogen Co., or AES-NJ, an established
developer of small cogeneration systems.





The company is continually expanding
its sales efforts by developing joint marketing initiatives with key suppliers
to our target industries. Particularly important are our collaborative programs
with natural gas utility companies. Since the economic viability of any CHP
project is critically dependent upon effective utilization of recovered heat,
the insight of the gas supplier to the customer energy profile is particularly
effective in prospecting the most cost-effective DG sites in any
region.





DG is enjoying growing support among
state utility regulators seeking to increase the reliability of electricity
supply with cost effective environmentally responsible demand-side resources.
New York, New Jersey, Connecticut and Massachusetts are among the states that
encourage DG through inter-connecting standards, incentives and/or supply
planning. Unlike large central station power plants, DG investments can be made
in small increments and with lead-times as short as just a few
months.





The U.S. government has been developing
and refining various funding opportunities related to its economic recovery or
stimulus initiatives. While the final decision has not been determined as of the
date of this Annual Report on Form 10-K, it appears that “shovel ready” projects
related to energy and the environment will hold great prominence. Also, there
appears to be interest in upgrading government buildings. The company’s CHP
systems would fit very well with any of these programs. Other than funding
opportunities related to the economic recovery or stimulus initiatives, there
does not appear to be any new government regulations that will affect the
company.





8




Competition





We
believe that the main competition for our DG products is the established
electric utility infrastructure. DG is beginning to gain acceptance in regions
where energy customers are dissatisfied with the cost and reliability of
traditional electricity service. These end-users, together with growing support
from state legislatures and regulators, are creating a favorable climate for the
growth of DG that is overcoming the objections of established utility providers.
In our target markets, we compete with large utility companies such as
Consolidated Edison in New York City and Westchester County, Long Island Power
Authority in Long Island, New York, Public Service Gas and Electric in New
Jersey, and NSTAR and National Grid in Massachusetts.





Engine
manufacturers sell DG units that range in size from a few kW’s to many MW’s in
size. Those manufacturers are predominantly greater than 1 MW and include
Caterpillar, Cummins, and Waukesha. In many cases, we view these companies as
potential suppliers of equipment and not as competitors. For example, we are
currently installing a Waukesha unit at a customer site.





The
alternative energy market is emerging rapidly. Many companies are developing
alternative and renewable energy sources including solar power, wind power, fuel
cells and micro-turbines. Some of the companies in this sector include General
Electric, BP, Shell, Sun Edison and Evergreen Solar (in the solar energy space);
Plug Power and Fuel Cell Energy (in the fuel cell space); and Capstone,
Ingersoll Rand and Elliott Turbomachinery (in the micro-turbine space). The
effect of these developing technologies on our business is difficult to predict;
however, when their technologies become more viable for our target markets, we
may be able to adopt their technologies into our business model.





There are
a number of energy service companies that offer related services. These
companies include Siemens, Honeywell and Johnson Controls. In general, these
companies seek large, diverse projects for electric demand reduction for
campuses that include building lighting and controls, and electricity (in rare
occasions) or cooling. Because of their overhead structures, these companies
often solicit large projects and stay away from individual properties. Since we
focus on smaller projects for energy supply, we are well suited to work in
tandem with these companies when the opportunity arises.





There are
also a few local emerging cogeneration developers and contractors that are
attempting to offer services similar to ours. To be successful, they will need
to have the proper experience in equipment and technology, installation
contracting, equipment maintenance and operation, site economic evaluation,
project financing and energy sales plus the capability to cover a broad
region.




Material
Contracts




In
January 2006, the company entered into the 2006 Facilities, Support Services and
Business Agreement, or the Agreement, with Tecogen, to provide the company with
certain office and business support services for a period of one year, renewable
annually by mutual agreement. The company also shares personnel support services
with Tecogen. The company is allocated its share of the cost of the personnel
support services based upon the amount of time spent by such support personnel
while working on the company’s behalf. To the extent Tecogen is able to do so
under its current plans and policies, Tecogen includes the company and its
employees in several of its insurance and benefit programs. The costs of these
programs are charged to the company on an actual cost basis. Under this
agreement, the company receives pricing based on a volume discount if it
purchases cogeneration and chiller products from Tecogen. For certain sites, the
company hires Tecogen to service its Tecogen chiller and cogeneration products.
Under the current Agreement, as amended, Tecogen provides the company with
office space and utilities at a monthly rate of $5,526.




We have
sales representation rights to Tecogen’s products and services. In New England,
we have exclusive sales representation rights to their cogeneration products. We
have granted Tecogen sales representation rights to our On-Site Utility energy
service in California.




Government
Regulation




We are not subject to extensive
government regulation. We are required to file for local construction permits
(electrical, mechanical and the like) and utility interconnects, and we must
make various local and state filings related to environmental
emissions.





The U.S. government has been developing
and refining various funding opportunities related to its economic recovery or
stimulus initiatives. While the final decision has not been determined as of the
date of this Annual Report on Form 10-K, it appears that “shovel ready” projects
related to energy and the environment will hold great prominence. Also, there
appears to be interest in upgrading government buildings. The company’s CHP
systems would fit very well with any of these programs. Other than funding
opportunities related to the economic recovery or stimulus initiatives, there
does not appear to be any new government regulations that will affect the
company.





9


Employees





As of December 31, 2009, we employed
thirteen active full-time employees and two part-time employees. We believe that
our relationship with our employees is satisfactory. None of our employees are
represented by a collective bargaining agreement.





Item
1A. Risk Factors.




Our
business faces many risks. The risks described below may not be the only risks
we face. Additional risks that we do not yet know of, or that we currently think
are immaterial, may also impair our business operations or financial results. If
any of the events or circumstances described in the following risks occurs, our
business, financial condition or results of operations could suffer and the
trading price of our common stock could decline. Investors and prospective
investors should consider the following risks and the information contained
under the heading ‘‘Warning Concerning Forward-Looking Statements’’ before
deciding whether to invest in our securities.




We
have incurred losses, and these losses may continue.




We have
incurred losses in each of our fiscal years since inception. Losses continued to
be incurred in 2009. There is no assurance that profitability will be achieved
in the near term, if at all.




Because
unfavorable utility regulations make the installation of our systems more
difficult or less economical, any slowdown in the utility deregulation process
would be an impediment to the growth of our business.




In the
past, many electric utility companies have raised opposition to DG, a critical
element of our On-Site Utility business. Such resistance has generally taken the
form of unrealistic standards for interconnection, and the use of targeted rate
structures as disincentives to combined generation of on-site power and heating
or cooling services. A DG company’s ability to obtain reliable and affordable
back-up power through interconnection with the grid is essential to our business
model. Utility policies and regulations in most states are often not prepared to
accommodate widespread on-site generation. These barriers erected by electric
utility companies and unfavorable regulations, where applicable, make more
difficult or uneconomic our ability to connect to the electric grid at customer
sites and are an impediment to the growth of our business. Development of our
business could be adversely affected by any slowdown or reversal in the utility
deregulation process or by difficulties in negotiating backup power supply
agreements with electric providers in the areas where we intend to do
business.




Our
onsite utility concept is largely unproven and may not be accepted by a
sufficient number of customers.




The sale
of cogeneration and cooling equipment has been successfully carried out for more
than a decade. However, our On-Site Utility concept (i.e., the sale of on-site
energy services, rather than equipment) is still in an early stage of
implementation. Unresolved issues include the pricing of energy services and the
structuring of contracts to provide cost savings to customers and optimum
financial returns to us. There is no assurance that we will be successful in
developing a profitable On-Site Utility business model, and failure to do so
would have a material adverse effect on our business and financial
performance.




The
economic viability of our projects depends on the price spread between fuel and
electricity, and the variability of the prices of these components creates a
risk that our projects will be uneconomic.




The
economic viability of DG projects is dependent upon the price spread between
fuel and electricity prices. Volatility in one component of the spread, the cost
of natural gas and other fuels (e.g., propane or distillate oil) can be managed
to a greater or lesser extent by means of futures contracts. However, the
regional rates charged for both base load and peak electricity services may
decline periodically due to excess capacity arising from over-building of
utility power plants or recessions in economic activity. Any sustained weakness
in electricity prices could significantly limit the market for our cogeneration,
cooling equipment and On-Site Utility energy services.




10


We
may fail to make sales to certain prospective customers because of resistance
from facilities management personnel to the outsourcing of their service
function.




Any
outsourcing of non-core activities by institutional or commercial entities will
generally lead to reductions in permanent on-site staff employment. As a result,
our proposals to implement On-Site Utility contracts are likely to encounter
strong initial resistance from the facilities managers whose jobs will be
threatened by energy outsourcing. The growth of our business will depend upon
our ability to overcome such barriers among prospective customers.




Future
government regulations, such as increased emissions standards, safety standards
and taxes, may adversely impact the economics of our business.




The
operation of DG equipment at our customers’ sites may be subject to future
changes in federal, state and local laws and regulations (e.g., emissions,
safety, taxes, etc.). Any such new or substantially altered rules and standards
may adversely affect our revenues, profits and general financial
condition.




If
we cannot expand our network of skilled technical support personnel, we will be
unable to grow our business.




Each
additional customer site for our services requires the initial installation and
subsequent maintenance and service of equipment to be provided by a team of
technicians skilled in a broad range of technologies, including combustion,
instrumentation, heat transfer, information processing, microprocessor controls,
fluid systems and other elements of DG. If we are unable to recruit, train,
motivate, sub-contract, and retain such personnel in each of the regional
markets where our business operates we will be unable to grow our business in
those markets.




The
company operates in highly competitive markets and may be unable to successfully
compete against competitors having significantly greater resources and
experience.




Our
business may be limited by competition from energy services companies arising
from the breakup of conventional regulated electric utilities. Such competitors,
both in the equipment and energy services sectors, are likely to have far
greater financial and other resources than us, and could possess specialized
market knowledge with existing channels of access to prospective customer
locations. We may be unable to successfully compete against those
competitors.




Future
technology changes may render obsolete various elements of equipment comprising
our On-Site Utility installations.




We must
select equipment for our DG projects so as to achieve attractive operating
efficiencies, while avoiding excessive downtimes from the failure of unproven
technologies. If we are unable to achieve a proper balance between the cost,
efficiency and reliability of equipment selected for our projects, our growth
and profitability will be adversely impacted.




We
have limited historical operating results upon which to base projections of
future financial performance, making it difficult for prospective investors to
assess the value of our stock.




Our
experience is primarily on-site energy services, and we have only a few years of
actual operating experience. These limitations make developing financial
projections more difficult. We will expand our business infrastructure based on
these projections. If these projections prove to be inaccurate, we will sustain
additional losses and will jeopardize the success of our business.




We
will need to raise additional capital for our business, which will dilute
existing shareholders.




Additional
financings will be required to implement our overall business plan. We will need
additional capital. Equity financings will dilute the percentage ownership of
our existing shareholders. Our ability to raise an adequate amount of capital
and the terms of any capital that we are able to raise will be dependent upon
our progress in implementing demonstration projects and related marketing
service development activities. If we do not make adequate progress, we may be
unable to raise adequate funds, which will limit our ability to expand our
business. If the terms of any equity financings are unfavorable, the dilutive
impact on our shareholders might be severe.




We
may make acquisitions that could harm our financial performance.




In order
to expedite development of our corporate infrastructure, particularly with
regard to equipment installation and service functions, we anticipate the future
acquisition of complementary businesses. Risks associated with such acquisitions
include the disruption of our existing operations, loss of key personnel in the
acquired companies, dilution through the issuance of additional securities,
assumptions of existing liabilities and commitment to further operating
expenses. If any or all of these problems actually occur, acquisitions could
negatively impact our financial performance and future stock value.




11


We
are controlled by a small group of majority shareholders, and our minority
shareholders will be unable to effect changes in our governance structure or
implement actions that require shareholder approval, such as a sale of the
company.




George
Hatsopoulos and John Hatsopoulos, who are brothers, beneficially own a majority
of our outstanding shares of common stock. These stockholders have the ability
to control various corporate decisions, including our direction and policies,
the election of directors, the content of our charter and bylaws and the outcome
of any other matter requiring shareholder approval, including a merger,
consolidation and sale of substantially all of our assets or other change of
control transaction. The concurrence of our minority shareholders will not be
required for any of these decisions.




We
may be exposed to substantial liability claims if we fail to fulfill our
obligations to our customers.




We enter
into contracts with large commercial and not-for-profit customers under which we
will assume responsibility for meeting a portion of the customers’ building
energy demand and equipment installation. We may be exposed to substantial
liability claims if we fail to fulfill our obligations to customers. There can
be no assurance that we will not be vulnerable to claims by customers and by
third parties that are beyond any contractual protections that we are able to
negotiate. We may be unable to obtain liability and other insurance on terms and
at prices that are commercially acceptable to us. As a result, liability claims
could cause us significant financial harm.




Investment
in our common stock is subject to price fluctuations which have been significant
for development stage companies like us.




Historically,
valuations of many companies in the development stage have been highly volatile.
The securities of many of these companies have experienced significant price and
trading volume fluctuations, unrelated to the operating performance or the
prospects of such companies. If the conditions in the equity markets further
deteriorate, we may be unable to finance our additional funding needs in the
private or the public markets. There can be no assurance that any future
offering will be consummated or, if consummated, will be at a share price equal
or superior to the price paid by our investors even if we meet our technological
and marketing goals.




Future sales of common stock by our
existing stockholders may cause our stock price to fall.





The
market price of our common stock could decline as a result of sales by our
existing stockholders of shares of common stock in the market or the perception
that these sales could occur. These sales might also make it more difficult for
us to sell equity securities at a time and price that we deem appropriate and
thus inhibit our ability to raise additional capital when it is
needed.





Because we do not intend to pay cash
dividends, our stockholders will receive no current income from holding our
stock.





We have
paid no cash dividends on our capital stock to date and we currently intend to
retain our future earnings, if any, to fund the development and growth of our
business. In addition, the terms of any future debt or credit facility may
preclude us from paying these dividends. As a result, capital appreciation, if
any, of our common stock will be your sole source of gain for the foreseeable
future. We currently expect to retain earnings for use in the operation and
expansion of our business, and therefore do not anticipate paying any cash
dividends for the foreseeable future.





Our
ability to access capital for the repayment of debts and for future growth is
limited as the financial markets are currently in a period of disruption and
recession and the company does not expect these conditions to improve in the
near future.





Our ability to continue to access
capital could be impacted by various factors including general market conditions
and the continuing slowdown in the economy, interest rates, the perception of
our potential future earnings and cash distributions, any unwillingness on the
part of lenders to make loans to us and any deterioration in the financial
position of lenders that might make them unable to meet their obligations to
us.





12


Our
business is affected by general economic conditions and related uncertainties
affecting markets in which we operate. The current economic conditions including
the global recession could adversely impact our business in 2010 and
beyond.





The
current economic conditions including the global recession could adversely
impact our business in 2010 and beyond, resulting in reduced demand for our
products, increased rate of order cancellations or delays, increased risk of
excess and obsolete inventories, increased pressure on the prices for our
products and services; and greater difficulty in collecting accounts
receivable.





Trading of our common stock is
restricted by the Securities and Exchange Commission’s, or the SEC’s, “penny
stock” regulations which may limit a stockholder’s ability to buy and sell our
stock.





The SEC has adopted regulations which
generally define “penny stock” to be any equity security that has a market price
less than $5.00 per share or an exercise price of less than $5.00 per share,
subject to certain exceptions. Our securities are covered by the penny stock
rules, which impose additional sales practice requirements on broker-dealers who
sell to persons other than established customers and accredited investors. The
penny stock rules require a broker-dealer, prior to a transaction in a penny
stock not otherwise exempt from the rules, to deliver a standardized risk
disclosure document in a form prepared by the SEC that provides information
about penny stocks and the nature and level of risks in the penny stock market.
The broker-dealer also must provide the customer with current bid and other
quotations for the penny stock, the compensation of the broker-dealer and its
salesperson in the transaction and monthly account statement showing the market
value of each penny stock held in the customer’s account. The bid and offer
quotations, and the broker-dealer and salesperson compensation information, must
be given to the customer orally or in writing prior to effecting the transaction
and must be given to the customer in writing before or with the customer’s
confirmation. In addition, the penny stock rules require that prior to a
transaction in a penny stock not otherwise exempt from these rules, the
broker-dealer must make a special written determination that the penny stock is
a suitable investment for the purchaser and receive the purchaser’s written
agreement to the transaction. These disclosure and suitability requirements may
have the effect of reducing the level of trading activity in the secondary
market for a stock that is subject to these penny stock rules. Consequently,
these penny stock rules may affect the ability of broker-dealers to trade our
securities. We believe that the penny stock rules discourage investor interest
in and limit the marketability of our capital stock. Trading of our capital
stock is restricted by the SEC’s “penny stock” regulations which may limit a
stockholder’s ability to buy and sell our stock.





There has been a material weakness in
our financial controls and procedures, which could harm our operating results or
cause us to fail to meet our reporting obligations.





As of the
end of the period covered by this report, our Chief Executive Officer and Chief
Financial Officer have performed an evaluation of controls and procedures and
concluded that our controls were not effective to provide reasonable assurance
that information required to be disclosed by our company in reports that we file
under the Securities Exchange Act of 1934, as amended, or the Exchange Act, is
recorded, processed, summarized and reported as when required. Management
conducted an evaluation of our internal control over financial reporting and
based on this evaluation, management concluded that the company’s internal
control over financial reporting was not effective as of the end of the period
covered by this report. The company currently does not have personnel with a
sufficient level of accounting knowledge, experience and training in the
selection, application and implementation of generally acceptable accounting
principles as it relates to complex transactions and financial reporting
requirements. The company also has a small number of employees dealing with
general controls over information technology security and user access. This
constitutes a material weakness in financial reporting. Any failure to implement
effective internal controls could harm our operating results or cause us to fail
to meet our reporting obligations. Inadequate internal controls could also cause
investors to lose confidence in our reported financial information, which could
have a negative effect on the trading price of our common stock, and may require
us to incur additional costs to improve our internal control
system.





Item
1B. Unresolved Staff Comments.





None.




13


Item
2.  Properties.




Our
headquarters are located in Waltham, Massachusetts and consist of 3,339 square
feet of office and storage space that are leased from Tecogen. The lease expires
on March 31, 2014. We believe that our facilities are appropriate and adequate
for our current needs.




Item
3.  Legal Proceedings.




We are
not currently a party to any material litigation, and we are not aware of any
pending or threatened litigation against us that could have a material adverse
affect on our business, operating results or financial condition.




Item
4.  Reserved.




14


PART
II




Item
5. Market for Registrant’s Common Equity, Related Stockholder Mattersand Issuer Purchases of Equity
Securities.




Market




Our common stock started trading on
November 8, 2007, on the OTC Bulletin Board, or OTCBB, under the symbol “ADGE”.
OTCBB market quotations reflect inter-dealer prices, without retail mark-up,
mark-down or commissions and may not necessarily represent actual
transactions.





During
the period from November 8, 2007 to December 31, 2007, the high price was $1.25
and the low price was $0.83 as reported by the OTCBB. The following table sets
forth the high and low per share sales prices for our common stock for each of
the quarters in the period beginning January 1, 2008, through December 31,
2009, as reported by the OTCBB. On October 19, 2009, the company’s common stock
began trading on the NYSE Amex market.





2009
            
            
            2008High
            
            
            Low
            
            
            High
            
            
            LowFirst
      Quarter
            
            $
            2.20
            
            
            $
            1.50
            
            
            $
            1.09
            
            
            $
            0.73Second
      Quarter
            
            
            3.25
            
            
            
            2.45
            
            
            
            1.92
            
            
            
            1.01Third
      Quarter
            
            
            3.08
            
            
            
            2.70
            
            
            
            2.05
            
            
            
            1.35Fourth
      Quarter
            
            
            3.55
            
            
            
            2.52
            
            
            
            2.31
            
            
            
            1.65





The closing price of our common stock
as reported on the NYSE Amex on March 30, 2010, was $2.94 per
share.





Holders





As of
February 2, 2010, there were approximately 610 beneficial holders of our common
stock.




Dividends





We have
never declared or paid any cash dividends on shares of our common stock. We
currently intend to retain earnings, if any, to fund the development and growth
of our business and do not anticipate paying cash dividends in the foreseeable
future. Our payment of any future dividends will be at the discretion of our
board of directors after taking into account various factors, including our
financial condition, operating results, cash needs and growth
plans.





Recent
Sales of Unregistered Securities




Set forth
below is information regarding common stock issued, warrants issued and stock
options granted by the company during fiscal year 2008 and 2009. Also included
is the consideration, if any, we received and information relating to the
section of the Securities Act of 1933, as amended, or the Securities Act, or
rule of the SEC, under which exemption from registration was
claimed.




Common
Stock and Warrants





In 2008,
the company raised $707,000 through the exercise of 1,010,000 warrants at a
price of $0.70 per share. The warrant exercises were done exclusively by 17
accredited investors, representing 3.1% of the total shares then
outstanding.





In 2008,
two holders of the company’s 8% Convertible Debenture, elected to convert
$150,000 of the outstanding principal amount of the debenture into 178,572
shares of common stock.





On February 24, 2009, the company sold
a warrant to purchase shares of the company’s common stock to an accredited
investor, for a purchase price of $10,500. The warrant, which expires on
February 24, 2012, gives the investor the right but not the obligation to
purchase 50,000 shares of the company’s common stock at an exercise price per
share of $3.00.





On April
23, 2009, the company raised $2,260,000 in a private placement of 1,076,190
shares of common stock at a price of $2.10 per share. The private placement was
done exclusively by 5 accredited investors, representing 3.1% of the total
shares then outstanding.





15


On July
24, 2009, the company raised $3,492,650 in a private placement of 1,663,167
shares of common stock at a price of $2.10 per share. The company also granted
the investors the right to purchase additional shares of common stock at a
purchase price of $3.10 per share by December 18, 2009, which as of December 31,
2009, have expired unexercised. The private placement was done exclusively by 22
accredited investors, representing 4.7% of the total shares then
outstanding.





On
October 1, 2009, the company signed an investor relations consulting agreement
with Hayden IR for a period of twelve months. In connection with that agreement
the company granted Hayden IR a warrant to purchase 12,000 shares of the
company’s common stock at an exercise price per share of $2.98, with one-third
vesting on October 1, 2009, one-third vesting on February 1, 2010, and one-third
vesting on June 1, 2010, provided that at any such vesting date the agreement is
still in effect and Hayden IR has provided all required services to the company.
The warrants carry a cashless exercise provision and expire on May 30, 2013.





On
October 14, 2009, the company raised $525,000 in a private placement of 250,000
shares of common stock at a price of $2.10 per share. The company also granted
the investor the right to purchase additional shares of common stock at a
purchase price of $3.10 per share by December 18, 2009, which as of December 31,
2009, have expired unexercised. The private placement was done exclusively by an
accredited investor, representing 0.7% of the total shares then
outstanding.





All of
such investors were accredited investors, and such transactions were exempt from
registration under the Securities Act under Section 4(2) and/or Regulation D
thereunder.





Restricted
Stock Grants




In
December 2008, the company made a restricted stock grant to one employee by
permitting him to purchase an aggregate of 40,000 shares of common stock,
representing 0.1% of the total shares then outstanding at a price of $0.001 per
share. Those shares have a vesting schedule of four years.





Such
transactions were exempt from registration under the Securities Act under
Section 4(2), Regulation D and/or
Rule 701 thereunder.





Stock
Options





In
December 2008, the company granted nonqualified options to purchase 100,000
shares of the common stock to one employee at $1.95 per share. Those options
have a vesting schedule of 4 years and expire in 10 years. The grant of such
options was exempt from registration under Rule 701 under the Securities
Act.





In
February 2009, the company granted nonqualified options to purchase 13,000
shares of the common stock to three employees at $1.82 per share. Those options
have a vesting schedule of 4 years and expire in 5 years. The grant of such
options was exempt from registration under Rule 701 under the Securities
Act.





In July
2009, the company granted nonqualified options to purchase 6,000 shares of the
common stock to one employee at $2.95 per share. Those options have a vesting
schedule of 4 years and expire in 5 years. The grant of such options was exempt
from registration under Rule 701 under the Securities Act.





No
underwriters were involved in the foregoing sales of securities. All purchasers
of shares of our convertible debentures and warrants described above represented
to us in connection with their purchase that they were accredited investors and
made customary investment representations. All of the foregoing securities are
deemed restricted securities for purposes of the Securities Act.





Rule
144





Under
Rule 144 under the Securities Act, in general, a person who is not deemed to
have been one of our affiliates at any time during the 90 days preceding a sale,
and who has beneficially owned shares of our common stock for more than six
months but less than one year would be entitled to sell an unlimited number of
shares. Sales under Rule 144 during this time period are still subject to the
requirement that current public information is available about us for at least
90 days prior to the sale. After such person beneficially owns shares of our
common stock for a period of one year or more, the person is entitled to sell an
unlimited number of shares without complying with the public information
requirement or any of the other provisions of Rule 144. As of March 31, 2010,
all of our outstanding shares of common stock held by non-affiliates were
registered for resale, or eligible for resale under Rule 144.




16


Item
6. Selected Financial Data.




Not applicable.




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




You
should read the following discussion and analysis of our financial condition and
results of operations together with our financial statements and related notes
appearing elsewhere in this Annual Report on Form 10-K. Some of the information
contained in this discussion and analysis or set forth elsewhere in this Annual
Report on Form 10-K, including information with respect to our plans and
strategy for our business, includes forward-looking statements that involve
risks and uncertainties. You should review “Item 1A. Risk Factors” beginning on
page 10 of this Annual Report on Form 10-K for a discussion of important factors
that could cause actual results to differ materially from the results described
in or implied by the forward-looking statements contained in the following
discussion and analysis.




Recently, there has been a slowdown in
the economy, a decline in the availability of financing from the capital
markets, and a widening of credit spreads which has, or may in the future,
adversely affect us to varying degrees. Such conditions may impact our ability
to meet obligations to our suppliers and other third parties. These market
conditions could also adversely affect the amount of revenue we report, require
us to increase our allowances for losses, result in impairment charges and
valuation allowances that decrease our equity, increase our loss and reduce our
cash flows from operations. In addition, these conditions or events could impair
our credit rating and our ability to raise additional capital.





Overview





We derive
sales from selling energy in the form of electricity, heat, hot water and
cooling to our customers under long-term energy sales agreements (with a typical
term of 10 to 15 years). The energy systems are owned by us and are installed in
our customers’ buildings. Each month we obtain readings from our energy meters
to determine the amount of energy produced for each customer. We multiply these
readings by the appropriate published price of energy (electricity, natural gas
or oil) from our customers’ local energy utility, to derive the value of our
monthly energy sale, less the applicable negotiated discount. Our revenues per
customer on a monthly basis vary based on the amount of energy produced by our
energy systems and the published price of energy (electricity, natural gas or
oil) from our customers’ local energy utility that month. Our revenues commence
as new energy systems become operational. As of December 31, 2009, we had
62 energy systems operational. As a by-product of our energy business, in
some cases the customer may choose to have us construct the system for them
rather than have it owned by American DG Energy.





As a
by-product of our energy business, in some cases the customer may choose to have
us construct the system for them rather than have it owned by American DG
Energy. In this case, we account for revenue and costs using the
percentage-of-completion method of accounting. Under the
percentage-of-completion method of accounting, revenues are recognized by
applying percentages of completion to the total estimated revenues for the
respective contracts. Costs are recognized as incurred. The percentages of
completion are determined by relating the actual cost of work performed to date
to the current estimated total cost at completion of the respective contracts.
When the estimate on a contract indicates a loss, the company’s policy is to
record the entire expected loss, regardless of the percentage of completion. The
excess of contract costs and profit recognized to date on the
percentage-of-completion accounting method in excess of billings is recorded as
unbilled revenue. Billings in excess of related costs and estimated earnings is
recorded as deferred revenue. Customers may buy out their long-term obligation
under energy contracts and purchase the underlying equipment from the company.
Any resulting gain on these transactions is recognized over the payment period
in the accompanying consolidated statements of operations. Revenues from
operation and maintenance services, including shared savings are recorded when
provided and verified.





We have
experienced total net losses since inception of approximately $12.2 million. For
the foreseeable future, we expect to experience continuing operating losses and
negative cash flows from operations as our management executes our current
business plan. The cash and cash equivalents available at December 31, 2009 will
provide sufficient working capital to meet our anticipated expenditures
including installations of new equipment for the next twelve months; however, as
we continue to grow our business by adding more energy systems, the cash
requirements will increase. We believe that our cash and cash equivalents
available at December 31, 2009 and our ability to control certain costs,
including those related to general and administrative expenses, will enable us
to meet our anticipated cash expenditures through January 1, 2011. Beyond
January 1, 2011, we may need to raise additional capital through a debt
financing or equity offering to meet our operating and capital needs. There can
be no assurance, however, that we will be successful in our fundraising efforts
or that additional funds will be available on acceptable terms, if at
all.





17


In 2009,
we raised $6,310,525 through various private placements of common stock, the
issuance of warrants and exercise of stock options. If we are unable to raise
additional capital in 2011 we may need to terminate certain of our employees and
adjust our current business plan. Financial considerations may cause us to
modify planned deployment of new energy systems and we may decide to suspend
installations until we are able to secure additional working capital. We will
evaluate possible acquisitions of, or investments in, businesses, technologies
and products that are complementary to our business; however, we are not
currently engaged in such discussions.




The
company’s operations are comprised of one business segment. Our business is
selling energy in the form of electricity, heat, hot water and cooling to our
customers under long-term sales agreements.




Recent
Accounting Pronouncements





In
December 2007, the Financial Accounting Standards Board, or FASB issued guidance
on changes in the accounting and reporting of business acquisitions. The
guidance requires an acquirer to recognize the assets acquired, the liabilities
assumed, and any noncontrolling interest in purchased entities, measured at
their fair values at the date of acquisition based upon the definition of fair
value. This guidance was effective for the company beginning January 1, 2009.
The guidance had no impact on the company’s consolidated financial statements
and any future effect will depend on the extent that the company makes business
acquisitions in the future.





In
December 2007, the FASB issued new rules on noncontrolling interests in
consolidated financial statements. The noncontrolling interest guidance changed
the accounting for minority interests, which are reclassified as noncontrolling
interests and classified as a component of equity. This guidance was effective
for the company beginning January 1, 2009, and resulted in a change in
presentation of minority interests in the consolidated financial statements
consistent with the new rules.





In September, 2006, the FASB issued
guidance which defines fair value, establishes a framework for measuring fair
value, and expands disclosures about fair value measurements. In February, 2008,
the FASB delayed the effective date of the fair value guidance for all
non-financial assets and non-financial liabilities, except those that are
measured on a recurring basis. Effective January 1, 2009, the Company adopted
fair value guidance with respect to non-financial assets and liabilities
measured on a non-recurring basis. The adoption of this guidance did not have an
impact on the Company’s financial position or results of
operations.





In March
2008, the FASB issued a pronouncement pertaining to disclosures about derivative
instruments and hedging activities. This guidance requires disclosures of how
and why an entity uses derivative instruments; how derivative instruments and
related hedged items are accounted for; and how derivative instruments and
related hedged items affect an entity’s financial position, financial
performance and cash flows. The rule was effective for the company beginning
January 1, 2009. The company does not expect the guidance to have a material
impact on its results of operations and financial condition.





In April
2009, the FASB issued guidance on providing interim disclosures about fair value
of financial instruments. This new guidance requires the fair value disclosures
that were previously disclosed only annually to be disclosed now on an interim
basis. This guidance was effective for the company in the second quarter of
2009, and has resulted in additional disclosures in our interim financial
statements, and therefore did not impact our financial position, results of
operations or cash flows.





In May
2009, the FASB issued a pronouncement on subsequent event accounting. The
guidance identifies the following: the period after the balance sheet date
during which management shall evaluate events or transactions that may occur for
potential recognition or disclosure in the financial statements; the
circumstances under which an entity shall recognize events or transactions
occurring after the balance sheet date in its financial statements; and the
disclosures that an entity shall make about events or transactions that occurred
after the balance sheet date. The pronouncement was effective for the company’s
second quarter 2009, and did not have an impact on our financial position,
results of operations, or cash flows.





In June
2009, the FASB issued guidance on the FASB Accounting Standards Codification and
the hierarchy of generally accepted accounting principles. The FASB Accounting
Standards Codification, or the Codification, is the single source of
authoritative nongovernmental generally accepted accounting principles in the
U.S. The Codification was effective for interim and annual periods ending after
September 15, 2009. The adoption of the Codification had no impact on the
company’s financial position, results of operations or cash flows.





In June,
2009 the FASB updated existing guidance to improve financial reporting by
enterprises involved with variable interest entities. The new guidance requires
an enterprise to perform an analysis to determine whether the enterprise’s
variable interest(s) give it a controlling financial interest in a variable
interest entity. This guidance is effective for the company beginning in January
2010. The company does not believe adoption of this guidance will have a
material effect on its consolidated financial statements.





18


In
September 2009, the Emerging Issues Task Force issued new rules pertaining to
the accounting for revenue arrangements with multiple deliverables. The new
rules provide an alternative method for establishing fair value of a deliverable
when vendor specific objective evidence cannot be determined. The guidance
provides for the determination of the best estimate of selling price to separate
deliverables and allows the allocation of arrangement consideration using this
relative selling price model. The guidance supersedes the prior multiple element
revenue arrangement accounting rules that are currently used by the company.
This guidance is effective for us January 1, 2011 and is not expected to have a
material effect on our consolidated financial position or results of
operations.





Critical
Accounting Policies





The
preparation of financial statements in conformity with accounting principles
generally accepted in the U.S. requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements, the reported amounts of revenues and expenses
during the reporting period, and the disclosure of contingent assets and
liabilities at the date of the financial statements. Actual results could differ
from those estimates. Management believes the following critical accounting
policies involve more significant judgments and estimates used in the
preparation of our consolidated financial statements.




Partnerships,
Joint Ventures and Entities under Common Control




Certain
contracts are executed jointly through partnerships and joint ventures with
unrelated third parties. The company consolidates all joint ventures and
partnerships in which it owns, directly or indirectly, 50% or more of the
membership interests. All significant intercompany accounts and transactions are
eliminated. Noncontrolling interest in net assets and earnings or losses of
consolidated entities are reflected in the caption “Noncontrolling interest” in
the accompanying consolidated financial statements. Noncontrolling interest
adjusts the consolidated results of operations to reflect only the company’s
share of the earnings or losses of the consolidated entities. Upon dilution of
ownership below 50%, the accounting method is adjusted to the equity or cost
method of accounting, as appropriate.





The
company evaluates the applicability of the FASB, guidance on variable interest
entities to partnerships and joint ventures at the inception of its
participation to ensure its accounting is in accordance with the appropriate
standards. The company has contractual interests in Tecogen and determined that
Tecogen was a Variable Interest Entity, as defined by the applicable guidance;
however, the company was not considered the primary beneficiary and does not
have any exposure to loss as a result of its involvement with Tecogen.
Therefore, Tecogen was not consolidated in our consolidated financial statements
through December 31, 2009. See “Note 7 - Related Parties” for further
discussion.




The
company has a variable interest in Tecogen through its contractual interests in
that entity; however, the company is not the primary beneficiary and does not
have any exposure to loss as a result of its involvement with Tecogen. See “Note
7 - Related Parties” footnote to the company’s consolidated financial statement
for discussion of the company’s involvement with Tecogen.




Related
Party Transactions





The
company purchases the majority of its cogeneration units from Tecogen Inc., or
Tecogen, an affiliate company sharing similar ownership. In addition, Tecogen
pays certain operating expenses, including benefits and payroll, on behalf of
the company and the company leases office space from Tecogen. These costs were
reimbursed by the company. Tecogen has a sublease agreement for the office
building, which expires on March 31, 2014.





In
January 2006, the company entered into the 2006 Facilities, Support Services and
Business Agreement, or the Agreement, with Tecogen, to provide the company with
certain office and business support services for a period of one year, renewable
annually by mutual agreement. Under the current amendment to the Agreement,
Tecogen provides the company with office space and utilities at a monthly rate
of $5,526.




On
February 15, 2007, the company loaned the non controlling interest partner in
ADGNY $20,000 by signing a two year loan agreement earning interest at 12% per
annum. On April 1, 2007, the company loaned an additional $75,000 to the same
non controlling partner by signing a two year note agreement earning interest at
12% per annum, and on May 16, 2007, the company loaned an additional $55,000 to
the same partner by signing a two year note agreement under the same
terms.  On October 11, 2007, we extended to our non controlling interest
partner a line of credit of $500,000. At December 31, 2008, $265,012 was
outstanding and due to the company under the combination of the above
agreements. All notes were classified in the Due from related party account
in the December 31, 2008 balance sheet and were secured by the partner’s non
controlling interest. Effective April 1, 2009 the company reached an
agreement with the noncontrolling interest partner in ADGNY to purchase its
interest in the Riverpoint location. As a result of this transaction, the
company owns 100% of that location and the noncontrolling interest partners’
share of that location was applied to his outstanding debt to the company
related to the above mentioned loan agreements and line of
credit. Additionally, in 2009 ADGNY financed capital improvements at
several projects, which per project agreements was the responsibility of the
noncontrolling interest partner. This further reduced the noncontrolling
interest partner’s noncontrolling interest in ADGNY. The result of these
transactions appears as “Ownership changes to noncontrolling interests” in the
amount of $405,714 in the accompanying consolidated statement of stockholder’s
equity for the year ended December 31, 2009.





19


On
October 22, 2009, the company signed a five-year exclusive distribution
agreement with Ilios Dynamics, a subsidiary of Tecogen. Under terms of the
agreement, the company has exclusive rights to incorporate Ilios Dynamics’ ultra
high-efficiency heating products in its energy systems throughout the European
Union and New England. The company also has non-exclusive rights to distribute
Ilios Dynamics’ product in the remaining parts of the United States and the
world in cases where the company retains ownership of the equipment for its
On-Site Utility business.





During
the quarter ended September 30, 2009, the non-controlling interest partner in
ADGNY, a related party, purchased certain units and supporting equipment from
the company for $370,400. That amount, as of December 31, 2009, was classified
as “Due from related party” in the accompanying balance sheet. The cost of the
units and supporting equipment was $208,225 and the company booked a profit of
$162,175.





On
December 17, 2009, the company entered into a revolving line of credit
agreement, or the agreement, with John N. Hatsopoulos, the company’s Chief
Executive Officer. Under the terms of the agreement, during the period extending
to December 31, 2012, Mr. Hatsopoulos will lend to the company on a revolving
line of credit basis a principal amount up to $5,000,000. All sums advanced
pursuant to this agreement shall bear interest from the date each advance is
made until paid in full at the Bank Prime Rate as quoted from time to time in
the Wall Street Journal plus 1.5% per year. Interest shall be due and payable
quarterly in arrears and prepayment of principal, together with accrued
interest, may be made at any time without penalty. As of December 31, 2009, the
company has not drawn funds on this line of credit.





The
company’s Chief Financial Officer devotes part of his business time to the
affairs of GlenRose Instruments Inc., or GlenRose, and part of his salary is
reimbursed by GlenRose. Also, the company’s Chief Executive Officer is the
Chairman of the Board and a significant investor in GlenRose and does not
receive a salary, bonus or any other compensation from GlenRose.





Property
and Equipment and Depreciation and Amortization




Property
and equipment are stated at cost. Depreciation and amortization are computed
using the straight-line method at rates sufficient to write off the cost of the
applicable assets over their estimated useful lives. Repairs and maintenance are
expensed as incurred. The company receives rebates and incentives from various
utility companies which are accounted as a reduction in the book value of the
assets.




The
company evaluates the recoverability of its long-lived assets by comparing the
net book value of the assets to the estimated future undiscounted cash flows
attributable to such assets. If impairment is indicated, the asset is written
down to its estimated fair value based on a discounted cash flow analysis. The
company reviews long-lived assets for impairment annually or whenever events or
changes in business circumstances indicate that the carrying value of the assets
may not be fully recoverable or that the useful lives of the assets are no
longer appropriate. At December 31, 2009 the company determined that its
long-lived assets are recoverable.




Stock
Based Compensation




Stock
based compensation cost is measured at the grant date based on the estimated
fair value of the award and is recognized as an expense in the statement of
operations over the requisite service period. The fair value of stock options
granted is estimated using the Black-Scholes option pricing valuation model. The
company recognizes compensation on a straight-line basis for each separately
vesting portion of the option award. Use of a valuation model requires
management to make certain assumptions with respect to selected model inputs.
Expected volatility is calculated based on the average volatility of 20
companies in the same industry as the company. The average expected life is
estimated using the simplified method for “plain vanilla” options. The expected
life in years is based on the “simplified” method. The simplified method
determines the expected life in years based on the vesting period and
contractual terms as set forth when the award is made. The company uses the
simplified method for awards of stock-based compensation since it does not have
the necessary historical exercise and forfeiture data to determine an expected
life for stock options. The risk-free interest rate is based on U.S. Treasury
zero-coupon issues with a remaining term which approximates the expected life
assumed at the date of grant. When options are exercised the company normally
issues new shares.





20


Revenue
Recognition





Revenue from energy contracts is
recognized when electricity, heat, and chilled water is produced by the
cogeneration systems on-site. The company bills each month based on various
meter readings installed at each site. The amount of energy produced by on-site
energy systems is invoiced, as determined by a contractually defined formula.
Under certain energy contracts, the customer directly acquires the fuel to power
the systems and receives credit for that expense from the company. The credit is
recorded as revenue and cost of fuel. When a sales arrangement contains multiple
elements, revenue is allocated to each element based upon its relative fair
value. Fair value is determined based on the price of a deliverable sold on a
standalone basis.





As a
by-product of our energy business, in some cases the customer may choose to have
us construct the system for them rather than have it owned by American DG
Energy. In this case, we account for revenue and costs using the
percentage-of-completion method of accounting. Under the
percentage-of-completion method of accounting, revenues are recognized by
applying percentages of completion to the total estimated revenues for the
respective contracts. Costs are recognized as incurred. The percentages of
completion are determined by relating the actual cost of work performed to date
to the current estimated total cost at completion of the respective contracts.
When the estimate on a contract indicates a loss, the company’s policy is to
record the entire expected loss, regardless of the percentage of completion. The
excess of contract costs and profit recognized to date on the
percentage-of-completion accounting method in excess of billings is recorded as
unbilled revenue. Billings in excess of related costs and estimated earnings is
recorded as deferred revenue. Customers may buy out their long-term obligation
under energy contracts and purchase the underlying equipment from the company.
Any resulting gain on these transactions is recognized over the payment period
in the accompanying consolidated statements of operations. Revenues from
operation, including shared savings are recorded when provided and verified.
Maintenance service revenue is recognized over the term of the agreement and is
billed on a monthly basis in arrears.





Income
Taxes




As part
of the process of preparing our consolidated financial statements, we are
required to estimate our income taxes in each of the jurisdictions in which we
operate. This process involves us estimating our actual current tax exposure
together with assessing temporary differences resulting from differing treatment
of items, such as depreciation and certain accrued liabilities for tax and
accounting purposes. These differences result in deferred tax assets and
liabilities, which are included within our consolidated balance sheet. We must
then assess the likelihood that our deferred tax assets will be recovered from
future taxable income and to the extent we believe that recovery is not likely,
we must establish a valuation allowance.




Significant
management judgment is required in determining our provision for income taxes,
our deferred tax assets and liabilities and any valuation allowance recorded
against our deferred tax assets. As of December 31, 2009, there was no deferred
income tax asset on our books. We recorded a valuation allowance of $4,224,000
against the entire gross deferred income tax asset due to uncertainties related
to our ability to utilize our net operating loss carry forwards before they
expire. The valuation allowance is based on our estimates of taxable income by
jurisdiction in which we operate and the period over which our deferred tax
assets will be recoverable. In the event that actual results differ from these
estimates or we adjust these estimates in future periods, we may need to
establish an additional valuation allowance which could materially impact our
financial position and results of operations.




Results
of Operations for the Years Ended December 31, 2009 and December 31,
2008





Fiscal
2009 Compared with Fiscal 2008





Revenues





Revenues
in 2009 were $5,763,827 compared to $6,579,437 for the same period in 2008, a
decrease of $815,610 or 12.4%. The decrease in revenue was due to a decrease in
our turn-key installation projects that in 2009 decreased to $1,130,839 compared
to $1,434,932, for the same period in 2008, and our On-Site Utility energy
revenues that in 2009 decreased to $4,632,988 compared to $5,144,505 for the
same period in 2008, a decrease of 9.9%. The decrease in our turn-key
installation projects revenue was caused by the construction of fewer projects.
The decrease in our core On-Site Utility energy revenues was primarily caused by
significantly lower natural gas prices in our existing markets which translated
into lower hot water revenue.





21


During
2009, we were operating 62 energy systems at 36 locations in the Northeast,
representing 4,210 kW of installed electricity plus thermal energy, compared to
56 energy systems at 30 locations, representing 4,240 kW of installed
electricity plus thermal energy for the same period in 2008. Our revenues per
customer on a monthly basis is based on the sum of the amount of energy produced
by our energy systems and the published price of energy (electricity, natural
gas or oil) from our customers’ local energy utility that month less the
discounts we provide our customers. Our revenues commence as new energy systems
become operational.





Cost
of Sales





Cost of
sales, including depreciation, in 2009 were $4,677,323 compared to $5,733,175
for the same period in 2008, a decrease of $1,055,852 or 18.4%. Included in the
cost of sales was depreciation expense of $788,885 in 2009, compared to $596,915
for the same period in 2008. Our cost of sales for our core On-Site Utility
business consists of fuel required to operate our energy systems, the cost of
maintenance, and minimal communications costs. During 2009, our gross margins
were 18.9% compared to 12.9% for the same period in 2008, primarily due to lower
cost of natural gas which is the majority of our cost of goods. Our On-Site
Utility energy margins excluding depreciation were 31.4% in 2009 compared to
27.7% for the same period in 2008.





Operating
Expenses





Our
general and administrative expenses consist of executive staff, accounting and
legal expenses, office space, general insurance and other administrative
expenses. Our general and administrative expenses in 2009 were $1,546,743
compared to $1,504,968 for the same period in 2008, an increase of $41,775 or
2.8%. Those expenses include non-cash compensation expense related to the
issuance of restricted stock and option awards to our employees and an expense
of $76,875 for original listing fees to the NYSE Amex.





Our
selling expenses consist of sales staff, commissions, marketing, travel and
other selling related expenses including provisions for bad debt write-offs. We
sell energy using both direct sales and commissioned agents. Our marketing
efforts consisted of trade shows, print literature, media relations and event
driven direct mail. Our selling expenses in 2009 were $850,975 compared to
$533,874 for the same period in 2008, an increase of $317,101 or 59.4%. The
increase in our selling expenses was primarily due to the addition of a new
salesperson, the additional commission paid to our outside sales agents and an
increase in bad debt expense related to three of our On-Site Utility
sites.





Our
engineering expenses consisted of technical staff and other engineering related
expenses. The role of engineering is to evaluate potential customer sites based
on technical and economic feasibility, manage the installed base of energy
systems and oversee each new installation project. Our engineering expenses in
2009 were $642,858 compared to $401,361 for the same period in 2008, an increase
of $241,497 or 60.2%. The increase in our engineering expenses was primarily due
to the addition of an engineer and travel expenses to our energy
sites.





Loss
from Operations





The loss
from operations in 2009 was $1,954,072 compared to $1,593,941for the same period
in 2008. The increase in the operating loss was affected by higher operating
expenses. Our non-cash compensation expense related to the issuance of
restricted stock and option awards to our employees was $286,844 in 2009,
compared to $364,231 for the same period in 2008.





Other
Income (Expense), Net





Our other
income (expense), net, in 2009 was $366,359 compared to $334,717 for the same
period in 2008. Other income (expense), net, includes interest income, interest
expense and other items. Interest and other income was $71,185 in 2009 compared
to $139,690 for the same period in 2008. The decrease was primarily due to lower
yields on our invested funds. Interest expense was $437,544 in 2009 compared to
$474,407 for the same period in 2008, due to less interest paid on our
convertible debenture issued in 2006 because of conversions.





Provision
for Income Taxes





Our
provision for state income taxes in 2009 was $7,450 compared to $34,087 for the
same period in 2008. No benefit for Federal taxes to the company’s losses has
been provided in either period.





22




Noncontrolling
Interest




The
noncontrolling interest share in the profits in ADGNY was $202,684 in 2009
compared to $305,336 for the same period in 2008. The decrease in noncontrolling
interest is due to the overall decrease in joint venture volume and profits and
due to changes in ownership structure of underlying joint partners. In 2009, the
company made a distribution of $333,704 to the noncontrolling interest
partner.




Liquidity
and Capital Resources





Consolidated
working capital at December 31, 2009 was $4,132,378, compared to $3,477,991 at
December 31, 2008. Included in working capital were cash, cash equivalents and
short-term investments of $3,828,143 at December 31, 2009, compared to
$2,445,112 at December 31, 2008. The increase in working capital was a result of
additional funds raised during the year, offset by cash needed to fund
operations.





Cash
used by operating activities was $648,816 in 2009 compared to $1,227,183 for the
same period in 2008. The company’s short and long-term receivables balance,
including unbilled revenue, decreased to $665,319, in 2009 compared to
$1,046,319 at December 31, 2008, providing $381,000 of cash. The decrease was
due to reduced revenue during the year. Amount due to the company from related
parties, increased to $370,400 in 2009 compared to $297,417 at December 31,
2008, using $72,983 of cash. The increase was due to an increase in debt by our
noncontrolling interest partner as a result of purchased certain units and
supporting equipment from the company. Our inventory increased to $379,303 in
2009 compared to 355,852 at December 31, 2008, using $23,451 of cash. Our
prepaid and other current assets decreased to $104,119 in 2009 compared to
$163,121 at December 31, 2008, providing $59,002 of cash.





Accounts
payable increased to $740,474 in 2009, compared to $270,852 at December 31,
2008, providing $469,622 of cash. Our accrued expenses and other current
liabilities including accrued interest expense increased to $453,536 in 2009
compared to $384,340 at December 31, 2008, providing $69,196 of cash, offset by
an accrual of $106,400 for future interest payments. Our due to related party
decreased to $17,531 in 2009, compared to $166,560 at December 31, 2008, using
$149,029 of cash.





During
2009, the primary investing activities of the company’s operations were
expenditures for the purchase of property, plant and equipment for the company’s
energy system installations. The company used $4,171,867 for purchases and
installation of energy systems and received $232,483 in rebates and incentives.
The company’s short-term investments provided $82,693 of cash as our funds
invested in certificates of deposits matured and converted into cash. The
company’s financing activities provided $5,971,231 of cash in 2009 from the sale
of common stock, exercise of common stock warrants and stock options, offset by
distributions to our noncontrolling interest partner and payments on capital
lease obligations. In December 2009, the company entered into a revolving line
of credit agreement with John N. Hatsopoulos, the company’s Chief Executive
Officer, to lend to the company an amount of up to $5,000,000. As of December
31, 2009, the company has not drawn funds on this line of credit.





The
company’s On-Site Utility energy program allows customers to reduce both their
energy costs and site carbon production by deploying CHP technology on its
customers’ premises at no cost. Therefore the company is capital intensive. The
company believes that its existing resources, including cash and cash
equivalents and future cash flow from operations, are sufficient to meet the
working capital requirements of its existing business for the foreseeable
future, including the next 12 months. We believe that our cash and cash
equivalents and our ability to control certain costs, including those related to
general and administrative expenses, will enable us to meet our anticipated cash
expenditures through the end of 2010. Beyond January 1, 2011, as we continue to
grow our business by adding more energy systems, our cash requirements will
increase. We may need to raise additional capital through a debt financing or an
equity offering to meet our operating and capital needs for future
growth.





Our ability to continue to access
capital could be impacted by various factors including general market conditions
and the continuing slowdown in the economy, interest rates, the perception of
our potential future earnings and cash distributions, any unwillingness on the
part of lenders to make loans to us and any deterioration in the financial
position of lenders that might make them unable to meet their obligations to us.
If these conditions continue and we cannot raise funds through a public or
private debt financing, or an equity offering, our ability to grow our business
may be negatively affected. In such case, the company may need to suspend any
new installation of energy systems and significantly reduce its operating costs
until market conditions improve.





23


Seasonality




The
majority of our heating systems sales are in the winter and the majority of our
chilling systems sales are in the summer.




Inflation





We install, maintain, finance, own and
operate complete on-site CHP systems that supply, on a long-term, contractual
basis, electricity and other energy services. We sell the energy to customers at
a guaranteed discount rate to the rates charged by conventional utility
suppliers. Our customers benefit from a reduction in their current energy bills
without the capital costs and risks associated with owning and operating a CHP
or chiller system. Inflation will cause an increase in the rates charged by
conventional utility suppliers, and since we bill our customers based on the
electric utility rates, our pricing will increase in tandem and positively
affect our revenue. However, inflation might cause both our investment and cost
of goods sold to increase, therefore lowering our return on investment and
depressing our gross margins.




Off
Balance Sheet Arrangements




The
company has no material off balance sheet arrangements.




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




Not
applicable.




24


Item
8. Financial Statements and Supplementary Data.




The information required by this item
is included in Item 15 of this Annual Report on Form 10-K.





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





None





Item
9A(T).  Controls and Procedures.





Management’s
Evaluation of Disclosure Controls and Procedures:





Our Chief
Executive Officer and Chief Financial Officer, after evaluating the
effectiveness of our disclosure controls and procedures as of the end of the
period covered by this report, or the Evaluation Date, have concluded that as of
the Evaluation Date, our Disclosure Controls were not effective to provide
reasonable assurance that information required to be disclosed in our reports
filed or submitted under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified by the Securities and Exchange
Commission, and that material information relating to our company and any
consolidated subsidiaries is made known to management, including our Chief
Executive Officer and Chief Financial Officer, particularly during the period
when our periodic reports are being prepared to allow timely decisions regarding
required disclosure.





Changes
in Internal Control over Financial Reporting:





In
connection with the evaluation referred to in the foregoing paragraph, we have
made changes in our internal controls over financial reporting during the period
ended December 31, 2009. We hired a consultant to review existing controls and
review recent updates and changes to the company’s documentation to ensure that
any process or control changes are properly identified and documented, including
updating the company’s existing risk matrix. The engagement included the
creation of testing plans based upon the current state of processes and key
controls and the identification of areas for process improvements and
documentation updates. The company has already implemented many of the
recommended processes.





Report
of Management on Internal Control over Financial Reporting:





The
management of the company is responsible for establishing and maintaining
adequate internal control over financial reporting in accordance with the
Exchange Act. Management conducted an evaluation of our internal control over
financial reporting based on the framework and criteria established in Internal Control—Integrated
Framework, issued by the Committee of Sponsoring Organizations of the
Treadway Commission. This evaluation included review of the documentation of
controls, evaluation of the design effectiveness of controls, testing of the
operating effectiveness of controls and a conclusion of this evaluation. Based
on this evaluation, management concluded that the company’s internal control
over financial reporting was not effective as of December 31, 2009.





The
company had thirteen active full-time employees and two part-time employees as
of December 31, 2009. The company currently does not have personnel with a
sufficient level of accounting knowledge, experience and training in the
selection, application and implementation of generally acceptable accounting
principles as it relates to complex transactions and financial reporting
requirements. The company also has a small number of employees dealing with
general controls over information technology security and user access. This
constitutes a material weakness in financial reporting. At this time, management
has decided that considering the employees involved and the control procedures
in place, there are risks associated with the above, but the potential benefits
of adding additional employees to mitigate these weaknesses, does not justify
the expenses associated with such increases. Management will continue to
evaluate the above weaknesses.





The company reported in previous
periods the lack of segregation of duties as a material weakness in financial
reporting. The company hired a consultant to review its existing controls and
propose changes to the company’s procedures to proper segregation of duties.
Based on the consultant’s recommendation, the company has put procedures in
place and has trained additional personnel to mitigate the risk. Management
believes the previous weakness in financial reporting due to the lack of
segregation of duties has been remediated.





Our
management, including our Chief Executive Officer and Chief Financial Officer,
do not expect that our Disclosure Controls or our internal control over
financial reporting will prevent or detect all error and all fraud. A control
system, no matter how well designed and operated, can provide only reasonable,
not absolute, assurance that the control system’s objectives will be met. The
design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Further, because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that misstatements due to
error or fraud will not occur or that all control issues and instances of fraud,
if any, within the company have been detected. These inherent limitations
include the realities that judgments in decision-making can be faulty and that
breakdowns can occur because of simple error or mistake. Controls can also be
circumvented by the individual acts of some persons, by collusion of two or more
people, or by management override of the controls. The design of any system of
controls is based in part on certain assumptions about the likelihood of future
events, and there can be no assurance that any design will succeed in achieving
its stated goals under all potential future conditions. Projections of any
evaluation of controls effectiveness to future periods are subject to risks.
Over time, controls may become inadequate because of changes in conditions or
deterioration in the degree of compliance with policies or
procedures.





25


This
Annual Report on Form 10-K does not include an attestation report of the
company’s registered public accounting firm regarding internal control over
financial reporting. Management’s report was not subject to attestation by the
company’s registered public accounting firm pursuant to temporary rules of the
Securities and Exchange Commission that permit the company to provide only
management’s report in this Annual Report on Form 10-K.





Item
9B.  Other Information.





None.





26




PART
III




Item
10. Directors, Executive Officers and Corporate Governance.




The
information required by Item 10 is incorporated by reference to the our
definitive Proxy Statement for our 2010 annual meeting of shareholders, or our
Proxy Statement, which will be filed not later than 120 days after the end of
our fiscal year.





Item
11. Executive Compensation.




The
information required by Item 11 is incorporated by reference to the Proxy
Statement, which will be filed not later than 120 days after the end of our
fiscal year.





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




The
information required by Item 12 is incorporated by reference to the Proxy
Statement, which will be filed not later than 120 days after the end of our
fiscal year.





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





The
information required by Item 13 is incorporated by reference to the Proxy
Statement, which will be filed not later than 120 days after the end of our
fiscal year.





Item
14.  Principal Accountant Fees and Services.




The
information required by Item 14 is incorporated by reference to the Proxy
Statement, which will be filed not later than 120 days after the end of our
fiscal year.




27





PART
IV




Item
15.  Exhibitsand Financial Statement
Schedules.




(a)
            Index To Financial
      Statementsand Financial
      Statements Schedules:




Report of
Independent Registered Public Accounting Firm Caturano and Company, P.C. as of
March 31, 2010





Consolidated
Balance Sheets as of December 31, 2009 and December 31, 2008





Consolidated
Statements of Operations for the years ended December 31, 2009 and December 31,
2008





Consolidated
Statements of Stockholders’ Equity for the years ended December 31, 2009 and
December 31, 2008





Consolidated
Statements of Cash Flows for the years ended December 31, 2009 and December 31,
2008





Notes to
Consolidated Financial Statements





All other
schedules for which provision is made in the applicable accounting regulations
of the SEC are not required under the related instructions, or are inapplicable,
and therefore have been omitted.




28




b) Exhibits




Exhibit
                Number
              
              Description3.1
              
              Certificate
      of Incorporation, as amended and restated December 9, 2009 (incorporated
      by reference to the registrant’s Form S-3, as amended, originally filed
      with the SEC on December 23, 2009).3.2
              
              By-laws,
      as amended and restated August 31, 2009 (incorporated by reference to the
      registrant’s Form S-3, as amended, originally filed with the SEC on
      December 23, 2009).4.1
              
              Form
      of Warrant (incorporated by reference to the registrant’s Form 10-SB, as
      amended, originally filed with the SEC on November 2,
    2006).4.2
              
              Warrant
      to Purchase Shares of Common Stock dated February 24, 2009 (incorporated
      by reference to the registrant’s current report on Form 8-K, filed with
      the SEC on February 26, 2009).10.1
              
              Audit
      Committee Charter, as amended October 13, 2009 (incorporated by reference
      to the registrant’s Form S-3, as amended, originally filed with the SEC on
      December 23, 2009).10.2
              
              Compensation
      Committee Charter (incorporated by reference to the registrant’s Form
      10-SB, as amended, originally filed with the SEC on November 2,
      2006).10.3
              
              Nominating
      and Governance Committee Charter dated August 31, 2009 (incorporated by
      reference to the registrant’s Form S-3, as amended, originally filed with
      the SEC on December 23, 2009).10.4
              
              American
      Distributed Generation Inc. 2001 Stock Incentive Plan (incorporated by
      reference to the registrant’s Form 10-SB, as amended, originally filed
      with the SEC on November 2, 2006).10.5*
              
              2005
      Stock Incentive Plan (incorporated by reference to our definitive proxy
      statement for the 2008 Annual Meeting of shareholders originally filed
      with the SEC on April 29, 2008).10.6
              
              Facilities,
      Support Services and Business Agreement with Tecogen Inc. (incorporated by
      reference to the registrant’s Form 10-SB, as amended, originally filed
      with the SEC on November 22, 2006. Confidential treatment has been granted
      for portions of this document. The confidential portions have been omitted
      and have been filed separately, on a confidential basis, with the
      SEC).10.7
              
              Amendment
      to Facilities, Support Services and Business Agreement with Tecogen Inc.
      dated April 1, 2008 (incorporated by reference to the registrant’s Form
      10-Q, filed with the SEC on May 14, 2008, for the quarter ended March 31,
      2008).10.8
              
              Amendment
      No. 2 to Facilities, Support Services and Business Agreement with Tecogen
      Inc. dated May 15, 2008 (incorporated by reference to the registrant’s
      Form 10-K, originally filed, filed with the SEC on March 20,
      2009).10.9
              
              Amendment
      No. 3 to Facilities, Support Services and Business Agreement with Tecogen
      Inc. dated January 2, 2009 (incorporated by reference to the registrant’s
      Form 10-K, originally filed, filed with the SEC on March 20,
      2009).10.10
              
              Operating
      Agreement of American DG New York LLC (incorporated by reference to the
      registrant’s Form 10-SB, as amended, originally filed with the SEC on
      November 22, 2006).10.11
              
              Form
      of Energy Purchase Agreement (incorporated by reference to the
      registrant’s Form 10-SB, as amended, originally filed with the SEC on
      November 2, 2006).10.12
              
              Form
      of Subscription Agreement for private placement of common stock for
      American Distributed Generation Inc. (incorporated by reference to the
      registrant’s Form S-3, as amended, originally filed with the SEC on
      December 23, 2009).10.13*
              
              Restricted
      Stock Purchase Agreement with Charles T. Maxwell dated February 20, 2007
      (incorporated by reference to the registrant’s Form S-3, as amended,
      originally filed with the SEC on December 23, 2009).10.14
              
              Form
      of 8% Senior Convertible Debenture Due 2011 (incorporated by reference to
      the registrant’s Form 10-SB, as amended, originally filed with the SEC on
      November 2, 2006).
  29
  10.15
              
              Form
      of Subscription Agreement for private placement of common stock, February
      2007 (incorporated by reference to the registrant’s Form S-3, as amended,
      originally filed with the SEC on December 23, 2009).10.16
              
              Form
      of Warrant to purchase shares of common stock, dated February 24, 2009,
      entered into between the company and Daniel Barnett (incorporated by
      reference to the registrant’s current Form 8-K, originally filed with the
      SEC on February 26, 2009).10.17
              
              Form
      of Subscription Agreement for private placement of common stock, April
      2009 (incorporated by reference to the registrant’s current Form 8-K,
      originally filed with the SEC on April 27, 2009).10.18
              
              Form
      of Subscription Agreement for private placement of common stock, July 2009
      (incorporated by reference to the registrant’s current Form 8-K,
      originally filed with the SEC on July 27, 2009).10.19
              
              Form
      of Subscription Agreement for private placement of common stock, October
      2009 (incorporated by reference to the registrant’s Form S-3, as amended,
      originally filed with the SEC on December 23, 2009).10.20
              
              Warrant
      Agreement with Hayden IR dated October 1, 2009 (incorporated by reference
      to the registrant’s Form S-3, as amended, originally filed with the SEC on
      December 23, 2009).10.21
              
              Slide
      show presentation (incorporated by reference to the registrant’s current
      Form 8-K, originally filed with the SEC on December 9,
    2009).10.22
              
              Revolving
      Line of Credit Agreement with John N. Hatsopoulos (incorporated by
      reference to the registrant’s current Form 8-K, originally filed with the
      SEC on December 17, 2009).10.23#
              
              Amendment
      No. 4 to Facilities, Support Services and Business Agreement with Tecogen
      Inc. dated January 2, 2010.10.24#
              
              Letter
      to John N. Hatsopoulos dated February 22, 2010.14.1
              
              Code
      of Business Conduct and Ethics (incorporated by reference to the
      registrant’s Form 10-SB, as amended, originally filed with the SEC on
      November 2, 2006).16.1
              
              Letter
      on change in certifying accountant (incorporated by reference to, the
      company’s Form 10-SB, as amended, originally filed with the SEC on
      November 2, 2006).21.1
              
              List
      of subsidiaries (incorporated by reference to the registrant’s Form 10-SB,
      as amended, originally filed with the SEC on November 2,
      2006).23.2#
              
              Consent
      of Caturano and Company, P.C.31.1#
              
              Rule
      13a-14(a) Certification of Chief Executive Officer.31.2#
              
              Rule
      13a-14(a) Certification of Chief Financial Officer.32.1
              
              Section
      1350 Certifications of Chief Executive Officer and Chief Financial Officer
      (Furnished herewith).







#
            Filed
      herewith.




*
            Management
      contract or compensatory plan or
arrangement.




30




SIGNATURES




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




AMERICAN
      DG ENERGY INC.
                (Registrant)By:
              /s/
      JOHN N. HATSOPOULOSChief
      Executive Officer(Principal
      Executive Officer)




By:
              /s/
      ANTHONY S. LOUMIDISChief
      Financial Officer(Principal
      Financial Officer)




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




Signature
              
              Title
              
              Date/s/
      GEORGE N. HATSOPOULOS
              
              Chairman
      of the Board
              
              March
      31, 2010George
      N. Hatsopoulos/s/
      JOHN N. HATSOPOULOS
              
              Chief
      Executive Officer and Director
              
              March
      31, 2010John
      N. Hatsopoulos/s/
      ANTHONY S. LOUMIDIS
              
              Chief
      Financial Officer (Principal Financial
              
              March
      31, 2010Anthony
      S. Loumidis
              
              and
      Accounting Officer)/s/
      BARRY J. SANDERS
              
              President
      and Chief Operating Officer
              
              March
      31, 2010Barry
      J. Sanders/s/
      EARL R. LEWIS
              
              Director
              
              March
      31, 2010Earl
      R. Lewis/s/
      CHARLES T. MAXWELL
              
              Director
              
              March
      31, 2010Charles
      T. Maxwell/s/
      ALAN D. WEINSTEIN
              
              Director
              
              March
      31, 2010Alan
      D. Weinstein




31




Report
of Independent Registered Public Accounting Firm




To the
Board of Directors and Stockholders of


American
DG Energy Inc. and subsidiaries:




We have
audited the accompanying consolidated balance sheets of American DG Energy Inc.
and subsidiaries (collectively, the “Company”) as of December 31, 2009 and
December 31, 2008, and the related consolidated statements of operations,
stockholders’ equity, and cash flows for the years then ended. These financial
statements are the responsibility of the Company’s management. Our
responsibility is to express an opinion on the consolidated financial statements
based on our audits.




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




In our
opinion, the consolidated financial statements referred to above, present
fairly, in all material respects, the financial position of the Company at
December 31, 2009, and December 31, 2008, and the results of their operations
and their cash flows for the years then ended, in conformity with accounting
principles generally accepted in the United States of America.




As
discussed in Note 2 to the consolidated financial statements, effective January
1, 2009, the Company retrospectively adopted the presentation and disclosure
requirements of the Financial Accounting Standards Board Statement No. 160
“Non-Controlling Interests in Consolidated Financial Statements, an amendment of
ARB No.51” which is codified in Accounting Standards Codification
810.




/s/
      CATURANO AND COMPANY, P.C.Boston,
      MassachusettsMarch
      31, 2010





F-1




AMERICAN DG ENERGY INC. AND
SUBSIDIARIES


CONSOLIDATED
BALANCE SHEETS





December
      31,2009
            
            
            2008ASSETSCurrent
      assets:Cash
      and cash equivalents
            
            $
            3,149,222
            
            
            $
            1,683,498Short-term
      investments
            
            
            678,921
            
            
            
            761,614Accounts
      receivable, net
            
            
            518,379
            
            
            
            835,922Unbilled
      revenue
            
            
            146,940
            
            
            
            204,750Due
      from related party
            
            
            370,400
            
            
            
            297,417Inventory
            
            
            379,303
            
            
            
            355,852Prepaid
      and other current assets
            
            
            104,119
            
            
            
            163,121Total
      current assets
            
            
            5,347,284
            
            
            
            4,302,174Property,
      plant and equipment, net
            
            
            9,502,346
            
            
            
            6,627,540Accounts
      receivable, long- term
            
            
            -
            
            
            
            5,647TOTAL
      ASSETS
            
            
            14,849,630
            
            
            
            10,935,361LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilities:Accounts
      payable
            
            
            740,474
            
            
            
            270,852Accrued
      expenses and other current liabilities
            
            
            453,536
            
            
            
            384,340Due
      to related party
            
            
            17,531
            
            
            
            166,560Capital
      lease obligations
            
            
            3,365
            
            
            
            2,431Total
      current liabilities
            
            
            1,214,906
            
            
            
            824,183Long-term
      liabilities:Convertible
      debentures
            
            
            5,320,000
            
            
            
            5,875,000Capital
      lease obligations, long-term
            
            
            10,095
            
            
            
            14,394Total
      liabilities
            
            
            6,545,001
            
            
            
            6,713,577Stockholders’
      equity:American
      DG Energy Inc. shareholders’ equity:Common
      stock, $0.001 par value; 100,000,000 sharesauthorized;
      37,676,817 and 34,034,496 issued and outstandingat
      December 31, 2009 and December 31, 2008, respectively
            
            
            37,677
            
            
            
            34,034Additional
      paid- in- capital
            
            
            19,725,793
            
            
            
            12,614,332Common
      stock subscription
            
            
            -
            
            
            
            (35,040
            )Accumulated
      deficit
            
            
            (12,239,110
            )
            
            
            (9,708,545
            )Total
      American DG Energy Inc. stockholders’ equity
            
            
            7,524,360
            
            
            
            2,904,781Noncontrolling
      interest
            
            
            780,269
            
            
            
            1,317,003Total
      stockholders’ equity
            
            
            8,304,629
            
            
            
            4,221,784TOTAL
      LIABILITIES AND STOCKHOLDERS’ EQUITY
            
            $
            14,849,630
            
            
            $
            10,935,361




See
accompanying notes to consolidated financial statements




F-2




AMERICAN
DG ENERGY INC. AND SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF OPERATIONS




December
      31,2009
            
            
            2008Net
      Sales
            
            $
            5,763,827
            
            
            $
            6,579,437Cost
      of salesFuel,
      maintenance and installation
            
            
            3,888,438
            
            
            
            5,136,260Depreciation
      expense
            
            
            788,885
            
            
            
            596,9154,677,323
            
            
            
            5,733,175Gross
      profit
            
            
            1,086,504
            
            
            
            846,262Operating
      expensesGeneral
      and administrative
            
            
            1,546,743
            
            
            
            1,504,968Selling
            
            
            850,975
            
            
            
            533,874Engineering
            
            
            642,858
            
            
            
            401,3613,040,576
            
            
            
            2,440,203Loss
      from operations
            
            
            (1,954,072
            )
            
            
            (1,593,941
            )Other
      income (expense)Interest
      and other income
            
            
            71,185
            
            
            
            139,690Interest
      expense
            
            
            (437,544
            )
            
            
            (474,407
            )(366,359
            )
            
            
            (334,717
            )Loss,
      before income taxes
            
            
            (2,320,431
            )
            
            
            (1,928,658
            )Provision
      for state income taxes
            
            
            (7,450
            )
            
            
            (34,087
            )Consolidated
      net loss
            
            
            (2,327,881
            )
            
            
            (1,962,745
            )-Less:
      Income attributable to the noncontrolling interest
            
            
            (202,684
            )
            
            
            (305,336
            )Net
      loss attributable to American DG Energy Inc.
            
            
            (2,530,565
            )
            
            
            (2,268,081
            )Net
      loss per share - basic and diluted
            
            $
            (0.07
            )
            
            $
            (0.07
            )Weighted
      average shares outstanding -basic
      and diluted
            
            
            35,554,303
            
            
            
            32,872,006




See
accompanying notes to consolidated financial statements




F-3




AMERICAN
DG ENERGY INC. AND SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY




American
      DG Energy Inc. ShareholdersCommonStock
            
            
            Common
            
            
            AdditionalAccumulated
            
            
            $0.001
            
            
            Stock
            
            
            Paid-In
            
            
            NoncontrollingTotal
            
            
            Deficit
            
            
            Par
      Value
            
            
            Subscription
            
            
            Capital
            
            
            InterestBalance
      at December 31, 2007
            
            $
            5,045,417
            
            
            $
            (7,440,464
            )
            
            $
            32,806
            
            
            $
            -
            
            
            $
            11,394,289
            
            
            $
            1,058,786Distributions
      to noncontrolling interest
            
            
            (47,119
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (47,119
            )Conversion
      of convertible debenture to common stock
            
            
            150,000
            
            
            
            -
            
            
            
            178
            
            
            
            -
            
            
            
            149,822
            
            
            
            -Issuance
      of restricted stock
            
            
            -
            
            
            
            -
            
            
            
            40
            
            
            
            (40
            )
            
            
            -
            
            
            
            -Stock
      based compensation expense
            
            
            364,231
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            364,231
            
            
            
            -Exercise
      of warrants
            
            
            672,000
            
            
            
            -
            
            
            
            1,010
            
            
            
            (35,000
            )
            
            
            705,990
            
            
            
            -Net
      loss
            
            
            (1,962,745
            )
            
            
            (2,268,081
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            305,336Balance
      at December 31, 2008
            
            
            4,221,784
            
            
            
            (9,708,545
            )
            
            
            34,034
            
            
            
            (35,040
            )
            
            
            12,614,332
            
            
            
            1,317,003Distributions
      to noncontrolling interest
            
            
            (333,704
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (333,704
            )Ownership
      changes to noncontrolling interest, Note 7
            
            
            (405,714
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (405,714
            )Conversion
      of convertible debenture to common stock
            
            
            555,000
            
            
            
            -
            
            
            
            661
            
            
            
            -
            
            
            
            554,339
            
            
            
            -Issuance
      of restricted stock
            
            
            40
            
            
            
            -
            
            
            
            -
            
            
            
            40
            
            
            
            -
            
            
            
            -Cancellation
      of restricted stock
            
            
            (40
            )
            
            
            -
            
            
            
            (40
            )
            
            
            -
            
            
            
            -
            
            
            
            -Sale
      of common stock, net of costs
            
            
            5,878,079
            
            
            
            -
            
            
            
            2,991
            
            
            
            -
            
            
            
            5,875,088
            
            
            
            -Issuance
      of common stock warrants
            
            
            372,815
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            372,815
            
            
            
            -Stock
      based compensation expense
            
            
            286,844
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            286,844
            
            
            
            -Exercise
      of stock options
            
            
            22,406
            
            
            
            -
            
            
            
            31
            
            
            
            -
            
            
            
            22,375
            
            
            
            -Exercise
      of warrants
            
            
            35,000
            
            
            
            -
            
            
            
            -
            
            
            
            35,000
            
            
            
            -
            
            
            
            -Net
      loss
            
            
            (2,327,881
            )
            
            
            (2,530,565
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            202,684Balance
      at December 31, 2009
            
            $
            8,304,629
            
            
            $
            (12,239,110
            )
            
            $
            37,677
            
            
            $
            -
            
            
            $
            19,725,793
            
            
            $
            780,269




See
accompanying notes to consolidated financial statements




F-4




AMERICAN
DG ENERGY INC. AND SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF CASH FLOWS




2009
            
            
            2008CASH
      FLOWS FROM OPERATING ACTIVITIES:Net
      loss
            
            $
            (2,530,565
            )
            
            $
            (2,268,081
            )Income
      attributable to noncontrolling interest
            
            
            202,684
            
            
            
            305,336Adjustments
      to reconcile net loss to net cash used in operating
      activities:Depreciation
      and amortization
            
            
            806,776
            
            
            
            604,525Provision
      for losses on accounts receivable
            
            
            299,994
            
            
            
            51,759Amortization
      of deferred financing costs
            
            
            8,526
            
            
            
            8,526Stock-based
      compensation
            
            
            286,844
            
            
            
            364,231Changes
      in operating assets and liabilities(Increase)
      decrease in:Accounts
      receivable
            
            
            168,294
            
            
            
            (330,849
            )Due
      from related party
            
            
            (308,183
            )
            
            
            272,957Inventory
            
            
            (23,451
            )
            
            
            (269,714
            )Prepaid
      assets
            
            
            50,476
            
            
            
            (93,794
            )Increase
      (decrease) in:Accounts
      payable
            
            
            469,622
            
            
            
            (83,239
            )Accrued
      expenses and other current liabilities
            
            
            69,196
            
            
            
            44,600Due
      to related party
            
            
            (149,029
            )
            
            
            166,560Net
      cash used in operating activities
            
            
            (648,816
            )
            
            
            (1,227,183
            )CASH
      FLOWS FROM INVESTING ACTIVITIES:Purchases
      of property and equipment
            
            
            (4,171,867
            )
            
            
            (2,165,899
            )Sale
      (purchases) of short-term investments
            
            
            82,693
            
            
            
            (761,614
            )Rebates
      and incentives
            
            
            232,483
            
            
            
            155,831Net
      cash used in investing activities
            
            
            (3,856,691
            )
            
            
            (2,771,682
            )CASH
      FLOWS FROM FINANCING ACTIVITIES:Proceeds
      from issuance of warrants
            
            
            372,815
            
            
            
            -Proceeds
      from exercise of warrants
            
            
            35,000
            
            
            
            672,000Proceeds
      from sale of common stock, net of costs
            
            
            5,878,079
            
            
            
            -Proceeds
      from issuance of stock options
            
            
            22,406
            
            
            
            -Principal
      payments on capital lease obligations
            
            
            (3,365
            )
            
            
            -Distributions
      to noncontrolling interest
            
            
            (333,704
            )
            
            
            (47,119
            )Net
      cash provided by financing activities
            
            
            5,971,231
            
            
            
            624,881Net
      increase (decrease) in cash and cash equivalents
            
            
            1,465,724
            
            
            
            (3,373,984
            )Cash
      and cash equivalents, beginning of the year
            
            
            1,683,498
            
            
            
            5,057,482Cash
      and cash equivalents, ending of the year
            
            $
            3,149,222
            
            
            $
            1,683,498Supplemental
      disclosures of cash flows information:Cash
      paid during the year for:Interest
            
            $
            448,645
            
            
            $
            477,422Income
      taxes
            
            $
            35,460
            
            
            $
            86,130Non-cash
      investing and financing activities:Conversion
      of convertible debenture to common stock
            
            $
            555,000
            
            
            $
            150,000Acquisition
      of equipment under capital lease
            
            $
            -
            
            
            $
            16,825




See
accompanying notes to consolidated financial statements




F-5


AMERICAN
DG ENERGY INC.




NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS




Note
1 — The company:




American
DG Energy Inc. (“American DG Energy”, the “company”, “us” or “we”) distributes
and operates on-site cogeneration systems that produce both electricity and
heat. Our business is to own the equipment that we install at customers’
facilities and to sell the energy produced by these systems to the customers on
a long-term contractual basis. We call this business the American DG Energy
“On-Site Utility”.




The
company was incorporated as a Delaware corporation on July 24, 2001 to install,
own, operate and maintain complete distributed generation systems and other
complementary systems at customer sites and sell electricity, hot water, heat
and cooling energy under long-term contracts at prices guaranteed to the
customer to be below conventional utility rates. As of December 31, 2009, we had
installed energy systems, representing approximately 4,210 kilowatts, or kW,
33.5 million British thermal units, or MMBtu’s, of heat and hot water and 2,200
tons of cooling. Kilowatt is a measure of electricity generated, MMBtu is a
measure of heat generated and a ton is a measure of cooling
generated.




We derive
sales from selling energy in the form of electricity, heat, hot water and
cooling to our customers under long-term energy sales agreements (with a typical
term of 10 to 15 years). The energy systems are owned by us and are installed in
our customers’ buildings. Each month we obtain readings from our energy meters
to determine the amount of energy produced for each customer. We multiply these
readings by the appropriate published price of energy (electricity, natural gas
or oil) from our customers’ local energy utility, to derive the value of our
monthly energy sale, less the applicable negotiated discount. Our revenues per
customer on a monthly basis vary based on the amount of energy produced by our
energy systems and the published price of energy (electricity, natural gas or
oil) from our customers’ local energy utility that month. Our revenues commence
as new energy systems become operational. As of December 31, 2009, we had
62 energy systems operational. As a by-product of our energy business, in
some cases the customer may choose to have us construct the system for them
rather than have it owned by American DG Energy.





Note
2 — Summary of significant accounting policies:





Principles
of Consolidation and Basis of Presentation:





The
accompanying consolidated financial statements include the accounts of the
company, its wholly owned subsidiary American DG Energy and its 51% joint
venture, American DG New York, LLC, or (“ADGNY”), after elimination of all
material intercompany accounts, transactions and profits. The Company owns a
controlling, 51% legal interest in ADGNY.  The Company’s ownership
interest in energy system projects (referred to hereafter as “Investee
entities”) of ADGNY varies between projects with its joint venture
partner.   On January 1, 2009, the company adopted
(retrospectively for all periods presented) the new presentation requirements
for noncontrolling interests required by ASC 810 Consolidations. Under ASC 810,
earnings or losses attributed to the noncontrolling interests are reported as
part of the consolidated earnings and not a separate component of income or
expense. Noncontrolling interests in the net assets and earnings or losses of
consolidated Investee entities are reflected in the caption “Noncontrolling
interest” in the accompanying consolidated financial statements. Since Investee
entity ownership percentages vary, noncontrolling interest adjusts the
consolidated results of operations to reflect only the company’s share of the
earnings or losses of the consolidated Investee entities. Upon dilution of
ownership in ADGNY below 50%, the accounting method is adjusted to the equity or
cost method of accounting, as appropriate, for subsequent periods.





The
company evaluates the applicability of the Financial Accounting Standards Board,
or FASB, guidance on variable interest entities to partnerships and joint
ventures at the inception of its participation to ensure its accounting is in
accordance with the appropriate standards. The company has contractual interests
in Tecogen and determined that Tecogen was a Variable Interest Entity, as
defined by the applicable guidance; however, the company was not considered the
primary beneficiary and does not have any exposure to loss as a result of its
involvement with Tecogen. Therefore, Tecogen was not consolidated in our
consolidated financial statements through December 31, 2009. See “Note 7 -
Related Parties” for further discussion.





The
company’s operations are comprised of one business segment. Our business is
selling energy in the form of electricity, heat, hot water and cooling to our
customers under long-term sales agreements.




F-6


AMERICAN
DG ENERGY INC.


We have
experienced total net losses since inception of approximately $12.2 million. For
the foreseeable future, we expect to experience continuing operating losses and
negative cash flows from operations as our management executes our current
business plan. The cash and cash equivalents available at December 31, 2009 will
provide sufficient working capital to meet our anticipated expenditures
including installations of new equipment for the next twelve months; however, as
we continue to grow our business by adding more energy systems, the cash
requirements will increase. We believe that our cash and cash equivalents
available at December 31, 2009 and our ability to control certain costs,
including those related to general and administrative expenses, will enable us
to meet our anticipated cash expenditures through January 1, 2011. Beyond
January 1, 2011, we may need to raise additional capital through a debt
financing or equity offering to meet our operating and capital needs. There can
be no assurance, however, that we will be successful in our fundraising efforts
or that additional funds will be available on acceptable terms, if at
all.





In 2009,
we raised $6,310,525 through various private placements of common stock, the
issuance of warrants and exercise of stock options. If we are unable to raise
additional capital in 2011 we may need to terminate certain of our employees and
adjust our current business plan. Financial considerations may cause us to
modify planned deployment of new energy systems and we may decide to suspend
installations until we are able to secure additional working capital. We will
evaluate possible acquisitions of, or investments in, businesses, technologies
and products that are complementary to our business; however, we are not
currently engaged in such discussions.




Use
of Estimates





The
preparation of financial statements in conformity with GAAP requires management
to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.





Revenue
Recognition





Revenue from energy contracts is
recognized when electricity, heat, and chilled water is produced by the
cogeneration systems on-site. The company bills each month based on various
meter readings installed at each site. The amount of energy produced by on-site
energy systems is invoiced, as determined by a contractually defined formula.
Under certain energy contracts, the customer directly acquires the fuel to power
the systems and receives credit for that expense from the company. The credit is
recorded as revenue and cost of fuel. When a sales arrangement contains multiple
elements, revenue is allocated to each element based upon its relative fair
value. Fair value is determined based on the price of a deliverable sold on a
standalone basis.





As a
by-product of our energy business, in some cases the customer may choose to have
us construct the system for them rather than have it owned by American DG
Energy. In this case, we account for revenue and costs using the
percentage-of-completion method of accounting. Under the
percentage-of-completion method of accounting, revenues are recognized by
applying percentages of completion to the total estimated revenues for the
respective contracts. Costs are recognized as incurred. The percentages of
completion are determined by relating the actual cost of work performed to date
to the current estimated total cost at completion of the respective contracts.
When the estimate on a contract indicates a loss, the company’s policy is to
record the entire expected loss, regardless of the percentage of completion. The
excess of contract costs and profit recognized to date on the
percentage-of-completion accounting method in excess of billings is recorded as
unbilled revenue. Billings in excess of related costs and estimated earnings is
recorded as deferred revenue. Customers may buy out their long-term obligation
under energy contracts and purchase the underlying equipment from the company.
Any resulting gain on these transactions is recognized over the payment period
in the accompanying consolidated statements of operations. Revenues from
operation, including shared savings are recorded when provided and verified.
Maintenance service revenue is recognized over the term of the agreement and is
billed on a monthly basis in arrears.





Cash
and Cash Equivalents




The
company considers all highly liquid investments with a maturity of three months
or less when purchased to be cash equivalents. The company has cash balances in
certain financial institutions in amounts which occasionally exceed current
federal deposit insurance limits. The financial stability of these institutions
is continually reviewed by senior management. The company believes it is not
exposed to any significant credit risk on cash and cash
equivalents.




Short-Term
Investments




Short-term investments consist of
certificates of deposit with maturities of greater than three months but less
than one year. Certificates of deposits are recorded at fair value.




F-7


AMERICAN
DG ENERGY INC.


Concentration
of Credit Risk




Financial
instruments, which potentially subject the company to concentrations of credit
risk, consist of highly liquid cash equivalents and trade receivables. The
company’s cash equivalents are placed with certain financial institutions and
issuers. As of December 31, 2009, the company had a balance of $3,578,143 in
cash and cash equivalents and short-term investments that exceeded the Federal
Deposit Insurance Corporation limit of $250,000.





Accounts
Receivable




The
company maintains receivable balances primarily with customers located
throughout New York and New Jersey. The company reviews its customers’ credit
history before extending credit and generally does not require collateral. An
allowance for doubtful accounts is established based upon factors surrounding
the credit risk of specific customers, historical trends and other information.
Generally, such losses have been within management’s expectations. Bad debt is
written off when identified.




Accounts
receivable are presented net of an allowance for doubtful collections of $51,821
and $51,759 at December 31, 2009 and December 31, 2008 respectively. Included in
accounts receivable are amounts from four major customers accounting for
approximately 22% and 45% of total accounts receivable for the years ended
December 31, 2009 and December 31, 2008, respectively. There were sales to three
customers accounting for approximately 26% and 27% of total sales for the years
ended December 31, 2009 and December 31, 2008, respectively.




Inventory





Inventories
are stated at the lower of cost or market, valued on a first-in, first-out
basis. Inventory is reviewed periodically for slow-moving and obsolete items. As
of December 31, 2009 and December 31, 2008, there were no reserves or
write-downs recorded against inventory.





Accounts
Payable




Included
in accounts payable are amounts due to five major vendors accounting for
approximately 66% and 51% of total accounts payable for the years ended December
31, 2009 and December 31, 2008, respectively. Purchases from four vendors
accounted for approximately 67% and 50% of total purchases for the years ended
December 31, 2009, and December 31, 2008, respectively.




Supply
Concentrations




All of
the company’s cogeneration unit purchases for the years ended December 31, 2009
and 2008 were from one vendor (see “Note 7 - Related Parties”). We believe there
are sufficient alternative vendors available to ensure a constant supply of
cogeneration units on comparable terms. However, in the event of a change in
suppliers, there could be a delay in obtaining units which could result in a
temporary slowdown of installing additional income producing sites. In addition,
the majority of the company’s units are installed and maintained by the
noncontrolling interest holder or maintained by Tecogen. The company believes
there are sufficient alternative vendors available to ensure a constant supply
of maintenance and installation services on comparable terms. However, in the
event of a change of vendor, there could be a delay in installation or
maintenance services.




Property
and Equipment and Depreciation and Amortization




Property
and equipment are stated at cost. Depreciation and amortization are computed
using the straight-line method at rates sufficient to write off the cost of the
applicable assets over their estimated useful lives. Repairs and maintenance are
expensed as incurred. The company receives rebates and incentives from various
utility companies which are accounted for as a reduction in the book value of
the assets.




The
company evaluates the recoverability of its long-lived assets by comparing the
net book value of the assets to the estimated future undiscounted cash flows
attributable to such assets. If impairment is indicated, the asset is written
down to its estimated fair value based on a discounted cash flow analysis. The
company reviews long-lived assets for impairment annually or whenever events or
changes in business circumstances indicate that the carrying value of the assets
may not be fully recoverable or that the useful lives of the assets are no
longer appropriate. At December 31, 2009 the company determined that its
long-lived assets are recoverable.




F-8


AMERICAN
DG ENERGY INC.


Stock
Based Compensation




Stock
based compensation cost is measured at the grant date based on the estimated
fair value of the award and is recognized as an expense in the consolidated
statement of operations over the requisite service period. The fair value of
stock options granted is estimated using the Black-Scholes option pricing
valuation model. The company recognizes compensation on a straight-line basis
for each separately vesting portion of the option award. Use of a valuation
model requires management to make certain assumptions with respect to selected
model inputs. Expected volatility is calculated based on the average volatility
of 20 companies in the same industry as the company. The average expected life
is estimated using the simplified method for “plain vanilla” options. The
expected life in years is based on the “simplified” method. The simplified
method determines the expected life in years based on the vesting period and
contractual terms as set forth when the award is made. The company uses the
simplified method for awards of stock-based compensation since it does not have
the necessary historical exercise and forfeiture data to determine an expected
life for stock options. The risk-free interest rate is based on U.S. Treasury
zero-coupon issues with a remaining term which approximates the expected life
assumed at the date of grant. When options are exercised the company normally
issues new shares.





See “Note
5 – Stockholders’ Equity” for a summary of the restricted stock and stock option
activity under our stock-based employee compensation plan for the years ended
December 31, 2009 and December 31, 2008.





Loss
per Common Share





We
compute basic loss per share by dividing net income (loss) for the period by the
weighted average number of shares of common stock outstanding during the period.
We compute our diluted earnings per common share using the treasury stock
method. For purposes of calculating diluted earnings per share, we consider our
shares issuable in connection with convertible debentures, stock options and
warrants to be dilutive common stock equivalents when the exercise price is less
than the average market price of our common stock for the period. As of the year
ended December 31, 2009, we excluded 9,643,460 anti-dilutive shares resulting
from conversion of debentures and exercise of stock options, warrants and
unvested restricted stock, and as of the year ended December 31, 2008, we
excluded 10,543,049 anti-dilutive shares resulting from conversion of debentures
and exercise of stock options, warrants and unvested restricted stock. All
shares issuable for both years were anti-dilutive because of the reported net
loss.





Other
Comprehensive Net Loss





The
comprehensive net loss for the years ended December 31, 2009 and 2008 does not
differ from the reported loss.





Income
Taxes




As part
of the process of preparing our consolidated financial statements, we are
required to estimate our income taxes in each of the jurisdictions in which we
operate. This process involves us estimating our actual current tax exposure
together with assessing temporary differences resulting from differing treatment
of items, such as depreciation and certain accrued liabilities for tax and
accounting purposes. These differences result in deferred tax assets and
liabilities, which are included within our consolidated balance sheet. We must
then assess the likelihood that our deferred tax assets will be recovered from
future taxable income and to the extent we believe that recovery is not likely,
we must establish a valuation allowance.





The tax
years 2005 through 2008 remain open to examination by major taxing jurisdictions
to which we are subject, which are primarily in the United States, as carry
forward attributes generated in years past may still be adjusted upon
examination by the Internal Revenue Service or state tax authorities if they are
or will be used in a future period. We are currently not under examination by
the Internal Revenue Service or any other jurisdiction for any tax years. We did
not recognize any interest and penalties associated with unrecognized tax
benefits in the accompanying financial statements. We would record any such
interest and penalties as a component of interest expense. We do not expect any
material changes to the unrecognized benefits within 12 months of the
reporting date.





Fair
Value of Financial Instruments





The
company’s financial instruments are cash and cash equivalents, short-term
investments, accounts receivable, accounts payable, convertible debentures and
notes due from related parties. The recorded values of cash and cash
equivalents, accounts receivable, accounts payable and notes due from related
parties approximate their fair values based on their short-term nature.
Short-term investments are recorded at fair value. The carrying value of the
convertible debentures on the balance sheet at December 31, 2009
approximates fair value as the terms approximate those currently available for
similar instruments. See Note 8 for discussion of fair value
measurements.




F-9


AMERICAN
DG ENERGY INC.


Recent
Accounting Pronouncements




In December 2007, the FASB issued
guidance on changes in the accounting and reporting of business acquisitions.
The guidance requires an acquirer to recognize the assets acquired, the
liabilities assumed, and any noncontrolling interest in purchased entities,
measured at their fair values at the date of acquisition based upon the
definition of fair value. This guidance was effective for the company beginning
January 1, 2009. The guidance had no impact on the company’s consolidated
financial statements and any future effect will depend on the extent that the
company makes business acquisitions in the future.





As noted
in Note 2, in December 2007, the FASB issued new rules on noncontrolling
interests in consolidated financial statements. The noncontrolling interest
guidance changed the accounting for minority interests, which are reclassified
as noncontrolling interests and classified as a component of equity. This
guidance was effective for the company beginning January 1, 2009, and resulted
in a change in presentation of minority interests in the consolidated financial
statements consistent with the new rules.





In September, 2006, the FASB issued
guidance which defines fair value, establishes a framework for measuring fair
value, and expands disclosures about fair value measurements. In February, 2008,
the FASB delayed the effective date of the fair value guidance for all
non-financial assets and non-financial liabilities, except those that are
measured on a recurring basis. Effective January 1, 2009, the company adopted
fair value guidance with respect to non-financial assets and liabilities
measured on a non-recurring basis. The adoption of this guidance did not have an
impact on the Company’s financial position or results of
operations.





In March
2008, the FASB issued a pronouncement pertaining to disclosures about derivative
instruments and hedging activities. This guidance requires disclosures of how
and why an entity uses derivative instruments; how derivative instruments and
related hedged items are accounted for; and how derivative instruments and
related hedged items affect an entity’s financial position, financial
performance and cash flows. The rule was effective for the company beginning
January 1, 2009. The guidance did not have a material impact on its results of
operations and financial condition.





In April
2009, the FASB issued guidance on providing interim disclosures about fair value
of financial instruments. This new guidance requires the fair value disclosures
that were previously disclosed only annually to be disclosed now on an interim
basis. This guidance was effective for the company in the second quarter of
2009, and has resulted in additional disclosures in our interim financial
statements, and therefore did not impact our financial position, results of
operations or cash flows.





In May
2009, the FASB issued a pronouncement on subsequent event accounting. The
guidance identifies the following: the period after the balance sheet date
during which management shall evaluate events or transactions that may occur for
potential recognition or disclosure in the financial statements; the
circumstances under which an entity shall recognize events or transactions
occurring after the balance sheet date in its financial statements; and the
disclosures that an entity shall make about events or transactions that occurred
after the balance sheet date. The pronouncement was effective for the company’s
second quarter 2009, and did not have an impact on our financial position,
results of operations, or cash flows.





In June
2009, the FASB issued guidance on the FASB Accounting Standards Codification and
the hierarchy of generally accepted accounting principles. The FASB Accounting
Standards Codification, or the Codification, is the single source of
authoritative nongovernmental generally accepted accounting principles in the
U.S. The Codification was effective for interim and annual periods ending after
September 15, 2009. The adoption of the Codification had no impact on the
company’s financial position, results of operations or cash flows.





In June,
2009 the FASB updated existing guidance to improve financial reporting by
enterprises involved with variable interest entities. The new guidance requires
an enterprise to perform an analysis to determine whether the enterprise’s
variable interest(s) give it a controlling financial interest in a variable
interest entity. This guidance is effective for the company beginning in January
2010. The company does not believe adoption of this guidance will have a
material effect on its consolidated financial statements.





In
September 2009, the Emerging Issues Task Force issued new rules pertaining to
the accounting for revenue arrangements with multiple deliverables. The new
rules provide an alternative method for establishing fair value of a deliverable
when vendor specific objective evidence cannot be determined. The guidance
provides for the determination of the best estimate of selling price to separate
deliverables and allows the allocation of arrangement consideration using this
relative selling price model. The guidance supersedes the prior multiple
element revenue arrangement accounting rules that are currently used by the
company. This guidance is effective for us January 1, 2011 and is not expected
to have a material effect on our consolidated financial position or results of
operations.




F-10


AMERICAN
DG ENERGY INC.


Note
3 — Property, plant and equipment:





Property,
plant and equipment consist of the following as of December 31, 2009 and
December 31, 2008:




December
      31,2009
            
            
            2008Co-generation
      units
            
            $
            8,559,132
            
            
            $
            7,187,382Computer
      equipment and software
            
            
            42,531
            
            
            
            20,199Furniture
      and fixtures
            
            
            28,087
            
            
            
            26,846Vehicles
            
            
            37,193
            
            
            
            37,1938,666,943
            
            
            
            7,271,620Less — accumulated
      depreciation
            
            
            (2,168,063
            )
            
            
            (1,506,511
            )6,498,880
            
            
            
            5,765,109Construction
      in progress
            
            
            3,003,466
            
            
            
            862,431$
            9,502,346
            
            
            $
            6,627,540





Depreciation
expense of property, plant and equipment totaled $806,776 and $604,525 for the
years ended December 31, 2009 and December 31, 2008.




Note
4 — Convertible debentures:




In April
and June of 2006, the company issued convertible debentures totaling $6,075,000
to existing investors (the “debentures”). The debentures accrue interest at a
rate of 8% per annum and are due five years from the issuance date. The
debentures are convertible, at the option of the holder, into a number of shares
of common stock as determined by dividing the original outstanding amount of the
respective debenture by the conversion price in effect at the time. The initial
conversion price of the debenture is $0.84 and is subject to adjustment in
accordance with the agreement. As of December 31, 2009 the conversion price of
the debenture has not been adjusted.




In 2008,
two holders of the company’s 8% Convertible Debenture elected to convert
$150,000 of the outstanding principal amount of the debentures into 178,572
shares of common stock. In 2009, three holders of the company’s 8% Convertible
Debenture elected to convert $555,000 of the outstanding principal amount of the
debentures into 660,714 shares of common stock. At December 31, 2009, there were
6,333,335 shares of common stock issuable upon conversion of our outstanding
convertible debentures.




On
February 9, 2010, all holders of the convertible debentures elected to convert
their principal amount outstanding into shares of common stock at a conversion
price of $0.84. See “Note 11 – Subsequent events.”





Note
5 — Stockholders’ equity:




Common
Stock





On April
23, 2009, the company raised $2,260,000 in a private placement of 1,076,190
shares of common stock at a price of $2.10 per share. The private placement was
done exclusively with 5 accredited investors.





On July
24, 2009, the company raised $3,492,650 in a private placement of 1,663,167
shares of common stock at a price of $2.10 per share. The company also granted
the investors the right to purchase additional shares of common stock at a
purchase price of $3.10 per share by December 18, 2009, which as of December 31,
2009, have expired unexercised. The private placement was done exclusively with
22 accredited investors.





On
October 14, 2009, the company raised $525,000 in a private placement of 250,000
shares of common stock at a price of $2.10 per share. The company also granted
the investor the right to purchase additional shares of common stock at a
purchase price of $3.10 per share by December 18, 2009, which as of December 31,
2009, had expired unexercised. The private placement was done exclusively by an
accredited investor.




F-11


AMERICAN
DG ENERGY INC.


The
holders of common stock have the right to vote their interest on a per share
basis. At December 31, 2009, there were 37,676,817 shares of common stock
outstanding.





Warrants





From
December 1, 2003 to December 31, 2005, the company raised funds through a
private placement of shares of common stock to a limited number of accredited
investors. In connection with the private placement, the company issued warrants
to purchase an aggregate of 3,895,000 shares of common stock at a price of
$0.70. The company issued 1,030,000, 775,000 and 2,090,000 warrants in 2003,
2004 and 2005 respectively. Each warrant represents the right to purchase one
share of common stock for a period of three or five years from the date the
warrant was issued.





During
the year ended December 31, 2007, investors exercised 200,000 warrants with
expiration dates in 2007, for gross proceeds to the company of $140,000 and
during the year 575,000 warrants expired. During the year ended December 31,
2008, investors exercised 1,010,000 warrants with expiration dates in 2008, for
gross proceeds to the company of $707,000. Of these warrants, 50,000 were
exercised towards the end of the year, therefore, the company established a
receivable shown as common stock subscription on the balance sheet and that
amount was collected early in 2009.





On February 24, 2009, the company sold
a warrant to purchase shares of the company’s common stock to an accredited
investor, for a purchase price of $10,500. The warrant, which expires on
February 24, 2012, gives the investor the right but not the obligation to
purchase 50,000 shares of the company’s common stock at an exercise price per
share of $3.00.





Stock
Based Compensation




The
company has adopted the 2005 Stock Incentive Plan, or the Plan, under which the
board of directors may grant incentive or non-qualified stock options and stock
grants to key employees, directors, advisors and consultants of the company. On
April 17, 2008 the board unanimously amended the Plan, subject to shareholder
approval, to increase the reserved shares of common stock issuable under the
Plan from 4,000,000 to 5,000,000, or the Amended Plan. On May 30, 2008, at the
company’s annual meeting, the shareholders voted in favor of an amendment to
increase the number of shares of common stock of the company available for
issuance under the Plan from 4,000,000 to 5,000,000 shares.




The
maximum number of shares of stock allowable for issuance under the Amended Plan
is 5,000,000 shares of common stock, including 1,190,500 shares of restricted
stock outstanding as of December 31, 2009. Stock options vest based upon the
terms within the individual option grants, usually over a two- or ten-year
period with an acceleration of the unvested portion of such options upon a
liquidity event, as defined in the company’s stock option agreement. The options
are not transferable except by will or domestic relations order. The option
price per share under the Amended Plan is not less than the fair market value of
the shares on the date of the grant. The number of securities remaining
available for future issuance under the Amended Plan was 1,051,250 at December
31, 2009.




During
the years ended December 31, 2009 and December 31, 2008, the company recognized
employee non-cash compensation expense of $286,844 and $364,231, respectively,
related to the issuance of stock options and restricted stock. At December 31,
2009 there were 440,125 unvested shares of restricted stock outstanding. At
December 31, 2009 the total compensation cost related to unvested restricted
stock awards and stock option awards not yet recognized is $423,607. This amount
will be recognized over the weighted average period of 5.46 years.





In 2008,
the company granted to one of its employees nonqualified options to purchase
100,000 shares of the common stock at $1.95 per share. Those options have a
vesting schedule of four years and expire in ten years. The fair value of the
options issued in 2008 was $93,977, with a weighted average grant date fair
value of $0.94 per option.





In 2009,
the company granted to three of its employees nonqualified options to purchase
13,000 shares of the common stock at $1.82 per share. Those options have a
vesting schedule of four years and expire in five years. During 2009, the
company also granted to one of its employees nonqualified options to purchase
6,000 shares of the common stock at $2.95 per share. Those options have a
vesting schedule of four years and expire in five years. The fair value of all
options issued in 2009 was $16,161, with a weighted average grant date fair
value of $0.85 per option.




F-12


AMERICAN
DG ENERGY INC.


The
weighted average assumptions used in the Black-Scholes option pricing model are
as follows:




2009
            
            
            2008Stock
      options and restricted stock awardsExpected
      life
            
            5.94
      years
            
            
            6.95
      yearsRisk-free
      interest rate
            
            
            0.37
            %
            
            
            1.62
            %Expected
      volatility
            
            
            48.4
            %
            
            
            48.4
            %





Stock
option activity for the years ended December 31, 2009 and 2008 was as
follows:





Exercise
            
            
            Weighted
            
            WeightedNumber
            
            
            Price
            
            
            Average
            
            Average
            
            AggregateOf
            
            
            Per
            
            
            Exercise
            
            Remaining
            
            IntrinsicCommon
      Stock Options
            
            Options
            
            
            Share
            
            
            Price
            
            Life
            
            ValueOutstanding,
      December 31, 2007
            
            
            2,241,000
            
            
            
            $0.07-$0.90
            
            
            $
            0.63
            
            7.71
      years
            
            $
            607,600Granted
            
            
            100,000
            
            
            
            $1.95
            
            
            
            1.95Exercised
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            
            -Canceled
            
            
            (12,000
            )
            
            
            $0.90
            
            
            
            0.90Expired
            
            
            -
            
            
            
            -
            
            
            
            -Outstanding,
      December 31, 2008
            
            
            2,329,000
            
            
            
            $0.07-$1.95
            
            
            $
            0.68
            
            6.95
      years
            
            $
            3,017,920Exercisable,
      December 31, 2008
            
            
            1,244,500
            
            
            
            
            
            
            $
            0.42
            
            
            
            $
            1,937,660Vested
      or expected to vest, December 31, 2008
            
            
            2,329,000
            
            
            
            
            
            
            $
            0.68
            
            
            
            $
            3,017,920Outstanding,
      December 31, 2008
            
            
            2,329,000
            
            
            
            $0.07-$1.95
            
            
            $
            0.68
            
            6.95
      years
            
            $
            3,017,920Granted
            
            
            19,000
            
            
            
            $1.82-$2.95
            
            
            
            2.18Exercised
            
            
            (31,250
            )
            
            
            $0.70-$0.90
            
            
            
            0.72Canceled
            
            
            -
            
            
            
            -
            
            
            
            -Expired
            
            
            (8,750
            )
            
            
            $0.70-$0.90
            
            
            
            0.87Outstanding,
      December 31, 2009
            
            
            2,308,000
            
            
            
            $0.07-$2.95
            
            
            $
            0.70
            
            5.94
      years
            
            $
            5,203,740Exercisable,
      December 31, 2009
            
            
            1,421,000
            
            
            
            
            
            
            $
            0.50
            
            
            
            $
            3,488,400Vested
      or expected to vest, December 31, 2009
            
            
            2,308,000
            
            
            
            
            
            
            $
            0.70
            
            
            
            $
            5,203,740





The
aggregate intrinsic value of options outstanding as of December 31, 2009 is
calculated as the difference between the exercise price of the underlying
options and the price of the company’s common stock for options that were
in-the-money as of that date. Options that were not in-the-money as of that
date, and therefore have a negative intrinsic value, have been excluded from
this amount.




In 2008,
the company made a restricted stock grant to one employee by permitting him to
purchase an aggregate of 40,000 shares of common stock, at a price of
$0.001 per share. The fair value of the restricted stock issued in 2008 was
$77,960 and vests in four years. There were no restricted stock grants to
employees in 2009.




Restricted
stock activity for the years ended December 31, 2009 and 2008 was as
follows:




Number
      of
            
            
            Grant
      DateRestricted
              Stock
            
            
            Fair
              ValueUnvested,
      December 31, 2007
            
            
            948,875
            
            
            
            0.70Granted
            
            
            40,000
            
            
            
            1.95Vested
            
            
            (268,875
            )
            
            
            0.70Forfeited
            
            
            -
            
            
            
            -Unvested,
      December 31, 2008
            
            
            720,000
            
            
            $
            0.77Granted
            
            
            -
            
            
            
            -Vested
            
            
            (240,875
            )
            
            
            0.75Forfeited
            
            
            (39,000
            )
            
            
            0.70Unvested,
      December 31, 2009
            
            
            440,125
            
            
            $
            0.79




F-13


AMERICAN
DG ENERGY INC.


Note
6 — Employee benefit plan:





The
company has a defined contribution retirement plan, or the Retirement Plan,
which qualifies under Section 401(k) of the Internal Revenue Code, or the IRC.
Under the Retirement Plan, employees meeting certain requirements may elect to
contribute a percentage of their salary up to the maximum allowed by the IRC.
The company matches a variable amount based on participant contributions up to a
maximum of 4.5% of each participant’s salary. The company contributed $39,075
and $31,717 to the Retirement Plan for the years ended December 31, 2009 and
2008, respectively.





Note
7 — Related parties:





The
company purchases the majority of its cogeneration units from Tecogen Inc., or
Tecogen, an affiliate company sharing similar ownership. In addition, Tecogen
pays certain operating expenses, including benefits and payroll, on behalf of
the company and the company leases office space from Tecogen. These costs were
reimbursed by the company. Tecogen has a sublease agreement for the office
building, which expires on March 31, 2014.





In
January 2006, the company entered into the 2006 Facilities, Support Services and
Business Agreement, or the Agreement, with Tecogen, to provide the company with
certain office and business support services for a period of one year, renewable
annually by mutual agreement. Under the current amendment to the Agreement,
Tecogen provides the company with office space and utilities at a monthly rate
of $5,526.




The
company has sales representation rights to Tecogen’s products and services. In
New England, the company has exclusive sales representation rights to Tecogen’s
cogeneration products. The company has granted Tecogen sales representation
rights to its On-Site Utility energy service in California.





On
February 15, 2007, the company loaned the non controlling interest partner in
ADGNY $20,000 by signing a two year loan agreement earning interest at 12% per
annum. On April 1, 2007, the company loaned an additional $75,000 to the same
non controlling partner by signing a two year note agreement earning interest at
12% per annum, and on May 16, 2007, the company loaned an additional $55,000 to
the same partner by signing a two year note agreement under the same
terms.  On October 11, 2007, the company extended to its non controlling
interest partner a line of credit of $500,000. At December 31, 2008,
$265,012 was outstanding and due to the company under the combination of the
above agreements. All notes were classified in the Due from related party
account in the December 31, 2008 balance sheet and were secured by the partner’s
non controlling interest. Effective April 1, 2009 the company reached an
agreement with the noncontrolling interest partner in ADGNY to purchase its
interest in the Riverpoint location. As a result of this transaction, the
company owns 100% of that location and the noncontrolling interest partners’
share of that location was applied to his outstanding debt to the company
related to the above mentioned loan agreements and line of
credit. Additionally, in 2009, ADGNY financed capital improvements at
several projects, which per project agreements was the responsibility of the
noncontrolling interest partner. This further reduced the noncontrolling
interest partner’s noncontrolling interest in ADGNY. The result of these
transactions appears as “Ownership changes to noncontrolling interests” in the
amount of $405,714 in the accompanying consolidated statement of stockholder’s
equity for the year ended December 31, 2009.





On
October 22, 2009, the company signed a five-year exclusive distribution
agreement with Ilios Dynamics, a subsidiary of Tecogen. Under terms of the
agreement, the company has exclusive rights to incorporate Ilios Dynamics’ ultra
high-efficiency heating products in its energy systems throughout the European
Union and New England. The company also has non-exclusive rights to distribute
Ilios Dynamics’ product in the remaining parts of the United States and the
world in cases where the company retains ownership of the equipment for its
On-Site Utility business.





During
the quarter ended September 30, 2009, the non-controlling interest partner in
ADGNY, a related party, purchased certain units and supporting equipment from
the company for $370,400. That amount, as of December 31, 2009, was classified
as “Due from related party” in the accompanying balance sheet. The cost of the
units and supporting equipment was $208,225 and the company recorded a profit of
$162,175.





On
December 17, 2009, the company entered into a revolving line of credit
agreement, or the agreement, with John N. Hatsopoulos, the company’s Chief
Executive Officer. Under the terms of the agreement, during the period extending
to December 31, 2012, Mr. Hatsopoulos will lend to the company on a revolving
line of credit basis a principal amount up to $5,000,000. All sums advanced
pursuant to this agreement shall bear interest from the date each advance is
made until paid in full at the Bank Prime Rate as quoted from time to time in
the Wall Street Journal plus 1.5% per year. Interest shall be due and payable
quarterly in arrears and prepayment of principal, together with accrued
interest, may be made at any time without penalty. As of December 31, 2009, the
company has not drawn funds on this line of credit.




F-14


AMERICAN
DG ENERGY INC.


The
company’s Chief Financial Officer devotes part of his business time to the
affairs of GlenRose Instruments Inc., or GlenRose, and part of his salary is
reimbursed by GlenRose. Also, the company’s Chief Executive Officer is the
Chairman of the Board and a significant investor in GlenRose and does not
receive a salary, bonus or any other compensation from GlenRose.





Note 8 — Fair value
measurements:





The fair
value topic of the FASB Accounting Standards Codification defines fair value as
the exchange price that would be received for an asset or paid to transfer a
liability (an exit price) in the principal or most advantageous market for the
asset or liability in an orderly transaction between market participants on the
measurement date. The accounting guidance also establishes a fair value
hierarchy which requires an entity to maximize the use of observable inputs,
where available, and minimize the use of unobservable inputs when measuring fair
value. There are three levels of inputs that may be used to measure fair
value:





Level 1— Unadjusted quoted
prices in active markets for identical assets or liabilities. We currently do
not have any Level 1 financial assets or liabilities.





Level 2 —Observable inputs
other than quoted prices included in Level 1. Level 2 inputs include quoted
prices for identical assets or liabilities in non-active markets, quoted prices
for similar assets or liabilities in active markets and inputs other than quoted
prices that are observable for substantially the full term of the asset or
liability.





Level 3— Unobservable inputs
reflecting management’s own assumptions about the input used in pricing the
asset or liability. We currently do not have any Level 3 financial assets or
liabilities.





At
December 31, 2009, the company had $678,921 in short-term investments that are
comprised of certificates of deposits which are categorized as Level 2. The
company determines the fair value of certificates of deposits using information
provided by the issuing bank which includes discounted expected cash flow
estimates using current market rates offered for deposits with similar remaining
maturities.





Note
9 — Income taxes:





A
reconciliation of federal statutory income tax provision to the company’s actual
provision for the years ended December 31, 2009 and December 31, 2008,
respectively, are as follows:




2009
            
            
            2008Benefit
      at federal statutory tax rate
            
            $
            (860,000
            )
            
            $
            (760,000
            )Unbenefited
      operating losses
            
            
            860,000
            
            
            
            760,000Provision
      for state income taxes
            
            
            7,450
            
            
            
            34,087Income
      tax provision
            
            $
            7,450
            
            
            $
            34,087





The
components of net deferred tax assets recognized in the accompanying balance
sheets at December 31, 2009 and December 31, 2008, respectively, are as
follows:





2009
            
            
            2008Net
      operating loss carryforwards
            
            $
            4,676,000
            
            
            $
            3,149,000Accrued
      expenses and other
            
            
            312,000
            
            
            
            178,000Depreciation
            
            
            (764,000
            )
            
            
            (271,000
            )4,224,000
            
            
            
            3,056,000Valuation
      allowance
            
            
            (4,224,000
            )
            
            
            (3,056,000
            )Net
      deferred tax asset
            
            $
            -
            
            
            $
            -





As of
December 2009, the company has federal and state loss carryforwards of
approximately $12,400,000 and $8,300,000, respectively, which may be used to
offset future federal and state taxable income, expiring at various dates
through 2029. Under IRC Section 382, certain substantial changes in the
company’s ownership may limit the amount of net operating loss carryforwards
that can be utilized in any one year to offset future taxable income. As a
result of the company’s various private placements of common stock, it is
possible that, net operating loss carryforwards and other tax attributes may
have been limited by these rules. The change-in-control provisions of IRC
section 382 have not been fully investigated in relation to these
transactions.




F-15


AMERICAN
DG ENERGY INC.


Management
has determined that it is more likely than not that the company will not
recognize the benefits of the federal and state deferred tax assets and as a
result has recorded a valuation allowance against the entire net deferred tax
asset. If the company should generate sustained future taxable income, against
which these tax attributes may be recognized, some portion or all of the
valuation allowance would be reversed.





The
company adopted accounting for uncertain tax positions effective January 1,
2007. The adoption of this statement had no effect on the company’s financial
position. The company has no uncertain tax positions as of either the date of
the adoption, or as of December 31, 2009.




Note
10 — Commitments and contingencies:




In
January 2006, the company entered into the Agreement with Tecogen to provide the
company with certain office and business support services for a period of one
year, renewable annually by mutual agreement. The company also shares personnel
support services with Tecogen. The company is allocated its share of the cost of
the personnel support services based upon the amount of time spent by such
support personnel while working on the company’s behalf. To the extent Tecogen
is able to do so under its current plans and policies, Tecogen includes the
company and its employees in several of its insurance and benefit programs. The
costs of these programs are charged to the company on an actual cost basis.
Under this agreement, the company receives pricing based on a volume discount if
it purchases cogeneration and chiller products from Tecogen. For certain sites,
the company hires Tecogen to service its Tecogen chiller and cogeneration
products. Under the current amendment to the Agreement, Tecogen provides the
company with office space and utilities at a monthly rate of
$5,526.




In
November 2008, the company received from Georgia King Village, an On-Site
Utility energy customer, a notice to terminate operations at their location. The
company notified the management of Georgia King Village that the termination
notice violated the terms of the agreement between the company and Georgia King
Village and that termination charges would apply. The company proceeded to
remove five energy systems and other supporting equipment from the Georgia King
Village site and placed them in inventory. The customer has recently proposed a
settlement regarding the aforementioned dispute and as a result the company has
postponed the arbitration hearing. The company does not expect the outcome to
have a material impact on its results of operations and financial
condition.





The
company is the lessee of certain equipment under capital lease expiring in 2013.
The following is a schedule of future minimum lease payments, together with the
present value of the net minimum lease payments under capital leases as of
December 31, 2009.




Payments2010
            
            $
            5,2212011
            
            
            5,2212012
            
            
            5,2212013
            
            
            5,221Total
      lease payments
            
            
            20,884Less:
      Amount representing interest
            
            
            (7,424
            )Present
      value of minimum lease payments
            
            $
            13,460





Note
11 — Subsequent events:




On
January 4, 2010, the company entered into an agreement with Codale Ltd., whereby
Codale will provide the company an amount up to two hundred fifty thousand
British Pounds sterling (£250,000) to cover expenses incurred in connection with
an investigation and research effort for the development of the company’s
business in European markets. Expenses relating to this investigation will be
incurred over a period of up to one year, and in consideration for the funds
provided to the company, if the company forms a new subsidiary within two years
from the signing of the agreement, Codale will be entitled to an equity interest
in such subsidiary equal to 10% of the equity thereof.




F-16




AMERICAN
DG ENERGY INC.


On
February 9, 2010, the company issued a Notice of Redemption to all holders of
its outstanding 8% Convertible Debentures to announce redemption as of February
26, 2010, of all of its outstanding convertible debentures that had not been
converted into common stock. The aggregate principal amount of convertible
debentures outstanding on February 26, 2010 was $5,320,000 and accrued interest
was $66,204. All holders of the convertible debentures elected to convert their
principal amount outstanding into shares of common stock at a conversion price
of $0.84. In connection with this transaction, the company issued to the holders
of the convertible debentures an aggregate of 6,402,962 shares of common stock
and paid $7,716 of accrued interest in cash. The closing price of the company’s
common stock on the NYSE Amex on February 8, 2010 was $2.82.





In March
2010, certain investors including George N. Hatsopoulos and John N. Hatsopoulos, exercised 500,000 warrants with an expiration date of
April 5, 2010, for gross proceeds to the company of $350,000.




F-17