UNITED
STATES SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549


FORM
10-Q





(Mark
One)


x
            Quarterly
      Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of
      1934





For the
quarterly period ended June 30, 2008





o           Transition
Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934





For the
transition period from ___________________________  to
______________________________





Commission
File Number 000-28947.





SpaceDev,
Inc.


(Exact
name of registrant as specified in its charter)





Delaware
            84-1374613(State
      or other jurisdiction of
              incorporation
      or organization)
            (IRS
      Employer
              Identification
      No.)13855
      Stowe Drive, Poway, California 92064(Address
      of principal executive offices)





(Registrant
's telephone number, including area code)  (858)
375-2000.


____________________________________________________________________________________


(Former
name, former address and former fiscal year, if changed since last
report)





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






Large
accelerated filer   o Accelerated filer
  o






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






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







Indicate
the number of shares outstanding of each of the issuer's classes of common
stock, as of the latest practicable date: 42,451,963 shares of the registrant’s
voting common stock were outstanding on August 06, 2008.







SPACEDEV,
INC.
 FORM
10-Q
 For
The Six Months Ended June 30, 2008


Index
            PagePART
      I -- FINANCIAL INFORMATION
            1ITEM
      1. FINANCIAL STATEMENTS
            1Consolidated
      Balance Sheets
            1Consolidated
      Statements of Operations
            2Consolidated
      Statements of Cash Flows
            3NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS
            5ITEM
      2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
      AND RESULTS OF OPERATIONS
            14Overview
            14Financing
            15Results
      of Operations
            20Liquidity
      and Capital Resources
            25Liquidity
      and Backlog
            26Critical
      Accounting Standards
            26Recent
      Accounting Pronouncements
            26Risk
      Factors
            26ITEM
      4.  CONTROLS AND PROCEDURES
            39PART
      II -- OTHER INFORMATION
            40ITEM
      1.  LEGAL PROCEEDINGS
            40ITEM
      2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
      PROCEEDS
            40ITEM
      3.  DEFAULTS UPON SENIOR SECURITIES
            40ITEM
      4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY
      HOLDERS
            40ITEM
      5.  OTHER INFORMATION
            40ITEM
      6.  EXHIBITS
            41SIGNATURES
            41










PART
I -- FINANCIAL INFORMATION





ITEM
1. FINANCIAL STATEMENTS




SpaceDev,
Inc. and Subsidiaries


Consolidated
Balance Sheets





(Unaudited)
            
            
            (Audited)June
      30, 2008
            
            
            December
      31, 2007AssetsCurrent
      AssetsCash
            
            $
            5,457,882
            
            
            $
            6,521,003Accounts
      receivable, net (Note 2(d))
            
            
            5,038,167
            
            
            
            5,019,600Costs
      in excess of billings (Note 2(b))
            
            
            1,171,855
            
            
            
            1,413,685Inventory
      (Note 2(b))
            
            
            1,230,958
            
            
            
            1,006,229Other
      current assets (Note 6(a))
            
            
            521,118
            
            
            
            702,120Total
      Current Assets
            
            
            13,419,980
            
            
            
            14,662,637Fixed
      Assets - Net
            
            
            4,537,298
            
            
            
            4,420,020Intangible
      Assets
            
            
            680,088
            
            
            
            746,392Goodwill
      (Note 5)
            
            
            11,233,665
            
            
            
            11,233,665Other
      Assets (Note 6(b))
            
            
            1,039,134
            
            
            
            1,045,272Total
      Assets
            
            $
            30,910,165
            
            
            $
            32,107,986Liabilities
      and Stockholders' EquityCurrent
      LiabilitiesAccounts
      payable and accrued expenses (Note 3(a))
            
            $
            671,031
            
            
            $
            1,491,116Current
      portion of notes payable and capitalized lease obligations
            
            
            158,176
            
            
            
            162,885Accrued
      payroll, vacation and related taxes
            
            
            1,537,230
            
            
            
            1,424,462Billings
      in excess of costs (Note 2(a))
            
            
            2,135,076
            
            
            
            2,463,366Other
      accrued liabilities (Note 2(a) and 3)
            
            
            1,721,691
            
            
            
            1,632,768Total
      Current Liabilities
            
            
            6,223,204
            
            
            
            7,174,597Notes
      Payable and Capitalized Lease Obligations, Less Current
      Maturities
            
            
            578,797
            
            
            
            343,621Deferred
      Gain - Assets held for sale (Notes 3(a))
            
            
            537,497
            
            
            
            596,133Other
      Long Term Liabilities (Note 3)
            
            
            683,651
            
            
            
            643,168Total
      Liabilities
            
            
            8,023,149
            
            
            
            8,757,519Commitments
      and ContingenciesStockholders’
      EquityConvertible
      preferred stock, $0.001 par value, 10,000,000 shares authorized, and
      250,835 and 251,659 shares issued and outstanding, respectively (Note
      4)Series
      C Convertible preferred stock (Note 4(a))
            
            
            248
            
            
            
            248Series
      D-1 Convertible preferred stock (Note 4(b))
            
            
            3
            
            
            
            3Common
      stock, $0.0001 par value; 100,000,000 shares authorized,
      and  42,528,630 and 42,306,871 shares issued and outstanding,
      respectively (Note 4)
            
            
            4,247
            
            
            
            4,231Additional
      paid-in capital
            
            
            39,968,281
            
            
            
            40,441,249Accumulated
      deficit
            
            
            (17,085,763
            )
            
            
            (17,095,264
            )Total
      Stockholders’ Equity
            
            
            22,887,016
            
            
            
            23,350,467Total
      Liabilities and Stockholders' Equity
            
            $
            30,910,165
            
            
            $
            32,107,986


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






1


SpaceDev,
Inc. and Subsidiaries


Consolidated
Statements of Operations


(Unaudited)


Three
      Months Ended
              
              
              Six
      Months EndedJune
      30,
              
              2008
              
              
              %
              
              
              2007
              
              
              %
              
              
              2008
              
              
              %
              
              
              2007
              
              
              %Net
      Sales
              
              $
              8,890,370
              
              
              
              100.0
              %
              
              $
              8,647,568
              
              
              
              100.0
              %
              
              $
              19,219,365
              
              
              
              100.0
              %
              
              $
              17,704,616
              
              
              
              100.0
              %Total
      Cost of Sales*
              
              
              6,796,559
              
              
              
              76.4
              %
              
              
              6,151,468
              
              
              
              71.1
              %
              
              
              14,759,704
              
              
              
              76.8
              %
              
              
              13,117,539
              
              
              
              74.1
              %Gross
      Margin
              
              
              2,093,811
              
              
              
              23.6
              %
              
              
              2,496,100
              
              
              
              28.9
              %
              
              
              4,459,661
              
              
              
              23.2
              %
              
              
              4,587,077
              
              
              
              25.9
              %Operating
      ExpensesMarketing
      and sales
              
              
              819,306
              
              
              
              9.2
              %
              
              
              806,262
              
              
              
              9.3
              %
              
              
              1,459,805
              
              
              
              7.6
              %
              
              
              1,392,876
              
              
              
              7.9
              %Research
      and development
              
              
              194,918
              
              
              
              2.2
              %
              
              
              123,795
              
              
              
              1.4
              %
              
              
              453,467
              
              
              
              2.4
              %
              
              
              163,155
              
              
              
              0.9
              %General
      and administrative
              
              
              899,463
              
              
              
              10.1
              %
              
              
              1,413,015
              
              
              
              16.3
              %
              
              
              2,308,293
              
              
              
              12.0
              %
              
              
              2,656,570
              
              
              
              15.0
              %Total
      Operating Expenses*
              
              
              1,913,687
              
              
              
              21.5
              %
              
              
              2,343,072
              
              
              
              27.1
              %
              
              
              4,221,565
              
              
              
              22.0
              %
              
              
              4,212,601
              
              
              
              23.8
              %Income
      from Operations
              
              
              180,124
              
              
              
              2.0
              %
              
              
              153,028
              
              
              
              1.8
              %
              
              
              238,096
              
              
              
              1.2
              %
              
              
              374,476
              
              
              
              2.1
              %Non-Operating
      Income/(Expense)Interest
      and other income
              
              
              23,188
              
              
              
              0.3
              %
              
              
              10,023
              
              
              
              0.1
              %
              
              
              60,771
              
              
              
              0.3
              %
              
              
              30,979
              
              
              
              0.2
              %Interest
      and other expense
              
              
              (24,532
              )
              
              
              -0.3
              %
              
              
              (57,956
              )
              
              
              -0.7
              %
              
              
              (42,511
              )
              
              
              -0.2
              %
              
              
              (133,313
              )
              
              
              -0.8
              %Gain
      on building sale (Note 3(a))
              
              
              29,318
              
              
              
              -0.6
              %
              
              
              29,318
              
              
              
              0.3
              %
              
              
              58,635
              
              
              
              0.3
              %
              
              
              58,636
              
              
              
              0.3
              %Loan
      fee (Note 3(b))
              
              
              (49,863
              )
              
              
              0.3
              %
              
              
              (87,261
              )
              
              
              -1.0
              %
              
              
              (99,177
              )
              
              
              -0.5
              %
              
              
              (173,562
              )
              
              
              -1.0
              %Total
      Non-Operating Income/(Expense)
              
              
              (21,889
              )
              
              
              -0.2
              %
              
              
              (105,876
              )
              
              
              -1.2
              %
              
              
              (22,282
              )
              
              
              -0.1
              %
              
              
              (217,260
              )
              
              
              -1.2
              %Income
      Before Taxes
              
              
              158,235
              
              
              
              1.8
              %
              
              
              47,152
              
              
              
              0.5
              %
              
              
              215,814
              
              
              
              1.1
              %
              
              
              157,216
              
              
              
              0.9
              %Income
      tax provision
              
              
              (10,909
              )
              
              
              -0.1
              %
              
              
              -
              
              
              
              0.0
              %
              
              
              (11,216
              )
              
              
              -0.1
              %
              
              
              (800
              )
              
              
              0.0
              %Net
      Income
              
              $
              147,326
              
              
              
              1.7
              %
              
              $
              47,152
              
              
              
              0.5
              %
              
              $
              204,598
              
              
              
              1.1
              %
              
              $
              156,416
              
              
              
              0.9
              %Net
      Income
              
              
              147,326
              
              
              
              
              
              
              
              47,152
              
              
              
              
              
              
              
              204,598
              
              
              
              
              
              
              
              156,416Less
      Preferred dividend payments
              
              
              (86,411
              )
              
              
              
              
              
              
              (138,866
              )
              
              
              
              
              
              
              (195,098
              )
              
              
              
              
              
              
              (282,633
              )Net
      Income (Loss) Available to Common Stockholders
              
              
              60,915
              
              
              
              
              
              
              
              (91,714
              )
              
              
              
              
              
              
              9,500
              
              
              
              
              
              
              
              (126,217
              )Net
      Income Per Share:
              
              $
              0.00
              
              
              
              
              
              
              $
              0.00
              
              
              
              
              
              
              $
              0.00
              
              
              
              
              
              
              $
              0.00Weighted-Average
      Shares Outstanding
              
              
              42,523,341
              
              
              
              
              
              
              
              29,643,246
              
              
              
              
              
              
              
              42,483,783
              
              
              
              
              
              
              
              29,606,975Fully
      Diluted Net Income (Loss) Per Share:
              
              $
              0.00
              
              
              
              
              
              
              $
              0.00
              
              
              
              
              
              
              $
              0.00
              
              
              
              
              
              
              $
              0.00Fully
      Diluted Weighted-Average Shares Outstanding
              
              
              43,002,233
              
              
              
              
              
              
              
              29,643,246
              
              
              
              
              
              
              
              43,572,369
              
              
              
              
              
              
              
              29,606,975*
      The following table shows how the Company's stock option expense would be
      allocated to all expenses.Cost
      of sales
              
              $
              60,744
              
              
              
              
              
              
              $
              35,999
              
              
              
              
              
              
              $
              129,511
              
              
              
              
              
              
              $
              77,372Marketing
      and sales
              
              
              3,707
              
              
              
              
              
              
              
              19,676
              
              
              
              
              
              
              
              12,058
              
              
              
              
              
              
              
              33,328Research
      and development
              
              
              -
              
              
              
              
              
              
              
              -
              
              
              
              
              
              
              
              -
              
              
              
              
              
              
              
              -General
      and administrative
              
              
              92,441
              
              
              
              
              
              
              
              51,810
              
              
              
              
              
              
              
              114,859
              
              
              
              
              
              
              
              101,403Total
      Non-Cash Stock Option Expense
              
              $
              156,892
              
              
              
              
              
              
              $
              107,484
              
              
              
              
              
              
              $
              256,428
              
              
              
              
              
              
              $
              212,103
 The
accompanying notes are an integral part of these consolidated financial
statements.


2




SpaceDev,
Inc. and Subsidiaries
 Consolidated
Statements of Cash Flows
 (Unaudited)
 Six
      Months Ended June 30,
                
                2008
                
                
                2007Cash
      Flows From Operating ActivitiesNet
      income
                
                $
                204,598
                
                
                $
                156,416Adjustments
      to reconcile net income to net cash provided by operating
      activities:Depreciation
      and amortization
                
                
                675,710
                
                
                
                592,916Gain
      on disposal of building sale
                
                
                (58,636
                )
                
                
                (58,636
                )Stock
      option expense
                
                
                256,428
                
                
                
                212,103Non-cash
      loan fee
                
                
                99,177
                
                
                
                173,562Change
      in operating assets and liabilities
                
                
                (790,922
                )
                
                
                (728,640
                )Net
      Cash Provided By Operating Activities
                
                
                386,355
                
                
                
                347,720Cash
      Flows From Investing ActivitiesPurchases
      of fixed assets
                
                
                (328,311
                )
                
                
                (543,319
                )Net
      Cash Used in Investing Activities
                
                
                (328,311
                )
                
                
                (543,319
                )Cash
      Flows From Financing ActivitiesPrincipal
      payments on notes payable and capitalized lease
obligations
                
                
                (167,906
                )
                
                
                (17,343
                )Dividend
      payments on Series C and Series D-1 preferred stock
                
                
                (228,012
                )
                
                
                (297,799
                )Proceeds
      from revolving credit facility
                
                
                -
                
                
                
                2,232,778Employee
      stock purchase plan
                
                
                39,326
                
                
                
                28,895(Repurchase)
      Issuance of preferred stock
                
                
                (824,062
                )
                
                
                (572,230
                )Proceeds
      from issuance of common stock
                
                
                59,488
                
                
                
                297,907Net
      Cash (Used in) Provided by Financing Activities
                
                
                (1,121,166
                )
                
                
                1,672,208Net
      (Decrease) Increase in Cash
                
                
                (1,063,121
                )
                
                
                1,476,610Cash
      at Beginning of Period
                
                
                6,521,003
                
                
                
                1,438,146Cash
      at End of Period
                
                $
                5,457,882
                
                
                $
                2,914,756
 The accompanying notes are an
integral part of these consolidated financial statements.
  3


SpaceDev,
Inc. and Subsidiaries
 Consolidated
Statements of Cash Flows, Cont'd.
 (Unaudited)


Six
      Months Ended June 30,
              2008
              2007Supplemental
      Disclosures of Cash Flow Information:Cash
      paid during the period for:Interest
      expense
              $                   42,511
              $               133,313Noncash
      Investing and Financing Activities:During
      the six months ended June 30, 2008 and  2007, the Company
      entered into a capital lease in the amount of approximately $398,000 and
      $190,000, respectively.During
      the six months ended June 30, 2008 and 2007, the Company accrued dividends
      in the amount of $195,098 and $282,632, respectively, for its Series C and
      Series D-1 Preferred Stock.During
      the six months ended June 30, 2008 and 2007, the Company converted $35,194
      and $52,871 of employee stock purchase plan contributions into 55,293 and
      63,970 shares of common stock, respectively.
 The
accompanying notes are an integral part of these consolidated financial
statements.








4




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 1.       Basis
of Presentation
 
 The  accompanying  consolidated  financial  statements  of  SpaceDev,
Inc., a Delaware corporation ("the
Company")  include  the  accounts  of  the  Company
and its subsidiaries, Starsys, Inc., a Colorado corporation, and its inactive
subsidiary Dream Chaser, Inc., a Delaware corporation.  In the opinion
of management, the consolidated financial statements reflect all normal and
recurring adjustments, which are necessary for a fair presentation of the
Company's financial position,
results  of  operations  and  cash  flows  as  of
the dates and for the periods presented.   The consolidated
financial statements have been prepared in accordance with generally accepted
accounting principles for interim financial
information.  Consequently,  these  statements  do  not  include
all disclosures
normally  required  by  generally  accepted  accounting
principles of the United States  of America for annual financial
statements nor those normally made in an
Annual  Report  on  Form  10-KSB or Form
10-K.  Accordingly, reference should be made to the Company's Form
10-KSB filed on March 28, 2008 and other reports the Company filed with the U.S.
Securities and Exchange Commission for additional disclosures, including a
summary of the Company's accounting policies, which have not materially
changed.  The consolidated results of operations for the six months
ended June 30, 2008 are not necessarily indicative of results that may be
expected for the fiscal year ended December 31, 2008 or any future period, and
the Company makes no representations related thereto.
 
 The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
certain estimates and assumptions that affect the reported amounts of assets and
liabilities, disclosures of contingent assets and liabilities and the results of
operations during the reporting period.  Actual results could differ
materially from those estimates.
 
 2.              Accounting
Policies
 
 (a)  Revenue
Recognition
 
 The
Company's revenues for the six months ended June 30, 2008 were derived from
United States government cost-plus fixed-fee (CPFF) contracts, United States
government, government related and non-government firm fixed price (FFP)
contracts, and some commercial sales of component and subsystem
products.  During the first six months of 2008, approximately 32.6% of
revenues from U.S. government contracts were derived from cost-plus- fixed-fee
contracts, 64.1% from firm fixed price contracts, and 3.3% from
time-and-material contracts compared to approximately 38.9%, 57.5% and 3.6%
during the first six months of 2007, respectively.  The Company’s
government and government related revenue was approximately 65.7% of total
revenue in the first six months of 2008. The remaining 34.3% of total revenue
during the first six months of 2008 was comprised of commercial or
non-governmental revenue. The Company considers the United States government
(“Government”) a major customer.  Government revenue is revenue
generated directly by contracts with an agency of the federal government, i.e.,
where the Company is the prime contractor.  Government related revenue
is revenue generated by contracts where the Company’s customer is a prime
contractor or subcontractor to the government and the Company is a subcontractor
to them, i.e., the ultimate customer is a government agency.
 
 The
portion of the Company’s revenue which is based on fixed price contracts is
calculated on a proportional performance basis (also referred to herein as
“percentage-of-completion”) based upon assumptions regarding the estimated total
costs for each contract. Such revenues are recorded based on the percentage that
costs incurred to date bear to the most recent estimates of total costs to
complete each contract.  Estimating future costs and, therefore,
revenues and profits, is a process requiring a high degree of management
judgment, including management’s assumptions regarding future operations as well
as general economic conditions.  In the event of a change in total
estimated contract cost or profit, the cumulative effect of such change is
recorded in the period the change in estimate occurs.  Frequently, the
period of performance of a contract extends over a long period of time and, as
such, revenue recognition and the Company’s profitability from a particular
contract may be adversely affected to the extent that estimated cost to complete
or incentive or award fee estimates are revised, delivery schedules are delayed
or progress under a contract is otherwise impeded.  Accordingly, the
Company’s recorded revenues and gross profits from period to period can
fluctuate.
 
 5
 The
output from the Company’s contracts is generally based on milestones or
performance targets set by the Company and its customers.  The
Company’s contracts are negotiated with milestone payments that may not coincide
with the level of effort or output measurement; thereby, creating the potential
for a mismatch of costs and revenues on the front side or back side of the
project.  An example might be a contract with a large up-front
milestone payment for simply establishing a program plan.  The Company
attempts to appropriately match revenue with expense, so in this instance, it
would be inappropriate to recognize a milestone payment as revenue, since the
proportional level of effort or cost incurred would have not yet been
expended.
 
 Certain
contracts include provisions for increased or decreased revenue and profit based
on performance against established targets. When the Company has incentive and
award fees, they are included in estimated contract revenue at the time the
amounts can be reasonably determined and are reasonably assured based upon
historical experience and other objective criteria. If performance under such
contracts were to differ from previous assumptions, current period revenues and
profits would be adjusted and could therefore fluctuate
significantly.
 
 Revenues
from CPFF contracts are recognized as expenses are
incurred.  Estimated contract profits are taken into earnings in
proportion to revenues recorded.  Time-and-material revenues are
recognized as services are performed and costs incurred.
 
 Recognition
of losses on projects are taken as soon as the loss is reasonably determinable
and accrued on the balance sheet in other accrued liabilities.  The
current accrual for potential losses on existing projects represents
approximately $0.1 million at June 30, 2008 and $0.3 million at December 31,
2007.  The accrual is adjusted as projects move toward completion and
more accurate estimates are established.  Changes in job performance,
job conditions and estimated profitability, including those arising from
contract penalty provisions (when applicable), and final contract settlements
may result in revisions to costs and income, and are recognized in the period in
which the revisions are determined.  Contract costs include all direct
material, direct labor and subcontractor costs, and other costs such as
supplies, tools and travel which are specifically related to a particular
contract.  All other selling, general and administrative costs are
expensed as incurred.
 
 The
majority of the Company’s revenue is derived from United States Government and
Government related contracts. Such contracts have certain risks which include
dependence on future appropriations and administrative allotment of funds and
changes in government policies. Costs incurred under United States Government
Contracts are subject to audit.  The Company believes that the results
of such audits will not have a material effect on its financial position or its
results of operations.
 
 (b) Inventory
 
 Inventory
is valued based on the lower-of-cost-or-market method and is disbursed on a
First-In, First-Out (FIFO) basis, unless required by customer contract to be
distributed by specific identification for lot control
purposes.  Inventory includes raw material inventory, finished goods
inventory and work-in-process inventory.  Work-in-process inventory
includes, but is not limited to, program costs in excess of customer
requirements to pay.  In those cases, costs may be held in
work-in-process while the Company negotiates for contract modifications to cover
those costs.  If the negotiations result in revenues in excess of
those costs, the Company records a profit at the conclusion of the
program.  If the negotiations result in revenues not in excess of
those costs or no additional consideration, the Company records the full
estimated program loss at the time of the notification.  The amount of
such program costs held in work-in-process inventory on June 30, 2008 and
December 31, 2007 was approximately $0.7 million and $0.5 million,
respectively.  The Company inventory detail follows:
 
 6


Inventory
              June
      30, 2008
              December
      31, 2007Raw
      Material
              $        523,125
              $                570,432Work
      in Progress
              690,630
              528,614Finished
      Goods
              172,203
              62,183Subtotal
              1,385,958
              1,161,229Inventory
      Allowance
              (155,000)
              (155,000)Inventory,
      Net
              $     1,230,958
              $             1,006,229
   Inventories
are reviewed for estimated obsolescence or unusable items and, if appropriate,
are written down to the net realizable value based upon assumptions about future
demand and market conditions. If actual future demand or market conditions are
less favorable than those the Company projects, additional inventory write-downs
may be required. These are considered permanent adjustments to the cost basis of
the inventory.  In 2007, the Company established an inventory reserve
of approximately $0.2 million to cover such estimated obsolete
items.  The Company evaluates the inventory allowance
quarterly.
 
 (c) Net income (loss) per
common share
 
 Basic
earnings per share are calculated using the weighted average number of shares
outstanding, according to the rules of SFAS No. 128, Earnings per Share during the
periods.  Diluted earnings per share include the weighted-average
effect of all dilutive securities outstanding during the
periods.  Under the treasury stock method the employee must pay for
exercising stock options, the amount of compensation cost for future services
that the Company has not yet recognized and the amount of tax benefits that
would be recorded in additional paid-in capital when the award becomes
deductible are assumed to be used to repurchase shares.  Securities
which are out-of-the-money and presumed not be exercisable have not been
included in the dilution of the earnings per share.
 
 (d)         Accounts
receivable and allowances for uncollectible accounts
 
 Accounts
receivable are stated at the historical carrying amount net of write-offs and
allowances for uncollectible accounts.  The Company establishes an
allowance for uncollectible accounts based on historical experience and any
specific customer collection issues that the Company has identified.
Uncollectible accounts receivable are written-off when a settlement is reached
for an amount that is less than the outstanding balance or when the Company has
determined that balance will not be collected.  At June 30, 2008 and
December 31, 2007, the allowance for uncollectible accounts was approximately
$57,000 and $62,000, respectively.
 
 (e)
                Estimates
 
 Actual
results of contracts may differ from management's estimates and such differences
could be material to the consolidated financial
statements.  Professional fees are billed to customers on a time and
materials basis.  Time and material revenues are recognized as
services are performed and costs incurred.
 
 (f)
                Warranty
 
 The
Company has a warranty policy to assume obligations in connection with certain
customer contracts.  The Company records a liability for the expected
costs to service estimated warranty claims.  This amount is included
in other liabilities.  Activity in the warranty liability account
consisted of the following:
 7
 June
      30, 2008
                December
      31, 2007Balance
      at January 1
                $            505,984
                76,000Accruals
      during the period
                -
                557,187Reductions
      during the period
                (114,064)
                (127,203)Balance
                $            391,920
                $                    505,984




(g)
              Taxes
 
 FASB
Interpretation No. 48, or FIN 48, Accounting for Uncertainty in Income
Taxes — an Interpretation of FAS 109. FIN 48 provides
clarification for the financial statement measurement and recognition of tax
positions that are taken or expected to be taken in a tax return. The Company
adopted FIN 48 effective January 1, 2007 and is in the process of
completing a FIN 48 analysis.  The adoption of FIN 48 is not
expected to impact the Company’s financial condition, results of operations or
cash flows for the six months ended June 30, 2008 and 2007.
 
 (h)
              Reclassification
 
 The
Company has reclassified its costs in excess of billings from accounts
receivable to a separate line on the balance sheet. The Company
also consolidated both short term and long term notes payable and capital leases
on the balance sheet.
 
 3.     Other
Liabilities
 
 Other
accrued liabilities at June 30, 2008 and December 31, 2007 consisted of the
following:


Other
      Accrued Liabilities at
              June
      30, 2008
              December
      31, 2007Customer
      deposits and other accruals
              $           853,192
              $                 348,054Warranty
      accrual
              391,920
              505,984Provision
      for anticipated loss
              141,776
              315,544Employee
      accruals
              88,333
              125,000Legal,
      royalty and customer accuals
              74,777
              125,664Dividend
      (Series C preferred stock)
              42,432
              42,899Deferred
      rent
              37,483
              37,483Dividend
      (Series D-1 preferred stock)
              76,475Employee
      Stock Purchase Plan
              28,804
              24,672Property
      and income tax accruals
              18,948
              30,993Total
      other accrued liabilities
              $        1,721,691
              $             1,632,768






Other
long term liabilities at June 30, 2008 and December 31, 2007 consisted of the
following:




Long
      Term Other Accrued Liabilities at
                June 30,
      2008
                December
      31, 2007Long
      term portion of deferred rent
                $        683,651
                $                643,168






8




a)     Building
and Deferred Gain.
 
 In
January 2003, the Company sold its interest in its Poway, California
headquarters facility.  The transaction included the sale of the land
and building and a deferred gain was recorded.  In conjunction with
the sale, the Company entered into a lease agreement with the buyer to leaseback
its facilities.  The Company's then chief executive officer provided a
guaranty for the leaseback, which guaranty is still in place.  The
gain on the sale of the facility was deferred and amortized in proportion to the
gross rental charged to expense over the lease term.  The deferred
gain of $1.2 million is being amortized at the rate of $117,272 per year for ten
years ending in January 2013.  As of June 30, 2008, the deferred gain
was $0.5 million.  This amortization is included in the Company's
non-operating income/(expenses) and totaled approximately $58,600 for each of
the six months ended June 30, 2008 and 2007.
 
 b)     Revolving
Credit Facility.
 
 On
September 29, 2006, the Company entered into a $5.0 million financing
arrangement with Laurus Master Fund, Ltd. (“Laurus”).  The financing
is effected through a revolving note for up to $5.0 million, although the exact
principal balance at any given time will depend on draws made by the Company on
the facility.  The Company may borrow against the facility under an
investment formula based on accounts receivable at an advance rate equal to 90%
of eligible receivables and the lesser of: (a) 50% of eligible inventory
(calculated on the basis of the lower-of-cost-or-market, on a first-in-first-out
basis); or (b) $1.0 million, provided, however, that no more than $0.5 million
of such eligible inventory may be in the form of work-in-process
inventory.  There was no balance on this revolving credit facility at
June 30, 2008 and December 31, 2007.
 
 The
facility bears interest at a rate equal to prime plus 2%. This rate increases or
decreases on the date the Prime Rate adjusts.  Interest is payable
monthly.  Interest is due on the first business day of each month from
October 2006 through maturity.  The term of the facility is scheduled
to end on September 29, 2009.  At inception, Laurus received, as a
loan fee of 310,009 unregistered shares of the Company’s common stock valued at
$0.35 million plus cash fees of $0.18 million. The value of these shares was
determined based on the $1.13 average trading price for the stock during the
preceding ten business days and was expensed over the first year of the
note.  Laurus received an additional 283,286 unregistered shares of
the Company’s common stock valued at $0.2 million at the first anniversary of
the facility.  The value of these shares was determined based on the
average trading price for the stock during the preceding ten business days,
which was $0.72 per share, and the expense will be amortized over the second
year of the note.  The Company will issue additional restricted shares
of its common stock worth, in the aggregate, $0.2 million to Laurus on the third
anniversary date of the facility, if the facility remains in
place.  The pricing of these additional shares will be based on the
applicable preceding ten business day average trading price.
 
 Laurus
agreed that when it can resell the unregistered shares under Rule 144, its
resale on any one day cannot exceed 10% of the daily trading volume. The 310,009
and 283,286 shares previously granted under this revolving credit facility, and
referenced above, were subsequently registered for resale on a registration
statement.  The facility is not convertible into any class of the
Company’s securities at any time during its term.  In addition, Laurus
is strictly prohibited from engaging in any short sales of the Company’s common
stock during the term of the facility.
 
 The
facility is a secured debt, collateralized by substantially all of the Company's
and its subsidiaries' assets. The facility contains certain default
provisions.  In the event of a default by the Company, the Company
will be required to pay an additional fee per month until the default is
cured.  Laurus has the option of accelerating the entire principal
balance and requiring the Company to pay a premium in the event of an uncured
default.
 
 The
facility requires the Company to deposit all funds (other than certain
refundable deposits and proceeds from financings) into a lockbox that will be
swept on a daily basis to reduce any outstanding facility balance. Any funds in
excess of any outstanding facility balance are transferred to the Company on a
daily basis.
 
 The
Company paid Laurus’ legal fees and expenses in structuring the facility,
conducting due diligence and escrow fees.  In addition, the Company
paid a finder’s fee in the amount of $35,000 and paid Laurus a facility fee of
3.5%, or approximately $0.14 million, of the facility amount, which facility fee
is being expensed over the life of the note.
 
 9
 4.     Stockholder's
Equity - Preferred Stock, Common Stock, Warrants, and Options
 
 Preferred
Stock
 
 a)     Series
C Preferred Stock.
 
 On August
25, 2004, the Company issued 250,000 shares of its Series C Non-Redeemable
Convertible Preferred Stock, par value $0.001 per share (the "Series C Preferred
Stock"), to Laurus for an aggregate purchase price of $2.5 million or $10.00 per
share (the "Stated Value").  The Series C Preferred Stock was
originally convertible into shares of the Company's common stock at a rate of
$1.54 per share.  On September 21, 2007, the Company adjusted the
fixed conversion price from $1.54 to $0.62 per share due to a common stock
financing with OHB Technology AG and MT Aerospace AG.  The Company had
not previously re-priced the Series C Preferred Stock when the Series D-1
Preferred Stock was issued and the June 2007 warrant offer to preferred
stockholders was made due to Laurus’ participation in those
transactions.  The Company has received verbal and written waivers
from Laurus on these previous transactions.
 
 The
Company accrues quarterly, cumulative dividends on the Series C Preferred Stock
at a rate of 6.85% per annum.  During the six month periods ended June
30, 2008 and 2007, the Company declared dividends payable of approximately
$85,000 and $84,000, respectively, to the holders of its Series C Preferred
Stock. These dividends are payable in cash or shares of common stock at the
holder's option with the exception that dividends may be paid in shares of
common stock for up to 25% of the aggregate dollar trading volume if the fair
market value of the Company's common stock for the 20-days preceding the
conversion date exceeds 120% of the conversion rate.  Accrued
dividends were paid in cash during 2007 and the first quarter of
2008.  On June 30, 2008, accrued but unpaid dividends were
approximately $42,000; these accrued dividends were paid in cash in July
2008.
 
 The
Series C Preferred Stock is redeemable by the Company in whole or in part at any
time after issuance for (a) 115% of the Stated Value if the average closing
price of the common stock for the 22 days immediately preceding the date of
redemption does not exceed $0.62 per share (adjusted in September 2007 related
to the sale of common stock to OHB Technology AG and MT Aerospace AG) or (b) the
Stated Value if the average closing price of the common stock for the 22 days
immediately preceding the date of redemption exceeds $0.62 per share (adjusted
in September 2007 related to the sale of common stock to OHB Technology AG and
MT Aerospace AG). The shares of Series C Preferred Stock have a liquidation
right equal to the Stated Value upon the Company's dissolution, liquidation or
winding-up.  The shares of Series C Preferred Stock have no voting
rights, except as required by law.
 
 In
conjunction with the issuance of the shares of Series C Preferred Stock the
Company issued a five-year common stock warrant to Laurus for the purchase of
487,000 shares of the Company's common stock at an exercise price of $1.77 per
share.  On March 7,
2008,Laurus transferred these warrants to PSource Structured Debt
Limited, a Guernsey limited liability company.  PSource is a publicly
traded company on the London exchange that from time to time has purchased
assets from Laurus and is not affiliated with Laurus.
 
 b)     Series
D-1 Preferred Stock.
 
 On
January 12, 2006, the Company entered into a Securities Purchase Agreement with
a limited number of institutional accredited investors, including Tailwind
Capital, Bristol Capital Management, Nite Capital, Laurus and Omicron Capital,
(which has since transferred its preferred shares to Portside Growth &
Opportunity Fund and Rockmore Investment Master Fund).  On January 13,
2006, the Company issued and sold to these investors 5,150 shares of Series D-1
Amortizing Convertible Perpetual Preferred Stock, par value $0.001 per share
(the “Series D-1 Preferred Stock”), for an aggregate purchase price of $5.15
million, or $1,000 per share.  As of June 30, 2008, approximately
2,375 shares of Series D-1 Preferred Stock remain outstanding and approximately
2,775 shares of Series D-1 Preferred Stock had been repurchased through
voluntary amortization, converted to the Company’s common stock or redeemed by
investor request at a discount. In total, 75 shares of Series D-1 Preferred
Stock were converted into 50,676 shares of the Company's common stock, 2,533
shares of Series D-1 Preferred Stock have been repaid through voluntary
amortization, as provided for in the Securities Purchase Agreement, and 167
shares of Series D-1 Preferred Stock have been repurchased through an investor
request at a 15% discount.  The Company also issued various warrants
to these investors as described below.  The Company paid cash fees and
expenses of approximately $119,000 to a finder for the introduction of potential
investors in this financing, and paid $60,000 to the lead investor's counsel for
legal expenses incurred in the transaction.  The shares of Series D-1
Preferred Stock are convertible into shares of the Company's common stock at a
rate of $1.48 per share and accrue quarterly, cumulative dividends at a rate of
LIBOR plus 4% on the first day of the applicable quarter.  As of June
30, 2008, the Company had accrued Series D-1 dividends of approximately $44,000,
which were paid in July 2008.
 
 10
 Certain
warrants the Company issued to the Series D-1 investors at the closing entitled
the investors to purchase up to an aggregate of 1,135,138 shares of the
Company's common stock at an exercise price of $1.51 per share.  On
August 23, 2006, pursuant to the terms of a Securities Purchase Agreement,
Omicron transferred and assigned to Rockmore Investment Master Fund Ltd.,
warrants on 69,820 shares of the Company’s common stock.  Rockmore
Capital, LLC and Rockmore Partners, LLC, each a limited liability company formed
under the laws of the State of Delaware, serve as the investment manager and
general partner, respectively, to Rockmore Investments (US) LP, a Delaware
limited partnership, which invests all of its assets through Rockmore, an
exempted company formed under the laws of Bermuda.  On May 31, 2007,
the Company offered to the holders of these warrants the opportunity to exercise
the warrants at a specially reduced price to be calculated as 80% times the
volume weighted average price (VWAP) of its common stock for the 20 trading days
preceding the warrant holder’s acceptance of the offer. Although this written
offer expired by its terms on June 15, 2007, the Company orally extended the
offer to June 29, 2007 and Laurus accepted, exercising 500,000 of its 639,203
warrants of this series for $0.29 million cash.  The VWAP for the 20
trading days preceding June 29, 2007 was $0.725 per share making the strike
price of the common stock warrant $0.58 which is 80% of the
$0.725.  Due to a ratchet anti-dilution provision in the warrants of
this series, the exercise price of the remaining 635,138 warrants in the series
(which included 139,203 warrants that were then still owned by Laurus) was
reduced to $0.58 per share as a result of this transaction, and otherwise the
remaining warrants remain in full force and effect in accordance with their
original terms.  On October 29, 2007, pursuant to the terms of a
Securities Purchase Agreement, Nite Capital LLC transferred and assigned to Fort
Mason Master LP and Fort Mason Partners LP warrants for the purchase of 55,104
shares of common stock.  Fort Mason Capital, LLC serves as the general
partner of Fort Mason Master LP and, in such capacity, exercises sole voting and
investment authority with respect to such shares.  On March 7, 2008,
Laurus transferred their remaining 139,203 warrants to PSource Structured Debt
Limited a Guernsey limited liability company.  PSource is a publicly
traded company on the London exchange that from time to time has purchased
assets from Laurus and is not affiliated with Laurus.  On July 21,
2008 pursuant to the terms of a Securities Purchase Agreement, Omicron
transferred and assigned to Warrant Strategies Fund, warrants for the purchase
of 150,595 shares of common stock.  Warrant Strategies Fund, is a
Delaware limited liability company.   The warrants are
exercisable for five years following the original date of grant. The warrants
feature a net exercise provision, which enables the holder to choose to exercise
the warrant without paying cash. However, this right is available only if a
registration statement or prospectus covering the shares subject to the warrant
is not available.  The warrants will continue to have the
anti-dilution provisions reducing the warrant exercise price, if the Company
issues equity securities (other than in specified exempt transactions) at an
effective price below the warrant exercise price, to such lower exercise
price.
 
 The
purchase agreement contains a number of covenants by the Company, which includes
an agreement not to effect any transaction involving the issuance of securities
convertible, exercisable or exchangeable for the Company's common stock at a
price or rate per share which floats (i.e., which may change over time), without
the consent of a majority of the Series D-1 preferred stockholders, so long as
any shares of Series D-1 Preferred Stock are outstanding, subject to certain
conditions.
 
 In
connection with the Series D-1 Preferred Stock financing, Laurus consented to
and waived certain contractual rights.  The Company paid Laurus
Capital Management, L.L.C., the manager of Laurus Master Fund, an amount of
$87,000 in connection with Laurus' delivery of the consent and
waiver.
 
 11
 c)     Common
Stock Options
 
 The
Company adopted SFAS 123(R) to account for its stock-based compensation
beginning January 1, 2006.  For the six months ended June 30, 2008 and
2007, the Company expensed approximately $256,000 and $212,000 of stock option
expenses due to SFAS 123(R).  The Company expensed stock options based
on a calculation using the minimum value method as prescribed by SFAS 123(R),
otherwise known as the Black-Scholes method.  Under this method, the
Company used a risk-free interest rate at the date of grant, an expected
volatility, an expected dividend yield and an expected life of the options to
determine the fair value of options granted.  The risk-free interest
rate was estimated and ranged from 2.17% to 4.75%, expected volatility ranged
from 49.62% to 94.36% at the time all options were granted, the dividend yield
was assumed to be zero, and the expected life of the options was assumed to be
four years based on the average vesting period of options granted.
 
 5.  Goodwill
and Intangible Assets
 
 In
January, 2006, the Company completed the acquisition of Starsys Research
Corporation by forward triangular merger.  The Company initially
accounted for $12.2 million of the acquired assets as goodwill and later in
2006, reduced the goodwill allocation to $11.2 million by identifying
approximately $1.0 million in fixed assets and intangible assets, which are
being amortized over their estimated useful lives. The weighted average
amortization period for these intangible assets is currently approximately 8
years.  During the quarters ended June 30, 2008 and 2007, the Company
completed its annual impairment test of goodwill and concluded that goodwill was
not impaired.
 
 6.     Other
Assets
 
 a)     Other
Current Assets
  Other
current assets consist of a variety of prepaid items and other cash advances for
items which are expected to occur within the next year. The following is a
listing of items that constitute the Company’s other current assets at June 30,
2008 and December 31, 2007.




Other
      Current Assets at
              
              June
      30, 2008
              December
      31, 2007Financing
      fees
              
              $        215,148
              $              421,986Software
      prepaid license
              
              146,154
              152,219Rental
      prepaid short term
              
              78,573
              78,573Insurance
      prepaid
              
              69,685
              27,585All
      other short term deposits
              6,643
              19,110Property
      tax prepayment
              
              4,915
              2,647Total
      Other Current Assets
              $        521,118
              $              702,120






b)     Other
Assets
 Other
assets consist of prepaid and other cash advances for items which are expected
to occur at a date beyond twelve months into the future. The following is a
listing of items that constitute the Company’s other assets at June 30, 2008 and
December 31, 2007.


12




Other
      Assets at
              
              June
      30, 2008
              December
      31, 2007Louisville
      facility letter of credit
              $           546,887
              $                535,669Deposits
              
              413,351
              339,683Deferred
      expenses
              
              78,896
              169,920Total
      Other Assets
              
              $        1,039,134
              $             1,045,272






7.  Subsequent
Events
 
 On July
15, 2008, the Company entered into a Release agreement with the Shareholder
Agent for the former shareholders of Starsys Research Corporation.  In
exchange for the release of the Shareholder Agent's and the other former Starsys
Research Corporation shareholders' claims to entitlement to payment of earnout
Performance Consideration under, and of all other claims under, the Agreement
and Plan of Merger and Reorganization dated October 24, 2005, as subsequently
amended, among Starsys Research Corporation, Monoceros Acquisition Corp., the
Company and the Shareholder Agent, the Company agreed to pay the former
shareholders $116,667 cash and 833,333 shares of Company common stock, with
certificates representing 108,286 shares to be delivered to the former
shareholders promptly, certificates representing 356,953 shares to be delivered
to the former shareholders in six months, certificates representing 184,049
shares to be delivered to the former shareholders in nine months and
certificates representing 184,045 shares to be delivered to the former
shareholders in twelve months.












13




ITEM
2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
 
 The
following discussion should be read in conjunction with the Company's
consolidated financial statements and the notes thereto and the other financial
information appearing elsewhere in this document.  Readers are also
urged to carefully review and consider the various disclosures made by us which
attempt to advise interested parties of the factors which affect our business,
including without limitation the Risk Factors set forth herein.
 
 In
addition to historical information, the following discussion and other parts of
this document may contain forward-looking statements.  These
statements relate to future events or our future financial
performance.  In some cases, you can identify forward-looking
statements by terminology such as "may," "will," "should," "expect," "plan,"
"anticipate," "believe," "estimate," "predict," "potential," or "continue," the
negative of such terms or other comparable terminology.  These
statements are only predictions.
 
 Actual
results could differ materially from those anticipated by such forward-looking
statements. Although we believe that the expectations reflected in the
forward-looking statements are reasonable, we cannot guarantee future results,
levels of activity, performance or achievements.  Moreover, neither we
nor any other person assumes responsibility for the accuracy and completeness of
the forward-looking statements.  We undertake no obligation to
publicly update any of the forward-looking statements after the date of this
report to conform such statements to actual results or to changes in our
expectations.
 
 Overview
 SpaceDev,
Inc., a Delaware corporation, together with our subsidiaries, (“SpaceDev,”
“we,”  “us,” “our,” or “Company”), is a leading independent space
technology company.  We are engaged in the conception, design,
development, manufacture, integration, sale, and operation of space systems,
subsystems, products and services, as well as the design, manufacture, and sale
of mechanical and electromechanical subsystems and components for
spacecraft.  We are currently focused on the commercial and military
development of low-cost small satellites and related subsystems, hybrid rocket
propulsion for space and launch vehicles, subsystems that enable critical
spacecraft functions such as pointing solar arrays and communication antennas
and restraining, deploying and actuating moving spacecraft
components.  We maintain our corporate headquarters in California and
operating centers in California, Colorado and North Carolina and currently have
approximately 175 full and part time employees.
 
 During
the first six months of 2008, approximately 65.7% of our revenues were generated
from direct government contracts, and from government-related work through
subcontracts with others, while the remaining 34.3% were generated from
commercial contracts.  During the same period in 2007, approximately
79.2% of our net sales were generated from direct government contracts, and from
government-related work through subcontracts with others, while the remaining
20.8% was generated from commercial contracts.  Currently, we are
focusing on the domestic United States government market, which we believe is
only about one-half of the global government market for our mission solutions,
products, services and technologies. We are restricted by export control
regulations, including International Traffic in Arms Regulations, which may
limit our ability to develop market opportunities outside the United
States.  However, international revenues have historically represented
less than 5% of our total net sales and we are interested in exploring further
international contract opportunities.  Our new and evolving
relationship with OHB Technology AG and MT Aerospace AG may influence our
decision and ability to operate in the international marketplace, as well as for
them to operate in the United States government and civil
marketplace.
 
 During
the first half of 2008, we submitted over 108 bids or proposals for government
or commercial programs and continued our work with the United States Congress to
identify directed funding for our programs.
 
 14




Financing
  Revolving Credit
Facility
 
 In
September 2006, we entered into a $5.0 million financing arrangement with Laurus
Master Fund, Ltd. (“Laurus”).  The financing is effected through a
revolving note for up to $5.0 million, although the exact principal balance at
any given time will depend on draws made by us on the facility.  The
revolving credit facility had a zero balance at June 30, 2008 and December 31,
2007.
 
 We are
allowed to borrow against the revolving credit facility under an investment
formula based on accounts receivable at an advance rate equal to 90% of eligible
receivables and the lesser of: (a) 50% of eligible inventory (calculated on the
basis of the lower-of-cost-or-market, on a first-in-first-out basis); or, (b)
$1.0 million, provided, however, that no more than $0.5 million of such eligible
inventory may be in the form of work-in-process inventory.
 
 The
revolving credit facility bears interest at a rate equal to prime plus 2% and is
payable monthly. The rate will be increased or decreased on the date the Prime
Rate is adjusted.  Interest is due on the first business day of each
month through maturity.  The term of the facility is scheduled to end
on September 29, 2009.  At inception, Laurus received, as a loan fee,
310,009 unregistered shares of our common stock valued at $0.35 million plus
cash fees of $175,000. The value of these shares was determined based on the
$1.13 average trading price for the stock during the preceding ten (10) business
days and the expense was amortized daily over the first year of the note. The
cash loan fee is being amortized over 36 months.  In September 2007,
Laurus became entitled to an additional 283,286 shares, valued at $0.2 million
upon the first anniversary of the facility.  This $0.2 million is
being amortized over twelve months.  We will issue additional
restricted shares of our common stock worth, in the aggregate, $0.2 million to
Laurus in September 2008, if the facility remains in place.  The
pricing of these additional shares will be based on the applicable preceding ten
(10) business day average trading price.  The facility is not
convertible into any class of our securities.
 
 Laurus
agreed that if and when it can resell the unregistered shares under Rule 144,
its resale on any one day cannot exceed 10% of the daily trading volume. We
registered the 310,009 shares and 283,286 shares, which totaled 593,295 shares,
for resale in a registration statement that we filed in January 2008 and which
was declared effective by the Securities and Exchange Commission in February
2008.  In addition, Laurus is strictly prohibited from engaging in any
short sales of our common stock during the term of the facility.
 
 The
facility is a secured debt, collateralized by substantially all of our assets.
The facility contains certain default provisions.  In the event of a
default by us, we will be required to pay an additional fee per month until the
default is cured.  Laurus has the option of accelerating the entire
principal balance and requiring us to pay a premium in the event of an uncured
default.  The facility requires us to deposit all funds (other than
certain refundable deposits) into a lockbox that will be swept on a daily basis
to reduce any outstanding facility balance. Any funds in excess of any
outstanding facility balance are transferred to us on a daily
basis.
 
 Selection
of Significant Contracts
 
 In June
2002, Starsys Research Corporation was awarded a contract from Northrop Grumman
Space Technology for the design, development, assembly, and test of two
configurations of flat plate gimbal drive assemblies.  These gimbals
are used to position six dish antennas and two nulling antenna systems for each
of two large spacecraft.  Subsequent to this award, Northrop Grumman
Space Technology modified this contract to include a third shipset bringing the
total contract value to approximately $7.1 million.  In addition to
eight flight unit deliveries per large spacecraft, the program includes
development and qualification hardware.  This contract was awarded as
a firm fixed price contract with the final delivery scheduled for March 2007 and
was part of our acquisition of Starsys Research Corporation on January 31,
2006.  We recorded revenues from this contract during the first six
months of 2008 and from February 1, 2006 through December 31, 2007 of
approximately $0.1 million and $4.3 million, respectively.  We
experienced significant cost overruns on this contract.  Prior to our
merger, the contract was modified to add an additional $1.7
million.  After the merger, we negotiated contract modifications in
both the timing of payments and in the amount of additional contract
consideration of up to $1.0 million based on the achievement of specific
milestones.  Of the additional possible $1.0 million, we achieved
milestones entitling us to the majority of the incentive payments, which will
partially mitigate the impact of significant cost, scope and requirement changes
and overruns.  Since we were successful in achieving our performance
targets, we defrayed some of our cost overruns.  We completed this
program during the first quarter of 2008 and the total contract value of $9.8
million has been recognized.




15


In March
2004, we were awarded a five-year, cost-plus fixed-fee indefinite
delivery/indefinite quantity contract for up to approximately $43 million to
conduct a microsatellite distributed sensing experiment (intended to design and
build up to six responsive, affordable, high performance microsatellites to
support national missile defense), an option for a laser communications
experiment, and other microsatellite studies and experiments as required in
support of the Advanced Systems Deputate of the Missile Defense
Agency.  The overall contract initially called for us to analyze,
design, develop, fabricate, integrate, test, operate and support a networked
cluster of three formation-flying boost phase and midcourse tracking
microsatellites, with an option to design, develop, fabricate, integrate, test,
operate and support a second cluster of three formation-flying microsatellites
to be networked on-orbit with high speed laser communications
technology.  This overall contract proceeded under a phased
approach.  The first phase, executed under Task Order I for
approximately $1.1 million, was awarded in April 2004, completed in September
2004, and resulted in a general mission and microsatellite
design.  The second phase, executed under Task Order II for
approximately $8.3 million, was awarded in October 2004 and was originally
expected to be completed by January 2006 but was extended at the request of the
Missile Defense Agency with an increased funding of $1.5 million, and
subsequently completed in March 2006.  Task Order II resulted in a
detailed mission and microsatellite design, which underwent a successful
Critical Design Review in March 2006.  Task Order III, the first of
several task orders expected during the third phase, was awarded in April 2006
for a total of approximately $1.5 million, which was later amended to
approximately $2.5 million and was successfully completed in June 2006. Task
Order IV was awarded by the Missile Defense Agency in July 2006, with initial
funding of approximately $4.0 million through November 2006.  Task
Order IV was subsequently amended to approximately $4.5 million and extended
through June 15, 2007.  On April 12, 2007, we finalized a contract
modification to Task Order IV with the Missile Defense Agency.  The
main content of the change was to: 1) extend the period of performance from June
15, 2007 to September 30, 2007 and subsequently to March 31, 2008, at no
additional cost to the government; 2) increase the funding ceiling from
approximately $4.5 million to approximately $9.0 million; 3) provide
approximately $1.6 million in funding toward the increased ceiling; and 4)
change the statement of work to reflect the delivery of one
microsatellite.  On May 11, 2007 the remaining $2.9 million in funding
was provided to fully fund the $9.0 million task order.  We were
informed that there was no Government Fiscal Year 2008 funds available from the
Missile Defense Agency to support our microsatellite distributed sensing
experiment beyond the funds described above.  We have been working
with the Missile Defense Agency and other government agencies for additional
funding support.  Government contract funds from the Missile Defense
Agency from Government Fiscal Year 2007 were not exhausted in that fiscal year
and were used to cover anticipated phase completion costs through January
2008.  (See Risk Factors: “Some of our government contracts
are staged and we cannot guarantee that all stages of the contracts will be
awarded to us or fully funded” and “A substantial portion of our net
sales are generated from government contracts, which makes us susceptible to the
uncertainties inherent in the government budgeting process.  In
addition, many of our contracts can be terminated by our
customer.)


In
January 2008, we arranged for another government agency, the Department of
Defense office of Operationally Responsive Space, to fund our continued
development through their new Jumpstart Mission.   Task Order IV
was amended to include the Jumpstart Mission, adding an additional $3.5 million
in funding on a fixed price task order.  We recognized revenues of
approximately $3.5 million under this contract during the first six month of
2008, and $25.4 million under this contract from inception through June 30,
2008.  In July 2008 the Missile Defense Agency transferred the
remaining contract to the Department of Defense Operationally Responsive Space
and we are awaiting further funding under this contract.
 16


In
January 2005, we were awarded a firm fixed price contract from Raytheon in
Goleta, California for the design, development, manufacture, assembly and test
of the Aerosol Polarimetry Sensor, Scan Mirror Motor/Encoder
Assembly.  The Aerosol Polarimetry Sensor instrument is slated to fly
on the NASA Glory mission.  The Aerosol Polarimetry Sensor instrument
is also a prime candidate for a secondary payload on National Polar-orbiting
Operational Environmental Satellite System (NPOESS).  The Scan Mirror
Motor/Encoder Assembly consists of low ripple, precision brushless DC motor and
optical encoder assembly.  The program consists of a development unit,
engineering unit, qualification/life test unit, and flight units. This contract
was awarded as a cost-plus fixed-fee contract at a value of $2.5
million.  In July 2006, the contract was modified to add approximately
$2.5 million with incremental funding bringing the contract value to $5.0
million and extended the period of performance to March 2009.  We
continue to receive incremental funding and as of June 30, 2008 the contract
value is approximately 5.4 million.  We recorded revenues from this
contract during the first six months of 2008 and from February 1, 2006 through
December 31, 2007 of approximately $0.6 million and $3.4 million,
respectively.
 
 In
February 2006, the Air Force Research Laboratory awarded us two deployable boom
technology contracts for advance research and development of a self-deployed
articulated boom for approximately $1.0 millionand a jack screw
deployed boom for approximately $1.5 million.  We recorded revenues
from this contract during the first six months of 2008 and from February 2006
through December 31, 2007 of approximately $0.1 million and $2.3 million,
respectively.
 
 In June
2006, Lockheed Martin Commercial Space Systems awarded us a firm fixed price
contract for the design and fabrication of the antenna pointing gimbals onboard
the US Navy’s Mobile User Objective System.  The initial award is for two
flight shipsets and includes two standard A2100 5-meter antenna gimbal
assemblies, four Ka-Band antenna gimbal assemblies and two 14-meter gimbal
assemblies.  The current contract includes the development and
qualification of the Ka-Band and 14-meter gimbal designs in addition to delivery
of standard gimbals that we have previously provided for the A-2100 bus. 
Proposals have been submitted for additional gimbals supporting three additional
MUOS spacecraft for approximately $3.0 million in addition to the baseline
procurement.  The current value of this contract is approximately $4.4
million.  We recognized $0.7 million of revenues from this contract
during the first six months of 2008 and from June 2006 through December 31, 2007
we recorded approximately $3.0 million in revenue.  We are currently
working with the customer for possible additional contract modifications to this
program.
 
 In July
2006, we were awarded a contract from the Air Force Research Laboratories in
support of a Broad Agency Announcement. This contract allows tasks to be
identified, approved, and funded to develop innovative technologies in the field
of deployable structures for spaceflight applications. The current contract
value is $1.8 million.  Deployable structures are designed to enable
the placement of large payloads within the constrained volume of the launch
vehicle and then to deploy, or erect, a larger system once the satellite or
vehicle is no longer constrained by the enclosed volume of the launch vehicle
fairing. The development efforts to date have focused on deployable antennae for
commercial applications, large systems for a variety of radio frequency
missions, and deployable optical systems. Several of these efforts have resulted
in securing customer funding from potential missions to further design and/or
analyses in evaluating the potential application of the SDI deployable structure
technologies.  We recorded revenues from this contract during the
first six months of 2008 and from July 2006 through December 31, 2007 of
approximately $0.3 million and $0.4 million, respectively.
 
 In August
2006, we were awarded a government firm fixed price contract to provide the
solar array drive, antenna pointing actuators, and gimbal control electronic
assemblies for the Lunar Reconnaissance Orbiter program from NASA Goddard Space
Flight Center and Swales Aerospace. The total contract value is in excess of
$6.8 million. The
Lunar Reconnaissance Orbiter mission is scheduled to launch in the fall of 2008
as part of NASA's Lunar Precursor and Robotic Program. The spacecraft requires
two drive actuators to align the solar panels with the sun, and a two axis
pointing mechanisms to align the downlink antenna for communication with
earth.  We are to provide these actuators for the large spacecraft
along with the electronics to control them.  A total of seven
actuators and five control electronics assemblies will be delivered under the
contract.  We recorded revenues from this contract during the first
six months of 2008 and from August 2006 through December 31, 2007 of
approximately $0.3 million and $5.8 million, respectively.




17


In August
and November 2006, we were awarded two contracts to provide hardware for the
H-II Transfer Vehicle for Ishikawa Aerospace and JAXA, the Japanese Space
Agency.  The H-II Transfer Vehicle will provide servicing missions to
deliver supplies to the International Space Station.  These contracts
were obtained as follow-on to a prior development contract started in
2002.  The total value of these two contracts is $1.2 million. JAXA is
continuing to market supply missions which may result in further contract growth
to this award.  We recorded revenues from this contract during the
first six months of 2008 and from August 1, 2006 through December 31, 2007 of
approximately $0.1 million and $1.1 million, respectively.
 
 In
January 2007, in partnership with the University of Colorado Laboratory for
Space Physics, we were awarded a $0.75 million contract from the Missile Defense
Agency to design and develop a non-sticking cover seal system for the
Exo-atmospheric Kill Vehicle program, which is the kill vehicle component of the
Ground Based Interceptor (the weapon element of the Ground-based Midcourse
Defense System program).  The contract was awarded under the Small
Business Technology Transfer Program that provides research funding for
partnerships between industry and non-profit research
institutions.  We recorded revenues from this contract during the
first six months of 2008 and from inception through December 31, 2007 of
approximately $0.2 million and $0.4 million, respectively.
 
 In
February 2007, we were awarded a $1.4 million cost reimbursable design and
development subcontract with NASA’s Jet Propulsion Laboratory in support of the
Mars Science Laboratory mission.  In 2007, this contract was modified
to a value of approximately $1.9 million, and in 2008, we received an additional
contract modification bringing the total contract value today to approximately
$2.9 million.  We will develop and deliver electromechanical Descent
Brake dampers.  The contract period of performance is approximately 18
months.  NASA’s Mars Science Laboratory mission will deliver a
1,800-pound rover to the surface of Mars in 2010.  Rather than the
airbag landing system used by the Mars Exploration Rover mission, a “Skycrane”
landing system will use a rocket-decelerated Descent Stage that will hover and
gently lower the rover on a 25-foot long bridle cord.  A critical
component of the “Skycrane” landing system is the Descent Brake that will lower
the rover in less than seven seconds with a controlled speed profile that will
provide a gentle touch-down on the Martian surface.  We recorded
revenues from this contract during the first six months of 2008 and from
inception through December 31, 2007 of approximately $0.9 million and $1.9
million, respectively.
 
 In
February 2007, we were awarded a contract valued at $1.5 millionfrom Space Systems/Loral
to deliver cell shorting devices for their communication satellite battery
systems. We are now working on the assembly and test of the first 100-unit
delivery. This is a follow-on contract for these devices that were originally
developed under a previous contract and flight units have been in production
since 2001. The Space Systems/Loral communications satellite platform is
currently the leading seller among U.S. satellite platforms for commercial
communications.  The cell shorting devices provide autonomous shorting
or override of cells in the event that a cell fails. This preserves the battery
system operation and performance at the best possible levels in the event of a
cell failure.  We recorded revenues from this contract during the
first six months of 2008 and from inception through December 31, 2007 of
approximately $0.8 million and $0.6 million, respectively.
 
 In March
2007, we received a follow-on order from Ball Aerospace and Technology
Corporation for solar array rotational drive assemblies and drive control
electronics for the Digital Globe WorldView-2 satellite program. The value of
the order is approximately $1.3 million increasing the total contract value to
$2.5 million.  The Starsys Quiet Array Drive Micro-Stepping motion control
technology will be utilized on the Ball Aerospace BCP 2000 platform, which will
articulate each of the two solar arrays for alignment with the sun. The
WorldView-2 satellite is scheduled to be ready for launch in late 2008 and is
expected to expand the capabilities of DigitalGlobe’s world imaging portfolio.
We recorded revenues from this contract during the first six months of 2008 and
from inception through December 31, 2007 of approximately $0.5 million and $1.9
million, respectively.
 
 In April
2007, we were awarded a phase II SBIR for 3 Dimensional Deployable Structures
technology development. The original, cost reimbursable contract was awarded at
a value of $750,000. Through leveraging funds included in the Broad Agency
Announcement, the scope of this effort has been increased to over $1.1 million.
This technology can support a variety of new, leading-edge space missions for
the Department of Defense and other agencies.  We recorded revenues
from this contract during the first six months of 2008 and from inception
through December 31, 2007 of approximately $0.5 million and $0.4 million,
respectively.




18




In May of
2007, we were awarded a contract to firm-fixed-price contract from Lockheed
Martin to develop several large brushless DC motor designs for an undisclosed
mission.  The original contract value was for
$248,500.  Over the ensuing 12 months, through a series of
modifications to further the design, manufacture, and test the motors, the
contract funded value has grown to over $2.7 million through June 30,
2008.  We recorded revenues from this contract during the first six
months of 2008 and from inception through December 31, 2007 of approximately
$1.6 million and $0.9 million, respectively.
 
 In
September 2007, we were awarded a cost reimbursable design and development
contract with the Defense Advanced Research Projects Agency to develop a Solar
Thermal Propulsion demonstration article as a subsystem of a small satellite
that is intended to enable the first Solar Thermal Propulsion flight
experiment.  The program consists of a six-month Base Program
culminating in a Critical Design Review, followed by a six-month option
culminating in a Solar Thermal Propulsion demonstration.  The award of
the option is contingent on the Defense Advanced Research Projects Agency’s
evaluation of the research results of the Base Program against a set of Go and
No-Go criteria.  The contract value for the initial Base Program is
$3.8 million. The option was exercised on May 14, 2008, bringing the total
contract value to approximately $7.3 million.  We recorded revenues
from this contract during the first six months of 2008 and from inception
through December 31, 2007 of approximately $2.7 million and $1.2 million,
respectively.
 
 In
October of 2007, we were awarded two related contracts to develop products for
the Space Systems Loral commercial communications line of satellite
buses.  One contract is for the development and qualification of a
stepper motor used to drive the solar array panels which power the satellite.
The original firm-fixed-price contract for this effort was for approximately
$0.4 million.  This contract has been increased in value to a total of
approximately $0.7 million  to complete the qualification effort. The
other contract was provided fund, in conjunction with SDI internal IRAD funds,
an Enhanced Deployment and Positioning Mechanism used to position the satellite
antennae for optimal performance. The original contract value for this effort
was approximately $0.3 million with significant recurring business potential in
late 2008 and into the future.  We recorded revenues from this
contract during the first six months of 2008 and from inception through December
31, 2007 of approximately $0.3 million and $42,000, respectively.
 
 In
February of 2008, we were awarded a cost-plus, fixed fee contract from NASA’s
Jet Propulsion Laboratory to provide gearboxes to be used on the Mars Science
Laboratory mission. NASA’s Mars Science Laboratory mission will deliver a
1,800-pound rover to the surface of Mars in 2010.  The total contract
value is over $1.97 million and is scheduled to complete by September 30,
2008.  This contract was awarded when previously contracted efforts
with another supplier were deemed unable to satisfy the program
needs.  We recorded revenues from this contract during the first six
months of 2008 of approximately $0.7 million.
 
 19


Results
of Operations
  Please
refer to the consolidated financial statements, which are a part of this report,
for further information regarding the results of operations.
 
 Six-Months
Ended June 30, 2008 -vs.- Six-Months Ended June 30, 2007
 
 During
the six months ended June 30, 2008, we had net sales of approximately $19.3
million as compared to net sales of approximately $17.7 million for the same six
month period in 2007, an increase of approximately 9%.  Sales
increased primarily due to the growth of our non-government sector
programs.  Revenue for the six months ended June 30, 2008 from
government and government related work was approximately $12.7 million, or 65.7%
of net sales, and revenue from commercial customers was approximately $6.6
million, or 34.3% of net sales.  In comparison, in the six months
ended June 30, 2007, revenue from government and government related work was
approximately $14.0 million, or 79.3% of net sales, and revenue from commercial
customers was approximately $3.7 million, or 20.7% of net sales.
 
 For the
six months ended June 30, 2008, we had costs of sales (direct and allocated
costs associated with individual contracts) of approximately $15.0 million, or
76.9% of net sales, as compared to approximately $13.1 million, or 74.1% of net
sales, during the same period in 2007.  Our increase in cost of sales,
or correspondingly our decrease in gross margin, was primarily due to two
factors:  1) reduction in utilization of the provision for anticipated loss
reserves; and, 2) an increase in our overhead costs.  With respect to
the former, when we acquired Starsys in 2006, a $1.6 million reserve was
established.  The reserve was reduced during the 2006 to 2008 period
as those programs were completed.  The reserve was reduced more in
2007 (approximately $0.5 million) than it was in 2008 (approximately $0.2
million).  With respect to the latter, we experienced an increase in
our overhead costs including a lower than expected labor utilization rate and
increases in our facility costs.
  Our
operating expenses for the six month period ended June 30, 2008 remained flat at
approximately $4.2 million.  Total operating expenses as a percentage
of net sales decreased from 23.8% for the six months ended June 30, 2007 to
21.9% for the six months ended June 30, 2008.  The following are the
components of our operating expenses:
 
 ·
              General
      and administrative expenses decreased approximately $0.4 million from
      approximately $2.7 million for the six months ended June 30, 2007 to
      approximately $2.3 million for the same six month period in
      2008.  The decrease can be attributed to the improved
      efficiencies of sharing certain General and Administrative services
      companywide rather than supported at each location, including but not
      limited to accounting support, information systems support and contract
      support.    General and administrative expenses as a
      percentage of total net sales declined from 15.0% for the six months ended
      June 30, 2007 to 12.0% for the same six month period in
    2008.
 
 ·
              Research
      and development expenses increased to approximately $453,000, or 2.4% of
      net sales, for the six months ended June 30, 2008, from approximately
      $163,000, or 0.9% of net sales, during the same period in
      2007.  This increase of internally funded research and
      development was focused on programs to enhance our satellite capabilities
      and mechanical systems, including but not limited to our in house
      development of guidance and navigational control systems, small satellite
      production, and enhanced dual-axis pointing mechanism
    project.
 
 ·
              Marketing
      and sales expenses increased to approximately $1.5 million, or 7.6% of net
      sales, for the six months ended June 30, 2008, from approximately $1.4
      million, or 7.9% of net sales, during the same period in
      2007.  The increase was mainly due to an increase in our bid and
      proposal efforts.
 
 ·
              Our
      stock option expense is based on a calculation using the minimum value
      method as prescribed by SFAS 123(R), otherwise known as the Black-Scholes
      method.   Under this method, we used a risk-free interest
      rate at the date of grant, an expected volatility, an expected dividend
      yield and an expected life of the options to determine the fair value of
      options granted. The risk-free interest rate was estimated and ranged from
      2.17% to 4.79%, expected volatility ranged from 49.62% to 94.36% at the
      time all options were granted, the dividend yield was assumed to be zero,
      and the expected life of the options was assumed to be four years based on
      the average vesting period of options granted.  The total
      expense for the six months ended June 30, 2008 and 2007 was approximately
      $0.3 million and $0.2 million,
respectively.
 
 20


Non-operating
expense (income) consisted of interest expense, interest income, and deferred
gain on the sale of our building, as well as other non-cash loan fees and
expenses.
 
 ·
              We
      recorded loan fees related to our revolving credit facility of
      approximately $99,000 and $174,000 for the six months ended June 30, 2008
      and 2007, respectively.  We issued 310,009 shares of our common
      stock, valued at $0.35 million, to Laurus in September 2006 for revolving
      credit facility loan fees, which we amortized over the initial 12
      months.  We further issued 283,286 shares of our common stock,
      valued at $0.2 million, to Laurus in September 2007 for revolving credit
      facility loan fees, which we are amortizing from October 2007 through
      September 2008.
 
 ·
              Interest
      and other expense for the six months ended June 30, 2008 and 2007 was
      approximately $43,000 and $133,000, respectively.  The decrease
      was mainly attributable to utilization of our revolving credit facility in
      2007; whereas, we did not utilize the revolving line of credit during in
      2008.  Interest and other expenses also includes cash fees of
      $175,000, which we are amortizing over 36 months in connection to
      our  revolving credit facility mentioned above.  We
      generated interest and other income for the six months ended June 30, 2008
      and 2007 of approximately $61,000 and $31,000, respectively, based on the
      levels of our cash balances in each
period.
 
 ·
              We
      recognized approximately $59,000 of the deferred gain on the 2003 sale of
      our Poway headquarters building during each of the six month periods ended
      June 30, 2008 and 2007, and we will continue to amortize the remaining
      deferred gain of approximately $0.5 million into non-operating income over
      the remainder of the leaseback period, which expires in January
      2013.
 
 During
the six months ended June 30, 2008, we generated net income of approximately
$205,000, or 1.1% of net sales, despite recognizing approximately $0.3 million
in non-cash charges related to expensing stock options under SFAS 123(R),
compared to net income of approximately $156,000, or 0.9% of net sales, for the
same six month period in 2007, which also included approximately $0.2 million in
non-cash charges related to expensing stock options under SFAS
123(R).  During the six months ended June 30, 2008, we had adjusted
earnings before interest, taxes, depreciation and amortization, loan fees on our
revolving facility, stock option expense, and gain on building sale, or Adjusted
EBITDA, of approximately $1.2 million, or 6.1% of net sales, compared to
approximately $1.2 million, or 6.7% of net sales, for the six months ended June
30, 2007.
 
 The
following table reconciles Adjusted EBITDA to net income for the six months
ended June 30, 2008 and 2007:


For
      the six months ended
              
              June
      30, 2008
              June
      30, 2007(Unaudited)
              (Unaudited)Net
      Income
              
              $                   204,598
              $               156,416Interest
      Income
              
              (60,771)
              (30,979)Interest
      Expense
              
              42,511
              133,313Provision
      for Income Taxes
              
              11,216
              800Depreciation
      and Amortization
              
              675,710
              592,916Loan
      Fees on Revolving Credit Facility
              99,177
              173,562Stock
      Option Expense
              
              256,428
              212,103Gain
      on Building Sale
              
              (58,635)
              (58,636)Adjusted
      EBITDA
              
              $                1,170,234
              $            1,179,495






21




We define
Adjusted EBITDA as net income before interest, taxes, depreciation,
amortization, loan fees on our revolving credit facility, stock option expense,
and gain on the 2003 sale of our Poway building.  Adjusted EBITDA is
not recognized under U.S. GAAP.  We believe the use of Adjusted EBITDA
along with U.S. GAAP financial measures enhances the understanding of our
operating results and is useful to our management, Board of Directors and
investors.
 
 ·
              Adjusted
      EBITDA is used by management as a performance measure for benchmarking
      against our peers and our competitors.  In particular, we
      evaluate management performance by using revenues and operating income
      (loss) before depreciation and amortization, loan fees on our revolving
      credit facility, stock option expense, and gain on our 2003 building
      sale.  We also use Adjusted EBITDA to evaluate operating
      performance, to measure performance for incentive compensation programs,
      and to evaluate future growth
opportunities.
 
 ·
              Adjusted
      EBITDA is one of the metrics used by management and our Board of
      Directors, to review the financial performance of the business on a
      monthly basis and, in part, to determine the level of compensation for
      management.  This is done by comparing the managers’
      departmental budgets without interest, taxes, depreciation and
      amortization, loan fees on our revolving credit facility, stock option
      expense, and gain on our 2003 building sale as a measure of their
      performance.
 
 ·
              We
      believe Adjusted EBITDA is useful to investors and allows a comparison of
      our operating results with that of competitors exclusive of depreciation
      and amortization, interest income, interest expense, non-cash stock option
      expenses and other non-operating expenses such as loan fees and gain on
      our 2003 building sale.  Financial results of competitors in our
      industry have significant variations that can result from timing of
      capital expenditures, the amount of intangible assets recorded, the
      differences in assets’ lives, the timing and amount of investments and the
      variances in the amount of stock options granted to
    employees.
 
 Adjusted
EBITDA should not be viewed in isolation and is not presented as an alternative
to cash flow from operations as a measure of our liquidity or as an alternative
to net income as an indicator of our operating performance.  Adjusted
EBITDA should be used in conjunction with U.S. GAAP financial measures. Adjusted
EBITDA is not intended to be a measure of free cash flow for management’s
discretionary use, as it does not consider certain cash requirements such as
capital expenditures, contractual commitments, interest payments, income tax
payments and debt service requirements.  There are material
limitations associated with making the adjustments to calculate Adjusted EBITDA
and using this non-GAAP financial measure as compared to the most directly
comparable GAAP financial measure.  For instance, Adjusted EBITDA does
not include:  1) interest expense, and because we may borrow money to
finance our operations, interest expense is a necessary element of our
costs;  2) depreciation and amortization expense, and because we use
tangible and intangible capital assets, depreciation and amortization expense is
a necessary element of our costs; and,  3) income tax expense, and
despite our prospective tax loss carry forwards, because the payment of income
taxes is part of our operations, income tax expense is a necessary element of
our costs.  Since not all companies use identical calculations, our
presentation of Adjusted EBITDA may not be comparable to other similarly titled
measures of other companies.


22


Three
Months Ended June 30, 2008 -vs.- Three Months Ended June 30, 2007
 
 During
the three months ended June 30, 2008, we had net sales of approximately $9.0
million as compared to net sales of approximately $8.6 million for the same
three month period in 2007, an increase of approximately 4%.  Sales
increased primarily due to the growth of our non-government sector
programs.  Revenue for the three months ended June 30, 2008 from
government and government related work was approximately $5.9 million, or 65.4%
of net sales, and revenue from commercial customers was approximately $3.1
million, or 34.6% of net sales.  In comparison, in the three months
ended June 30, 2007, revenue from government and government related work was
approximately $6.4 million, or 74.9% of net sales, and revenue from commercial
customers was approximately $2.2 million, or 25.1% of net sales.
 
 For the
three months ended June 30, 2008, we had costs of sales (direct and allocated
costs associated with individual contracts) of approximately $6.9 million, or
76.6% of net sales, as compared to approximately $6.1 million, or 71.1% of net
sales, during the same period in 2007.  Our increase in cost of sales,
or correspondingly our decrease in gross margin, was primarily due to an
increase in our overhead costs including a lower than expected labor utilization
rate and increases in our facility costs.
 
 We
experienced a decrease of approximately $0.4 million, or 5% of net sales, in
operating expenses for the three month period ended June 30, 2008, compared to
the same period in 2007.  Total operating expenses as a percentage of
net sales decreased from 27.1% for the three months ended June 30, 2007 to 21.4%
for the three months ended June 30, 2008.  The following are the
components of our operating expenses:
 
 ·
              General
      and administrative expenses decreased approximately $0.5 million from
      approximately $1.4 million for the three months ended June 30, 2007 to
      approximately $0.9 million for the same three month period in
      2008.  The decrease can be attributed to improved efficiencies
      of sharing certain General and Administrative services companywide rather
      than supported at each location, including but not limited to accounting
      support, information systems support and contract
      support.   General and administrative expenses as a
      percentage of total net sales decreased from 16.3% for the three months
      ended June 30, 2007 to 10.0% for the same three month period in
      2008.
 
 ·
              Research
      and development expenses increased to approximately $0.2 million, or 2.23%
      of net sales, for the three months ended June 30, 2008, from approximately
      $0.1 million, or 1.4% of net sales, of net sales, during the same period
      in 2007.  This increase of internally funded research and
      development was focused on programs to enhance our satellite capabilities
      and mechanical systems, including but not limited to our in house
      development of guidance and navigational control systems, small satellite
      production, and enhanced dual-axis pointing mechanism
    project.
 
 ·
              Marketing
      and sales expenses remained flat at approximately $0.8 million, or 9.2% of
      net sales, for the three months ended June 30, 2008, from approximately
      $0.8 million, or 9.3% of net sales, during the same period in
      2007.
 
 ·
              Our
      stock option expense is based on a calculation using the minimum value
      method as prescribed by SFAS 123(R), otherwise known as the Black-Scholes
      method.   Under this method, we used a risk-free interest
      rate at the date of grant, an expected volatility, an expected dividend
      yield and an expected life of the options to determine the fair value of
      options granted.  The risk-free interest rate was estimated and
      ranged from 2.17% to 4.79%, expected volatility ranged from 49.62% to
      94.36% at the time all options were granted, the dividend yield was
      assumed to be zero, and the expected life of the options was assumed to be
      four years based on the average vesting period of options
      granted.  The total expense for the three months ended June 30,
      2008 and 2007 was approximately $0.2 million and $0.1 million,
      respectively.
 
 23


Non-operating
expense (income) consisted of interest expense, interest income, and deferred
gain on the sale of our building, as well as other non-cash loan fees and
expenses.
 
 ·
              We
      recorded loan fees related to our revolving credit facility of
      approximately $50,000 and $87,000 for the three months ended June 30, 2008
      and 2007, respectively.  We issued 310,009 shares of our common
      stock, valued at $0.35 million, to Laurus in September 2006 for revolving
      credit facility loan fees, which we amortized over the initial 12
      months.  We further issued 283,286 shares of our common stock,
      valued at $0.2 million, to Laurus in September 2007 for revolving credit
      facility loan fees, which we are amortizing from October 2007 through
      September 2008.
 
 ·
              Interest
      and other expense for the three months ended June 30, 2008 and 2007 was
      approximately $25,000 and $58,000, respectively.  The decrease
      was mainly attributable to utilization of our revolving credit facility in
      2007; whereas, we did not utilize the revolving line of credit during in
      2008.  Interest and other expenses also include cash fees of
      $175,000, which we are amortizing over 36 months in connection to our
      revolving credit facility mentioned above.  We generated
      interest and other income in the three months ended June 30, 2008 and 2007
      of approximately $23,000 and $10,000, respectively, based on the levels of
      our cash balances in each period.
 
 ·
              We
      recognized approximately $29,000 of the deferred gain on the 2003 sale of
      our Poway headquarters building during each of the three month periods
      ended June 30, 2008 and 2007, and we will continue to amortize the
      remaining deferred gain of approximately $0.5 million into non-operating
      income over the remainder of the leaseback period, which expires in
      January 2013.
 
 During
the three months ended June 30, 2008, we generated net income of approximately
$147,000, or 1.6% of net sales, despite recognizing approximately $0.2 million
in non-cash charges related to expensing stock options under SFAS 123(R),
compared to net income of approximately $47,000, or 0.5% of net sales, for the
same three month period in 2007, which also included approximately $0.1 million
in non-cash charges related to expensing stock options under SFAS
123(R).  During the three months ended June 30, 2008, we had adjusted
earnings before interest, taxes, depreciation and amortization, loan fees on our
revolving facility, stock option expense, and gain on building sale, or Adjusted
EBITDA, of approximately $0.7 million, or 7.6% of net sales, compared to
approximately $0.5 million, or 6.2% of net sales, for the three months ended
June 30, 2007.
 
 The
following table reconciles Adjusted EBITDA to net income for the three months
ended June 30, 2008 and 2007:




For
      the three months ended
              
              June
      30, 2008
              June
      30, 2007(Unaudited)
              (Unaudited)Net
      Income
              
              $            147,326
              $              47,152Interest
      Income
              
              (23,188)
              (10,023)Interest
      Expense
              
              24,532
              57,956Provision
      for Income Taxes
              
              10,909
              -Depreciation
      and Amortization
              
              340,536
              276,678Loan
      Fees on Revolving Credit Facility
              49,863
              87,261Stock
      Option Expense
              
              156,892
              107,484Gain
      on Building Sale
              
              (29,318)
              (29,318)Adjusted
      EBITDA
              
              $            677,552
              $            537,190




We define
Adjusted EBITDA as net income before interest, taxes, depreciation,
amortization, loan fees on our revolving credit facility, stock option expense,
and gain on the 2003 sale of our Poway building.  Adjusted EBITDA is
not recognized under U.S. GAAP.  We believe the use of Adjusted EBITDA
along with U.S. GAAP financial measures enhances the understanding of our
operating results and is useful to our management, Board of Directors and
investors.




24


·
            Adjusted
      EBITDA is used by management as a performance measure for benchmarking
      against our peers and our competitors.  In particular, we
      evaluate management performance by using revenues and operating income
      (loss) before depreciation and amortization, loan fees on our revolving
      credit facility, stock option expense, and gain on our 2003 building
      sale.  We also use Adjusted EBITDA to evaluate operating
      performance, to measure performance for incentive compensation programs,
      and to evaluate future growth
opportunities.





·
            Adjusted
      EBITDA is one of the metrics used by management and our Board of
      Directors, to review the financial performance of the business on a
      monthly basis and, in part, to determine the level of compensation for
      management.  This is done by comparing the managers’
      departmental budgets without interest, taxes, depreciation and
      amortization, loan fees on our revolving credit facility, stock option
      expense, and gain on our 2003 building sale as a measure of their
      performance.





·
            We
      believe Adjusted EBITDA is useful to investors and allows a comparison of
      our operating results with that of competitors exclusive of depreciation
      and amortization, interest income, interest expense, non-cash stock option
      expenses and other non-operating expenses such as loan fees and gain on
      our 2003 building sale.  Financial results of competitors in our
      industry have significant variations that can result from timing of
      capital expenditures, the amount of intangible assets recorded, the
      differences in assets’ lives, the timing and amount of investments and the
      variances in the amount of stock options granted to
    employees.





Adjusted
EBITDA should not be viewed in isolation and is not presented as an alternative
to cash flow from operations as a measure of our liquidity or as an alternative
to net income as an indicator of our operating performance.  Adjusted
EBITDA should be used in conjunction with U.S. GAAP financial measures. Adjusted
EBITDA is not intended to be a measure of free cash flow for management’s
discretionary use, as it does not consider certain cash requirements such as
capital expenditures, contractual commitments, interest payments, income tax
payments and debt service requirements.  There are material
limitations associated with making the adjustments to calculate Adjusted EBITDA
and using this non-GAAP financial measure as compared to the most directly
comparable GAAP financial measure.  For instance, Adjusted EBITDA does
not include:  1) interest expense, and because we may borrow money to
finance our operations, interest expense is a necessary element of our
costs;  2) depreciation and amortization expense, and because we use
tangible and intangible capital assets, depreciation and amortization expense is
a necessary element of our costs; and,  3) income tax expense, and
despite our prospective tax loss carry forwards, because the payment of income
taxes is part of our operations, income tax expense is a necessary element of
our costs.  Since not all companies use identical calculations, our
presentation of Adjusted EBITDA may not be comparable to other similarly titled
measures of other companies.





Liquidity
and Capital Resources




Cash
Flows for Six Months Ended June 30, 2008 -vs.- Six Months Ended June 30,
2007





Net
decrease in cash during the six months ended June 30, 2008 was approximately
$1.1 million from $6.5 million at December 31, 2007 to $5.4 million at June 30,
2008.  The change was primarily due to the pay down of current liabilities
by almost $1 million and the accelerated repurchase of preferred stock of
$825,000.  This is compared to a net increase in the six months ended June
30, 2007 of $1.5 million, from $1.4 million at December 31, 2006 to $2.9 million
at June 30, 2007.  The change in 2007 was because we borrowed approximately
$2.2 million of cash advances on our revolving credit facility in the first six
months of 2007 to fund operations whereas in 2008, working capital funded
operations.  Net cash provided by operating activities totaled
approximately $0.4 million for the six months ended June 30, 2008, a slight
increase from the $0.3 million provided by operations for the same six month
period in 2007.





Net cash
used in investing activities totaled approximately $0.3 million for the six
months ended June 30, 2008, compared to approximately $0.5 million used in
investing activities during the same six month period in 2007.  The
decrease was due to a decline in fixed assets being purchased in the first six
months of 2008 compared to the first six months of 2007.




25


Net cash
used in financing activities totaled approximately $1.1 million for the six
months ended June 30, 2008, which is a decrease of approximately $2.7 million
from approximately $1.6 million provided by financing activities during the same
six months in 2007.  This is primarily attributable to borrowing $2.2
million under our revolving credit facility in 2007 to fund operations versus no
use on the facility in the first six months of 2008.  In addition, we
repurchased $0.8 million of our preferred stock in the first six months of 2008,
versus $0.6 million in the same six months of 2007.
 
 Liquidity and Backlog
 
 At June
30, 2008, our cash, which included cash reserves and cash available for
investment, was approximately $5.5 million, as compared to approximately $2.9
million at June 30, 2007, an increase of approximately $2.5
million.  At June 30, 2008, our working capital ratio was
approximately 1.2:1 versus 1.1:1 for the same period in 2007.
 
 Our
backlog was approximately $30.1 million at June 30, 2008, compared to
approximately $29 million at December 31, 2007.  Our backlog consists of
contracted and contract-in-process business.  Our contracted business
is the estimated value of contracts for which we are authorized to incur costs
and for which orders have been recorded, but for which revenue has not yet been
recognized.  Contracted business fluctuates due to a variety of
events, including but not limited to the timing of
awards.  Contracts-in-process business are situations where we have
been informed that our bids on new contract work have been accepted, but due to
issues, such as: delays in the adoption of the U.S. Government budget; changes
in program budgets; and, finalization of mutually acceptable contract terms and
conditions, these contract opportunities have not been admitted into our
backlog.  Our contracted business was approximately $17.1 million and
$16 million at June 30, 2008 and December 31, 2007, respectively.  Our
contract-in-process business was approximately $13 million at June 30, 2008 and
December 31, 2007.
 
 Critical
Accounting Standards
 Due to
the acquisition of Starsys, our revenues transitioned in 2006 from being
primarily cost-plus fixed-fee contracts, where revenues are recognized as costs
are incurred and services are performed, to a combination of cost-plus fixed-fee
contracts and fixed price contracts, where revenues are recognized using the
percentage-of-completion method of contract accounting based on the ratio of
total costs incurred to total estimated costs. Losses on contracts are
recognized when they become known and reasonably estimated (see the Notes to our
Consolidated Financial Statements).  Actual results of contracts may
differ from management's estimates and such differences could be material to the
consolidated financial statements.  In addition, when the total value
of a contract becomes uncertain (such as when a contract modification to reflect
cost overruns is being negotiated), we may be unable to report further revenues
on the contract under the percentage-of-completion method until the uncertainty
is resolved.
 
 Professional
fees are billed to customers on a time-and-materials basis, a fixed price basis
or a per-transaction basis.  Time-and-material revenues are recognized
as services are performed.  Deferred revenue represents amounts
collected from customers for services to be provided at a future
date.  Research and development costs are expensed as
incurred.
 
 Recent
Accounting Pronouncements
 There
were no recent Accounting Pronouncements that affected the Company during the
first six months of 2008.  For past pronouncements, please refer to
our Form 10-KSB filed on March 28, 2008.
 
 Risk
Factors
 
 The
following factors, among others, could cause actual results to differ materially
from those contained in forward-looking statements made herein and presented
elsewhere by management from time to time.






26




Risks
Related to our Company
 
 Our
size tends to limit our business opportunities.
 
 Our size
is determined by revenues, work force and capabilities. As a small company, our
ability to compete successfully for a large amount of desirable business may be
limited because customers perceive that larger suppliers are more dependable,
have the resources to successfully execute larger programs and, therefore, are
more stable.  Yet, if we cannot win such business, it may be difficult
for us to rapidly grow our business through organic growth.  Prime
contracts in our industry may be large in dollar amount and critical to national
interests. As a practical matter, smaller companies are at a disadvantage when
competing to be awarded such large contracts as the prime contractor, due to
customer perception that larger companies might be more stable. For this
purpose, we would currently be considered a "smaller company."
 
 We
have experienced losses from operations in prior periods and have been required
to seek additional financing to support our businesses.
 
 In prior
years, we have experienced operating losses and, in some periods, revenue from
operations was not  sufficient to fund our
operations.  Historically, our operating activities have used cash
rather than provided cash.  The success of our Company depends upon
our ability to generate revenue from existing contracts, to execute programs
cost-effectively, to price fixed price contracts accurately, to attract and
successfully complete additional government and commercial contracts, and
possibly to obtain additional financing.  The likelihood of our
success must be considered in light of the expenses, difficulties and delays
frequently encountered in connection with developing businesses, those
historically encountered by us, and the competitive environment in which we
operate.
 
 If
we are unable to raise capital, we may be unable to fund operating cash
shortfalls, necessary capital expenditures, and future growth
opportunities.
 
 In the
past, we have relied upon cash from financing activities to fund part of the
cash requirements of our business.  We may need additional financing
to fund our projected operations, capital expenditures or expansion plans
(including acquisitions).  Additional financing may not be available
to us on acceptable terms, or at all.  Any equity financing may cause
additional dilution to existing stockholders.  Any debt financing or
other issuance of securities senior to common stock likely will include
financial and other covenants that will restrict our operating flexibility and
payment of dividends to common stockholders.
 
 Some
of our government contracts are staged and we cannot guarantee that all stages
of the contracts will be awarded to us or fully funded.
 
 Some of
our government contracts are phased contracts in which the customer may
determine to terminate the contract between phases for any
reason.  Accordingly, the entire contract amount may not be realized
by us.  In the event that subsequent phases of some of our government
contracts are not awarded to us, or if they are awarded to us but not fully
funded, it could have a material adverse effect on our financial position and
results of operations.  For example, we were informed in 2007 that
there were not going to be any GFY 2008 funds from the Missile Defense Agency to
support our microsatellite distributed sensing experiment.  We were
able to replace some, but not all, of the Missile Defense Agency funding support
with funding from the Office of Operationally Responsive Space.
 
 We
provide our products and services primarily through fixed price and cost-plus-
fixed-fee contracts. We have experienced significant losses on fixed price
contracts, especially those requiring significant development. Cost overruns may
result in further losses and could impair our liquidity position.
 
 Under
fixed price contracts, our customers pay us for work performed and products
shipped without adjustment for the costs we incur in the process. Therefore, we
generally bear all or a significant portion of the risk of losses as a result of
increased costs on these contracts, unless we can obtain voluntary relief from
our customer, which relief (or additional consideration) cannot be assured.
Although we have taken significant steps to try to limit our risk on fixed price
contracts going forward, we have historically experienced significant cost
overruns on development projects under fixed price contracts.  For
example, we experienced significant cost overruns in 2007 on a sizable
subcontract with Northrop Grumman Space Technology and are experiencing cost
overruns in 2008 on a contract with Lockheed Martin. Although we anticipate
contract modifications to cover overruns, there can be no assurance that such
contract modifications will be successfully negotiated or, if negotiated,
sufficient to cover our expended costs.  These costs significantly
affected our gross margin and impaired our liquidity position and
operations.
 
 27




When
contract provisions produce unfavorable results for us, or fixed price
development contracts result in losses, we generally do not have the legal or
economic leverage needed to easily obtain renegotiated terms. Our customers
generally would not fear any threat we might make to withhold future business
and our financial and business position make litigation an unfavorable option
for us. On the other hand, the reverse might be true of our customers, who tend
to be large aerospace companies with significant resources. In the case of two
major fixed price contracts on which we have experienced significant cost
overruns, the customers were willing to work with us and negotiations resulted
in contract amendments providing additional incentive payments based on
performance. However, there can be no assurance that future attempts to
renegotiate contracts will be successful.
 
 To
mitigate risks of this kind, we have made a business decision to:
 
 ·
              limit
      the number of new fixed price development
  contracts;
 ·
              offer
      our customers alternative contract structures that better protect
      us;
 ·
              establish
      additional costing reviews; and
 ·
              increase
      senior management involvement to scrutinize proposal efforts related to
      fixed price contracts.
 
 This
decision could limit our ability to obtain new business.
 
 Under
cost-plus contracts, we are reimbursed for allowable incurred costs plus a fee,
which may be fixed or variable. This type of contract structure passes much of
the risk to the buyer; however, it also limits our ability to generate
profit.  We normally try to negotiate a cost-plus contract for high
risk development-type programs. Most customers prefer a fixed-fee arrangement
but variable fee arrangements are possible.  There is no guarantee as
to the fee amount we will be awarded under a cost-plus contract with a variable
fee. The price on a cost-plus fixed-fee reimbursable contract is based on
allowable costs incurred, but generally is subject to contract funding
limitations. Therefore, we could bear the amount of costs in excess of the
funding limitation specified in the contract, and we may not be able to recover
those cost overruns.  Generally, cost-plus contracts are the best way
to mitigate risks related to development-type programs and other higher risk
opportunities. However, there can be no assurance that any type of contract
vehicle can protect us from cost overruns and significant cost overruns could
impair our liquidity position.
 
 If
we fail to integrate and operate our multi-location business effectively, we may
have disappointing business results.
 
 The
integration of Starsys Research Corporation into SpaceDev is still ongoing and
may cause inefficiencies and additional expense, if it is not completed in an
efficient manner. If this integration effort is not successful, our results of
operations could be affected and we may not achieve the synergies or benefits we
anticipated.  We may encounter difficulties, costs, and delays
involved in integrating our operations, including but not limited to the
following:
 
 ·
              challenges
      encountered in managing larger, more geographically dispersed
      operations;
 ·
              the
      loss of key employees;
 ·
              diversion
      of the attention of management from other ongoing business
      concerns;
 ·
              potential
      incompatibilities of processes, technologies and
  systems;
 ·
              potential
      difficulties integrating and harmonizing financial reporting systems;
      and,
 ·
              potential
      failure to implement systems to properly price and manage the execution of
      fixed price contracts.
 
 28


We do not
believe that the anticipated benefits of the merger with Starsys have yet been
fully realized.   We believe the market price of our common stock
may have declined, in part, due to this. We will not meet the expectations of
investors and financial or industry analysts if:
 
 ·
              the
      integration of the two companies does not result in the anticipated
      synergies and benefits;
 ·
              the
      costs savings from operational improvements arising from the merger is not
      greater than anticipated;
 ·
              the
      combined financial results are not consistent with
      expectations;
 ·
              management
      is unable to successfully manage a multi-location
  business;
 ·
              the
      anticipated operating and product synergies of the merger are not
      realized; or,
 ·
              the
      fixed price development contracts acquired in the merger, or new fixed
      price contracts entered into after the merger, incur major cost overruns
      or remain unprofitable for other
reasons.
 
 We
relocated to a new Colorado facility and North Carolina facility in 2007,
increasing our rental costs.
 
 The move
of our Boulder, Colorado and Durham, North Carolina operations to new and larger
nearby facilities in 2007 was time consuming and expensive and partially
disrupted operations.  In addition, we may not achieve anticipated
efficiencies or other operational benefits of these moves.  Although
both moves are complete, we may not realize the anticipated operating
efficiencies.    Moreover, if our business does not develop
as expected, the new facilities may be larger than what we require, resulting in
rent payments for some unneeded space.  Our rental costs at the new
facilities are approximately 72% higher than we had paid at the prior
facilities.
 
 A
substantial portion of our net sales are generated from government contracts,
which makes us susceptible to the uncertainties inherent in the government
budgeting process.  In addition, many of our contracts can be terminated by
our customer.
 
 Our
concentration of government work makes us susceptible to government budget cuts
and policy changes, which may impact the award of new contracts or future phases
of existing contracts.  Government budgets (both in general and as to
space and defense projects) are subject to the prevailing political climate,
which is subject to change at any time, and particularly when a new presidential
administration comes into office.  Additionally, awarded contracts
could be altered or terminated before we recognize our projected revenue. Many
contracts are awarded in phases where future phases are not guaranteed to
us.  Delays in government budget appropriations may delay the award or
start date of current funded programs.  In addition, obtaining
contracts and subcontracts from government agencies is challenging, and
contracts often include provisions that are not standard in private commercial
transactions. For example, government contracts may:
 
 ·
              include
      provisions that allow the government agency to terminate the contract
      without penalty;
 ·
              be
      subject to purchasing decisions of agencies that are subject to political
      influence;
 ·
              contain
      onerous procurement procedures;
and,
 ·
              be
      subject to cancellation if government funding becomes
      unavailable.
 
 Securing
government contracts can be a protracted process involving competitive
bidding.  In many cases, unsuccessful bidders may challenge contract
awards, which can lead to increased costs, delays, and possible loss of the
contract for the winning bidder.
 
 In
addition, major contracts are often awarded to teams of companies. Therefore,
our ability to win contracts may depend not only on our own merits, but also
those of our bid team members. Also, if we do not lead the bid team as the prime
contractor, we will have limited control over the contract bid and award
processes.
 
 29


Our
common stockholders will experience dilution if our preferred stock is converted
or our outstanding warrants and options are exercised.
 
 As of
June 30, 2008, we have outstanding non-stock option derivative securities which
could obligate us to issue 7,349,126 shares of our common stock, of which
1,722,138 underlie outstanding warrants and 5,626,988 are issuable upon
conversion of our outstanding Series C and Series D-1 preferred
stock.  In addition, as of June 30, 2008, we had outstanding stock
options to purchase an aggregate of 12,078,735 shares of our common stock, of
which 8,032,133 are currently vested.  The total number of shares
issuable upon the exercise or conversion of vested warrants, options and
preferred stock (15,381,259 shares as of June 30, 2008) represents approximately
36% of our issued and outstanding shares of common stock as of June 30,
2008.
 
 We
face significant competition and many of our competitors have greater resources
and market status than we do.
 
 We face
significant competition for our government and commercial
contracts.  Many of our competitors have greater resources than we do
and may be able to devote greater resources than us to research and development,
marketing, and lobbying efforts.  Given the sophistication inherent in
any space company's operations, larger competitors may have a significant
advantage and may be able to more efficiently adapt and implement technological
advances. In addition, larger and financially stronger corporations have
advantages over us in obtaining space and defense contracts due to their
superior marketing (lobbying) resources and the perception that they may be a
better choice than smaller companies for mission-critical projects because of
the higher likelihood that they will be able to continue in business for the
necessary future period.
 
 Furthermore,
it is possible that other domestic or foreign companies or governments, some
with greater experience in the space industry and many with greater financial
resources than we possess, could seek to develop mission solutions or produce
products or services that compete with us, including new mechanisms and
electromechanical subsystems using new technology which could render our mission
solutions and products less viable.  Some of our foreign competitors
currently benefit from, and others may benefit in the future from, subsidies
from or other protective measures implemented by their home
countries.
 
 Our
level of business may be difficult to predict.
 
 We hope
to sell an increasing percentage of our mission solutions, products and services
on a recurring basis, but most of our revenue is derived from government
contracts and government-related work, which may not be recurring or may be
terminated.  (See Risk Factor:  A substantial portion of our net
sales are generated from government contracts, which makes us susceptible to the
uncertainties inherent in the government budgeting process.  In addition,
many of our contracts can be terminated by our
customer.)  Government contracts can be defunded or terminated
by the Government for convenience. Also, some of our mission solutions, products
and services may not achieve market acceptance, and our future prospects may
therefore be difficult to evaluate.
 
 We
may not develop products successfully or in a timely manner.
 
 Many of
our mission solutions, products, services and technologies are currently in
various stages of development.  Further development and testing of our
products and technologies will be required to prove additional performance
capability beyond current levels and to confirm commercial
viability.  Additionally, the final cost of development cannot be
determined until development is complete.  Most of our development
work is in fact performed under contracts from our customers.  In the
past, we have contracted to execute development programs under fixed price
contracts.  Under these contracts, even if our costs begin to exceed
the amount to be paid by the customer under the contract, we are required to
complete the contract without receiving any additional payments from our
customer.  It is difficult to accurately predict the total cost of
executing these programs.  If the costs to complete these programs
significantly exceed the payments from our customers under the contracts, our
results of operations will be harmed. These contracts are inherently risky, and
in the past have had material adverse effects to us.  We intend to
significantly reduce our acceptance of this sort of contract. This may limit our
opportunity to develop products at a customer's expense.
 
 30


Our
mission solutions, products, services and technologies are, and will continue to
be, subject to significant technological change and innovation. Our success will
generally depend on our ability to continue to conceive, design, manufacture,
and market new products and services on a cost-effective and timely basis. We
anticipate that we will incur significant expenses in the design and initial
manufacture and marketing of new products and services.  Some of these
costs may be covered by our customers or partnership arrangements. However,
there can be no assurance that significant costs will not be incurred by
us.
 
 The
marketplace for our technology and products is uncertain.
 
 The
demand for all space-related goods and services in general, and for our mission
solutions, products, services and technologies in particular, is uncertain and
we may not obtain a sufficient market share to sustain our business or to
increase profitability. Our business plan assumes that near-term revenues will
be generated largely from government contracts for our mission solutions,
including, but not limited to, small satellites and electromechanical systems
for spacecraft.  A long-term commercial market may not develop for
private manned and unmanned space exploration.  Small satellites and
commercial space exploration are still relatively new concepts, and it is
difficult to accurately predict the ultimate size of the market. In addition, we
are working to develop new ways to enhance our mission solutions, such as large
deployable structures, solar array drives, slip rings, precision scanning
assemblies for spacecraft, and now services such as turnkey launch
solutions.  Many of our products and services are new and unproven,
and the true level of customer demand is uncertain. Lack of significant market
acceptance of our mission solutions, products, services and technologies, delays
in such acceptance, or failure of our markets to develop or grow could
negatively affect our business, financial condition, and results of
operations.
 
 Our
operating results could fluctuate on a quarterly and annual basis, which could
cause our stock price to decline.
 
 Our
operating results may fluctuate from quarter-to-quarter and year-to-year for a
variety of reasons, many of which are beyond our control. Factors that could
affect our quarterly and annual operating results include those listed below as
well as others listed in this "Risk Factors" section:
 
 ·
              we
      may not be awarded all stages of existing or future
    contracts;
 ·
              significant
      contracts may be awarded to our competitors rather than to
    us;
 ·
              the
      timing of new technological advances and mission solution announcements or
      introductions by us and our
competitors;
 ·
              changes
      in the terms of our arrangements with customers or
    suppliers;
 ·
              reliance
      on a few customers for a significant portion of our
    revenue;
 ·
              the
      failure of our key suppliers to perform as
  expected;
 ·
              general
      or particular political conditions that could affect spending for the
      products that we offer;
 ·
              changes
      in perception of the safety of space
travel;
 ·
              cost
      overruns or other delays or failures to satisfy our obligations under our
      contracts on a timely basis;
 ·
              the
      failure of our mission solution to conduct a successful
      mission;
 ·
              the
      uncertain market for our mission solutions, products, services and
      technologies;
 ·
              the
      availability and cost of raw materials and components;
  and,
 ·
              the
      potential loss of or inability to hire key
  personnel.
 
 Our
operating results may fall below the expectations of public market analysts or
investors.  In this event, our stock price could decline
significantly.
 
 31


Our
products and services may not function well under certain
conditions.
 
 Most of
our mission solutions and related products are technologically advanced and
tested, but sometimes are not space qualified for performance under demanding
operating conditions. Many of our customers conduct extensive testing during the
extensive pre-launch period, while the hardware is on the
ground.  Depending on the contract terms, we could incur additional
costs related to rework.  Although we have never had a failure of our
mission solutions or products in space, it is possible that our mission solution
or products may not successfully launch or operate, or perform or operate as
intended in space. Like most organizations that have designed space missions or
launched space qualified hardware, we may experience some failures, cost
overruns, schedule delays, and other problems.
 
 Launch
failures or delays, due to no fault of our own, could have serious adverse
effects on our business.
 
 Launch
failures or delays could have serious adverse effects on our business. Launches
are subject to significant risks, the realization of which can cause disabling
damage to, or total loss of, our mission solution and/or products, as well as
damage to our reputation among actual and potential customers. Delays in the
launch could also adversely affect our revenues. Delays could be caused by a
number of factors related to the launch vehicle and outside of our
control.  Delays and the perception of potential delays could
negatively affect our marketing efforts and limit our ability to obtain new
contracts and projects.
 
 In
addition to many other risks involving our business, until we develop our own
launch vehicle, we may be dependent on the performance of third party companies
like United Launch Alliance (ULA), a large company, or Space Exploration
Technologies (Space-X), a small company with limited operating history, which
has not yet had a successful launch.
 
 Our
U.S. government contracts are subject to audits that could result in a material
adverse effect on our financial condition and results of operations if a
material adjustment is required.
 
 The
accuracy and appropriateness of our direct and indirect costs and expenses under
our contracts with the U.S. government are subject to extensive regulation and
audit by the Defense Contract Audit Agency, by other agencies of the U.S.
government, or by prime contractors.  These entities have the right to
audit our cost estimates and/or allowable cost allocations with respect to
certain contracts.  From time to time we may in the future be required
to make adjustments and reimbursements as a result of these
audits.  Responding to governmental audits, inquiries, or
investigations may involve significant expense and divert management
attention.  Also, an adverse finding in any such audit, inquiry, or
investigation could involve contract termination, suspension, fines, injunctions
or other sanctions.
 
 Our
success depends on our ability to retain our key personnel.
 
 Our
success will be dependent upon the efforts of key members of our management and
engineering team, including our Chairman and Chief Executive Officer, Mark N.
Sirangelo, our President and Chief Financial Officer, Richard B. Slansky, and
certain other key personnel.  The loss of either of these persons, or
other key employees, including personnel with security clearances required for
classified work and highly skilled technicians and engineers, could have a
material adverse effect on us.  Our future success is likely to depend
substantially on our continued ability to attract and retain highly qualified
personnel.  The competition for such personnel is intense, and our
inability to attract and retain such personnel could have a material adverse
effect on us.  At this time, we do not maintain key man life insurance
on any of our personnel.
 
  32


We
reduced the use of stock options, in part due to SFAS 123(R), which reduced the
effectiveness of stock options as a retention device.
 
 If
we grow but do not effectively manage the growth, our business could suffer as a
result.
 
 Even if
we are successful in obtaining new business, failure to manage the growth could
adversely affect our operations. We may experience acute periods of very rapid
growth (for example, if we were to win a major contract), which could place a
significant strain on our management, operating, financial, and other resources.
Our future performance will depend in part on our ability to manage growth
effectively. We must develop management information systems, including
operating, financial, and accounting systems, improve project management systems
and processes and expand, train, and manage our workforce to keep pace with
growth. Our inability to manage growth effectively could negatively affect
results of operations and the ability to meet obligations as they come
due.
  We
may not successfully address the problems encountered in connection with
potential future acquisitions.
 
 We expect
to consider opportunities to acquire or make investments in other technologies,
and businesses that could enhance our capabilities, complement our current
business, or expand the breadth of our markets or customer
base.  Acquisitions may be necessary to enable us to quickly achieve
the size needed for some potential customers to seriously consider entrusting us
with mission solutions, mission-critical contracts or subcontracts. As a
company, we have limited experience in acquiring other businesses and
technologies: the Starsys Research Corporation acquisition was our first major
acquisition.  Potential and completed acquisitions and strategic
investments involve numerous risks, including:
 
 ·
                problems
      assimilating the purchased technologies, products, or business
      operations;
 ·
                problems
      maintaining uniform standards, procedures, controls, and
      policies;
 ·
                unanticipated
      costs associated with the
acquisition;
 ·
                diversion
      of management's attention from core
businesses;
 ·
                adverse
      effects on existing business relationships with suppliers and
      customers;
 ·
                incompatibility
      of business cultures;
 ·
                risks
      associated with entering new markets in which we have no or limited prior
      experience;
 ·
                dilution
      of common stock and shareholder value as well as adverse changes in stock
      price;
 ·
                potential
      loss of key employees of acquired businesses;
  and
 ·
                increased
      legal and accounting costs as a result of the rules and regulations
      related to the Sarbanes-Oxley Act of
2002.
 
 If
our key suppliers fail to perform as expected, our reputation may be
damaged.  We may experience delays, lose customers, and experience
declines in revenues, profitability, and cash flow.
 
 We
purchase a significant percentage of our product components and subassemblies
from third parties. If our subcontractors fail to perform as expected or
encounter financial difficulties, we may have difficulty replacing them or
identifying qualified replacements in a timely or cost effective
manner.  As a result, we may experience performance delays that could
result in additional program costs, contract termination for default, or damage
to our customer relationships which may cause our revenues, profitability, and
cash flow to decline.  In addition, negative publicity from any
failure of one of our missions, products or sub-systems as a result of a
supplier failure could damage our reputation and prevent us from winning new
contracts.


33


Our
limited insurance may not cover all risks inherent in our
operations.
 
 We may
find it difficult to insure certain risks involved in our operations, including
our mission solutions and satellite operations, accidental damage to high value
customer hardware during the manufacturing process, and damages to customer
spacecraft caused by us not working to specification. Insurance market
conditions or factors outside of our control at the time insurance is purchased
could cause premiums to be significantly higher than current estimates.
Additionally, the U.S. Department of State has published regulations which could
significantly affect the ability of brokers and underwriters to insure certain
missions or launches. These factors could cause other terms to be significantly
less favorable than those currently available, may result in limits on amounts
of coverage that we can obtain, or may prevent us from obtaining insurance at
all. Furthermore, proceeds from insurance may not be sufficient to cover
losses.
 
 Our
competitive position may be seriously damaged if we cannot protect intellectual
property rights in our technology.
 
 Our
success, in part, depends on our ability to obtain and enforce intellectual
property protection for our technologies.  We rely on a combination of
patents, trade secrets and contracts to establish and protect our proprietary
rights in our technologies.  However, we may not be able to prevent
misappropriation of our intellectual property, and the agreements we enter into
may not be enforceable.  In addition, effective intellectual property
protection may be unavailable or limited in some foreign countries.
 
 There is
no guarantee any patent will be issued on any patent application that we have
filed or may file.  Further, any patent that we may obtain will
expire, and it is possible that it may be challenged, invalidated, or
circumvented.  If we do not secure and maintain patent protection for
our technologies, our competitive position may be significantly harmed because
it may be much easier for competitors to copy our mission solutions or sell
products similar to ours.  Alternatively, a competitor may
independently develop or patent technologies designed around our patented
technologies.  In addition, it is possible that any patent that we may
obtain may not provide adequate protection and our competitive position could be
significantly harmed.
 
 As we
expand our mission solution offerings or develop new uses for our products,
these offerings or uses may be outside the scope of our current patent
applications, issued patents, and other intellectual property
rights.  In addition, if we develop new mission solutions or
enhancements to existing products, there is no guarantee that we will be able to
obtain patents to protect them.  Even if we do receive patents, these
patents may not provide meaningful protection.  In some countries
outside of the United States, effective patent protection is not
available.  Moreover, some countries that do allow registration of
patents do not provide meaningful redress for violations of
patents.  As a result, protecting intellectual property in these
countries is difficult and our competitors may successfully develop mission
solution offerings and sell products in those countries that have functions and
features that infringe on our intellectual property.
 
 We may
initiate claims or litigation against third parties in the future for
infringement of our proprietary rights or to determine the scope and validity of
our proprietary rights or the proprietary rights of
competitors.  These claims could result in costly litigation and
divert the efforts of our technical and management personnel.  As a
result, our operating results could suffer and our financial condition could be
harmed, regardless of the outcome of the case.
 
  34


Claims
by other companies that we infringe on their intellectual property or that
patents on which we rely are invalid could adversely affect our
business.
 
 Other
companies or entities also may commence actions seeking to establish the
invalidity of our patents.  In the event that one or more of our
patents is challenged, a court may invalidate the patent or determine that the
patent is not enforceable, which could harm our competitive
position.  If any of our key patents are invalidated, or if the scope
of the claims in any of these patents is limited by court decision, we could be
prevented from licensing the invalidated or limited portion of such
patents.  Even if such a patent challenge is not successful, it could
be expensive and time consuming to address, divert management attention from our
business, and harm our reputation.
 
 We
are subject to substantial regulations, some of which prohibit us from selling
internationally.  Any failure to comply with existing regulations, or
increased levels of regulation, could have a material adverse effect on
us.
 
 Our
business activities are subject to substantial regulations by various agencies
and departments of the United States government and, in certain circumstances,
the governments of other countries.  Several government agencies,
including NASA and the U.S. Air Force, maintain Export Control Offices to ensure
that any disclosure of scientific and technical information complies with the
Export Administration Regulations and the International Traffic in Arms
Regulations (ITAR).  Exports of our mission solutions, products,
services, and technical information require Technical Assistance Agreements,
manufacturing license agreements, or licenses from the U.S. Department of State
depending on the level of technology being transferred.  This includes
recently published regulations restricting the ability of U.S.-based companies
to complete offshore launches, or to export certain satellite components and
technical data to any country outside the United States.  The export
of information with respect to ground-based sensors, detectors, high-speed
computers, and national security and missile technology items are controlled by
the Department of Commerce. Failure to comply with the ITAR and/or the Commerce
Department regulations may subject guilty parties to fines of up to $1 million
and/or up to 10 years imprisonment per violation.  The practical
effect of ITAR is to limit our opportunities or increase the costs of our
proposals in the international marketplace.
 
 In
September 2007, we sold to OHB Technology AG, a leading German space technology
company, and MT Aerospace AG, a subsidiary of OHB Technology AG and an
established supplier in the aeronautic, aerospace and defense sectors, common
stock amounting to 19% of our then total outstanding shares.  In
December 2007, after an additional investment by Loeb Partners, a New York based
investment firm, we sold additional shares of our common stock to OHB Technology
AG and MT Aerospace AG, when they exercised their pre-emptive rights to maintain
19% ownership of our total outstanding shares.  Because they are
foreign companies, we could possibly be at risk of losing new and ongoing
business if we do not have the proper procedures in place to delineate and
inform employees and visitors, and also stockholders like OHB, regarding our
controls necessary to ensure that no transfer of classified defense information
or controlled unclassified information occurs unless authorized.
 
 In
addition, the space industry has specific regulations with which we must
comply.  Command and telemetry frequency assignments for space
missions are regulated internationally by the International Telecommunications
Union (ITU). In the United States, the Federal Communications Commission (FCC)
and the National Telecommunications Information Agency (NTIA), regulate command
and telemetry frequency assignments.  All launch vehicles that are
launched from a launch site in the United States must pass certain launch range
safety regulations that are administered by the U.S. Air Force. In addition, all
commercial space launches that we would perform require a license from the
Department of Transportation. Satellites that are launched must obtain approvals
for command and frequency assignments.  For international approvals,
the FCC and NTIA obtain these approvals from the ITU.  These
regulations have been in place for a number of years to cover the large number
of non-government commercial space missions that have been launched and put into
orbit in the last 15 to 20 years. Any commercial deep space mission that we
would perform would be subject to these regulations.
 
 35


We are
also subject to laws and regulations placed on the formation, administration and
performance of, and accounting for, U.S. government contracts.  With
respect to such contracts, any failure to comply with applicable laws could
result in contract termination, price or fee reductions, penalties, suspension,
or debarment from contracting with the U.S. government.
 
 We are
also required to obtain permits, licenses, and other authorizations under
federal, state, local, and foreign laws and regulations relating to the
environment.  Our failure to comply with applicable law or government
regulations, including any of the above-mentioned regulations, could have
serious adverse effects on our business.
 
 Our
stock price has been and may continue to be volatile, which could result in
substantial losses for investors purchasing shares of our common
stock.
 
 The
market prices of securities of technology-based companies like ours,
particularly in industries (also like ours) where substantial value is ascribed
to a hope for future increase in the size of the total market, are often highly
volatile. The market price of our common stock has fluctuated significantly in
the past. Our market price may continue to exhibit significant fluctuations in
response to a variety of factors, many of which are beyond our control,
including:
 
 
 ·
              deviations
      in our results of operations from
estimates;
 ·
              changes
      in estimates of our financial performance or in analyst coverage
      decisions;
 ·
              changes
      in our markets, including decreased government spending or the entry of
      new competitors;
 ·
              awards
      of significant contracts to competitors rather than to
  us;
 ·
              our
      inability to obtain financing necessary to operate our
      business;
 ·
              changes
      in technology;
 ·
              potential
      loss of key personnel;
 ·
              short
      selling;
 ·
              perceptions
      about the effect of possible dilution arising from the issuance of large
      numbers of shares of common stock underlying outstanding stock options,
      warrants, and preferred stock:
 ·
              changes
      in market valuations of similar companies and of stocks
      generally;
 ·
              volume
      fluctuations generally; and,
 ·
              other
      factors listed above in our Risk Factor: "Our operating results could
      fluctuate on a quarterly and annual basis, which could cause our stock
      price to fluctuate or
decline."
 
 The
concentration of ownership of our common stock gives a few individuals
significant control over important policy decisions and could delay or prevent
changes in control.
 
 As of
June 30, 2008, our Executive Officers and Directors together beneficially owned
approximately 34.1% of the issued and outstanding shares of our common
stock.  (Note: The beneficial ownership calculations are different
from a straight percentage of outstanding ownership calculation.  The
beneficial ownership calculation takes into consideration derivative securities,
such as stock options and warrants, which are vested or will vest within 60 days
from June 30, 2008.  These additional securities are deemed to be
outstanding for the purpose of computing the percentage of common stock owned in
this table, but are not deemed outstanding for the purpose of computing the
percentage owned). OHB Technology AG and MT Aerospace AG collectively
beneficially own approximately 18.8% of our common stock.  James W.
Benson and Susan C. Benson beneficially own approximately 16.7% of our common
stock.  (Mr. Benson separated from our employ in September 2006 but
retains a seat on our Board of Directors.)  Loeb Partners Corporation
owns approximately 11.3% of our common stock.  As a result, Executive
Officers, Directors and/or significant stockholders (i.e., OHB Technology AG, MT
Aerospace AG, Loeb Partners and/or the Bensons) could have the ability to exert
significant influence over matters concerning us, including the election of
directors, changes in the size and composition of the Board of Directors, and
mergers and other business combinations involving us.  Our foreign
stockholders are contractually limited for a period of two years from their
stock purchase date and Loeb Partners is contractually limited for a period of
one year from their stock purchase date in their ability to exert significant
influence over us by voting of shares.  Also, through control of the
Board of Directors and voting power, our Officers and Directors may be able to
control certain decisions, including decisions regarding the qualification and
appointment of officers, dividend policy, access to capital (including borrowing
from third-party lenders and the issuance of additional equity securities), and
the acquisition or disposition of our assets.  In addition, the
concentration of voting power in the hands of those individuals and entities
could have the effect of delaying or preventing a change in control of our
company, even if the change in control would benefit our
stockholders.  A perception in the investment community of an
anti-takeover environment at our company could cause investors to value our
stock lower than in the absence of such a perception.
 
 36




We
have not paid dividends on our common stock in the past and do not anticipate
paying dividends on our common stock in the foreseeable future. In addition,
other securities may restrict payment of common stock dividends.
 
 We have
not paid common stock dividends since our inception and do not anticipate paying
dividends in the foreseeable future. Our current business plan provides for the
reinvestment of any earnings in an effort to complete development of our
technologies and products, with the goal of increasing sales and long-term
profitability and value.  In addition, the terms of our preferred
stock currently restrict, and any other credit or borrowing arrangements that we
may enter into may in the future restrict or limit, our ability to pay common
stock dividends to our shareholders.
 
 We
are subject to new corporate governance and internal control reporting
requirements, and our costs related to compliance with, or our failure to comply
with existing and future requirements, could adversely affect our
business.
 
 We face
new corporate governance requirements under the Sarbanes-Oxley Act of 2002, as
well as new rules and regulations subsequently adopted by the SEC, the Public
Company Accounting Oversight Board and any stock exchange on which our stock may
be listed in the future. These laws, rules and regulations, which are already
known to be burdensome and costly, continue to evolve and may become
increasingly stringent in the future. In particular, we are required to include
a management report on internal control over financial reporting as part of our
Form 10-K and 10-Q annual and quarterly reports pursuant to Section 404 of the
Sarbanes-Oxley Act.  We are continually evaluating our internal
controls and processes to help ensure that we will be able to comply with
Section 404 of the Sarbanes-Oxley Act.  We cannot assure you that we
will be able to fully maintain compliance with these laws, rules and regulations
that address corporate governance, internal control reporting, and similar
matters.  Failure to comply with these laws, rules, and regulations,
may be viewed negatively by investors and could materially adversely affect our
reputation, financial condition, and the value of our securities.
 
 The
terms of our outstanding shares of preferred stock, and any shares of preferred
stock issued in the future, may reduce the value of your common
stock.
 
 We have
up to 10,000,000 shares of authorized preferred stock in one or more series. We
currently have outstanding 248,460 shares of our Series C Preferred Stock and
approximately 2,375 shares of our Series D-1 Preferred Stock, as of June 30,
2008.  Our Board of Directors may determine the terms of future
preferred stock offerings without further action by our stockholders. If we
issue additional preferred stock, it could affect the rights of stockholders or
reduce the value of common stock. In particular, specific rights granted to
future holders of preferred stock could be used to restrict our ability to merge
with or sell our assets to a third party. These terms may include voting rights,
preferences as to dividends and liquidation, conversion and redemption rights,
and sinking fund provisions.  Our Series C Preferred Stock and Series
D-1 Preferred Stock rank senior to the common stock with respect to dividends
and liquidation and have other important preferred rights.
 
 37


Our
available secured debt financing is expensive and carries restrictive
conditions.
 
 On
September 29, 2006, we entered into a secured revolving credit facility with
Laurus Master Fund.  Although the maximum size of the facility is $5.0
million, actual borrowings are limited by a formula based on our eligible
accounts receivable and eligible inventory.  We currently have nothing
drawn on the revolving credit facility. We paid a loan fee at inception in the
form of 310,009 shares of common stock valued at $0.35 million, plus a cash loan
fee.  On September 30, 2007, we issued an additional 283,286
restricted shares to Laurus, equivalent to a $0.2 million fee upon the first
anniversary of the facility.  In addition, we will be required to pay
Laurus an additional loan fee in the form of common stock valued at $0.2 million
on September 29, 2008, the second anniversary date of the facility, if the
facility remains in place. Any outstanding balance on the facility bears
interest at a floating rate of prime plus 2%, and the maximum life of the
facility is three years.  The facility is collateralized by
substantially all of our assets.  The facility contains certain
default provisions.  In the event of a default by us, we will be
required to pay an additional fee per month until the default is
cured.  Laurus has the option of accelerating the entire principal
balance and requiring us to pay a premium in the event of an uncured
default.
 
 Any
further debt financing, if available at all when needed, might require further
expensive and onerous financial terms, security provisions and restrictive
covenants.  If we cannot repay or refinance our debt when it comes
due, we would be materially adversely affected.
 
 Because
our common stock is not listed on a national stock exchange and is subject to
the SEC's penny stock rules, broker-dealers may experience difficulty in
completing customer transactions and trading activity in our securities may be
adversely affected.
 
 Transactions
in our common stock are currently subject to the "penny stock" rules promulgated
under the Securities Exchange Act of 1934. Under these rules, broker-dealers who
recommend our securities to persons other than institutional accredited
investors must:
 
 ·
              make
      a special written suitability determination for the
    purchaser;
 ·
              receive
      the purchaser's written agreement to a transaction prior to
      sale;
 ·
              provide
      the purchaser with risk disclosure documents which identify certain risks
      associated with investing in "penny stocks" and which describe the market
      for these "penny stocks" as well as a purchaser's legal remedies;
      and,
 ·
              obtain
      a signed and dated acknowledgment from the purchaser demonstrating that
      the purchaser has actually received the required risk disclosure document
      before a transaction in a "penny stock" can be
  completed.
 
 As a
result of these rules, broker-dealers may find it difficult to effectuate
customer transactions and trading activity in our securities may be adversely
affected.  As a result, the market price of our securities may be
depressed, and it may be more difficult to sell our securities. In addition,
having a common stock traded on the OTC Bulletin Board with a low trading price
may result in a negative image which hinders our commercial initiatives and our
future capital-raising activities.
 
 ITEM
4.  CONTROLS AND PROCEDURES
  Evaluation
of Disclosure Controls and Procedures
  We
maintain a set of disclosure controls and procedures designed to reasonably
ensure that information we are required to disclose in reports filed under the
Securities Exchange Act is recorded, processed, summarized and reported within
the time periods specified by the Securities and Exchange Commission’s rules and
forms and that such information is accumulated and communicated to our
management, including Mark N. Sirangelo, our Chief Executive Officer, and
Richard B. Slansky, our Chief Financial Officer, as appropriate, to allow for
timely decisions regarding required disclosure.  In designing and
evaluating the disclosure controls and procedures, management recognizes that
any controls and procedures, no matter how well designed and operated, can
provide only reasonable assurance of achieving the desired control objectives,
and management is required to apply its reasonable judgment in evaluating the
cost-benefit relationship of possible controls and procedures, in light of the
limited resources which it has at its disposal at the time.
  38
  As
required by SEC Rule 13a-15(b), and as defined in Rule 13a-15(e) under the
Securities Exchange Act, we carried out an evaluation, under the supervision and
with the participation of our management, including our Chief Executive Officer
and Chief Financial Officer, of the effectiveness of our disclosure controls and
procedures as of the end of the period covered by this Report.  Based
on the foregoing, our Chief Executive Officer and Chief Financial Officer
concluded that our disclosure controls and procedures were effective for a
company of our size, maturity and financial level.
  Changes
in Internal Control over Financial Reporting
  During
the most recent fiscal quarter, no change in our internal control over financial
reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act)
was identified that has materially affected, or is reasonably likely to
materially affect, our internal control over financial
reporting.








39


PART
II -- OTHER INFORMATION
 
 ITEM
1.  LEGAL PROCEEDINGS
 None.
 
 ITEM
2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
 None.
 
 ITEM
3.  DEFAULTS UPON SENIOR SECURITIES
 None.
 
 ITEM
4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 None.
 
 ITEM
5.  OTHER INFORMATION
 None.
 
 40


ITEM
6.  EXHIBITS
  
  Exhibit
      No.
              Description
              Filed
      Herewith
              Incorporated
      by Reference
              Form
              Date
      Filed with SEC
              Exhibit
      No.10.1
              Addendum
      to Executive Employment Agreement dated December 20, 2005; entered into on
      April 21, 2008 with Mark N. Sirangelo
              
              X
              8-K
              April
      23, 2008
              10.110.2
              Addendum
      to Amended and Restated Executive Employment Agreement dated December 20,
      2005; entered into on April 21, 2008 with Richard B.
    Slansky
              
              X
              8-K
              April
      23, 2008
              10.231.1
              Rule
      13a-14(a) certification of Principal Executive Officer
              X31.2
              Rule
      13a-14(a) certification of Principal Financial Officer
              X32.1
              Rule
      13a-14(b) certification of Chief Executive Officer
              X32.2
              Rule
      13a-14(b) certification of Chief Financial Officer
              X
 
 
 
 SIGNATURES
 
 Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
 
 SpaceDev,
Inc.
 Registrant
 
 
 Dated:  August
14,
2008                                                                           By:  /s/ Mark N.
Sirangelo
 Mark N.
Sirangelo
 Chief
Executive Officer
 
 
 
 Dated:
August 14,
2008                                                                           By:  /s/ Richard
B.
Slansky
 Richard B.
Slansky
 President
& Chief Financial Officer
 
   
 41