**FORM
        10-QSB**
 **U.S.
        SECURITIES AND EXCHANGE COMMISSION**
 
 **Washington,
        D.C. 20549**
 
 
 (Mark
        One)
 x
              QUARTERLY
                  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                  ACT OF
                  1934
  For
        the
        quarterly period ended March 31, 2007
  o
                TRANSITION
                    REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                    EXCHANGE ACT
  For
        the
        transition period from ___________________________ to
        ______________________________
  Commission
        File Number 000-28947 .
 
 **SpaceDev,
        Inc.**
 (Exact
        name of small business issuer as specified in its charter)
 
 Colorado
              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)
 
 (Issuer's
        telephone number) (858)
        375-2000 .
 
 ____________________________________________________________________________________
 (Former
        name, former address and former fiscal year, if changed since last
        report)
 
 Check
        whether the issuer (1) filed all reports required to be filed by Sections
        13 or
        15(d) of the Exchange Act during the past 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 checkmark whether the registrant is a shell company (as defined in Rule
        12b-2
        of the Exchange Act.) Yes o No x
 
 State
        the
        number of shares outstanding of each of the issuer's classes of common equity,
        as of the latest practicable date: 29,632,658 **** shares
        of
        Issuer's voting common stock were outstanding on April 23, 2007.
 
 Transitional
        Small Business Disclosure Format (check one): Yes o No x


Table
          of Contents


**SPACEDEV,
        INC.**
 **FORM
        10-QSB**
 **For
        The Quarter Ended March 31, 2007**
  TABLE
        OFCONTENTS


PART
                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 OR PLAN OF
                OPERATION
            15Overview
            15Financing
            16Results
                of Operations
            19Liquidity
                and Capital Resources
            22Critical
                Accounting Standards
            23Recent
                Accounting Pronouncements
            24Risk
                Factors
            25Risks
                Related to our Company
            25ITEM
                3A(T). CONTROLS AND PROCEDURES
            38PART
                II -- OTHER INFORMATION
            39ITEM
                1. LEGAL PROCEEDINGS
            39ITEM
                2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
                PROCEEDS
            39ITEM
                3. DEFAULTS UPON SENIOR SECURITIES
            39ITEM
                4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
                HOLDERS
            39ITEM
                5. OTHER INFORMATION
            39ITEM
                6. EXHIBITS
            40SIGNATURES
            40






Table
          of Contents


**PART
      I -- FINANCIAL INFORMATION**





**ITEM
      1.** **FINANCIALSTATEMENTS**




**SpaceDev,
      Inc. and Subsidiaries**


**Consolidated
      Balance Sheets**


**(Unaudited)**






**(Unaudited)****March
                  31, 2007**
              
              
              December
                  31, 2006**Assets****Current
                  Assets**Cash
              
              **$**
              **3,494,313**
              
              $
              1,438,146Accounts
                  receivable (Note 2(d))
              
              
              **6,852,937**
              
              
              7,289,720Inventory
                  (Note 2(b))
              
              
              **453,634**
              
              
              309,205Other
                  current assets (Note 6(a))
              
              
              **1,024,667**
              
              
              599,565Total
                  Current Assets
              
              
              **11,825,551**
              
              
              9,636,636**Fixed
                  Asset**s
                  -
                  Net
              
              
              **3,989,394**
              
              
              3,793,365**Intangible
                  Assets**
              
              
              **817,448**
              
              
              841,133**Goodwill
                  (Note 5)**
              
              
              **11,233,665**
              
              
              11,233,665**Other
                  Assets (Note 6(b))**
              
              
              **733,099**
              
              
              626,086**Total
                  Assets**
              
              **$**
              **28,599,157**
              
              $
              26,130,885**Liabilities
                  and Stockholders' Equity****Current
                  Liabilities**Accounts
                  payable and accrued expenses (Note 3(a))
              
              **$**
              **1,565,631**
              
              $
              1,755,985Current
                  portion of capitalized lease obligations
              
              
              **74,121**
              
              
              35,441Accrued
                  payroll, vacation and related taxes
              
              
              **1,114,610**
              
              
              1,184,457Billings
                  in excess of costs and deferred revenue (Note 2(a))
              
              
              **2,545,173**
              
              
              2,816,072Revolving
                  line of credit (Note 3(b))
              
              
              **3,427,443**
              
              
              805,172Other
                  accrued liabilities (Note 2(a))
              
              
              **1,985,753**
              
              
              1,602,561**Total
                  Current Liabilities**
              
              
              **10,712,731**
              
              
              8,199,688**Notes
                  Payable, Less Current Maturities**
              
              
              **50,193**
              
              
              50,193**Capitalized
                  Lease Obligations, Less Current Maturities**
              
              
              **278,961**
              
              
              136,709**Deferred
                  Gain - Assets held for sale (Notes 3(a))**
              
              
              **684,087**
              
              
              713,405**Other
                  Long Term Liabilities**
              
              
              **15,266**
              
              
              15,266**Total
                  Liabilities**
              
              
              **11,741,238**
              
              
              9,115,261**Commitments
                  and Contingencies****Stockholders’
                  Equity**Convertible
                  preferred stock, $.001 par value, 10,000,000 sharesauthorized,
                  and 252,677 and 252,963 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))
              
              
              **5**
              
              
              5Common
                  stock, $.0001 par value; 100,000,000 shares authorized, and29,627,692
                  and 29,550,342 shares issued and outstanding,respectively
                  (Note 4)
              
              
              **2,963**
              
              
              2,953Additional
                  paid-in capital
              
              
              **33,027,353**
              
              
              33,150,566Accumulated
                  deficit
              
              
              **(16,172,650**
              **)**
              
              (16,138,148
              )**Total
                  Stockholders’ Equity**
              
              
              **16,857,919**
              
              
              17,015,624**Total
                  Liabilities and Stockholders' Equity**
              
              **$**
              **28,599,157**
              
              $
              26,130,885


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






Table
          of Contents
 1


**SpaceDev,
        Inc. andSubsidiaries**
 **Consolidated
        Statements of Operations**
 **(Unaudited)**




*Three
                  Months Ended**March
                  31,*
              
              
              2007
              %
              
              
              
              
              2006
              %**Net
                  Sales**
              
              **$**
              **9,057,048**
              
              
              **100.0**
              **%**
              $
              7,174,778
              
              
              100.0
              %**Total
                  Cost of Sales***
              
              
              **6,966,071**
              
              
              **76.9**
              **%**
              
              5,265,106
              
              
              73.4
              %**Gross
                  Margin**
              
              
              **2,090,977**
              
              
              **23.1**
              **%**
              
              1,909,672
              
              
              26.6
              %**Operating
                  Expenses**Marketing
                  and sales
              
              
              **586,614**
              
              
              **6.5**
              **%**
              
              643,560
              
              
              9.0
              %Research
                  and development
              
              
              **39,360**
              
              
              **0.4**
              **%**
              
              81,777
              
              
              1.1
              %General
                  and administrative
              
              
              **1,243,555**
              
              
              **13.7**
              **%**
              
              1,230,733
              
              
              17.2
              %**Total
                  Operating Expenses***
              
              
              **1,869,529**
              
              
              **20.6**
              **%**
              
              1,956,070
              
              
              27.3
              %**Income/(Loss)
                  from Operations**
              
              
              **221,448**
              
              
              **2.4**
              **%**
              
              (46,398
              )
              
              -0.6
              %**Non-Operating
                  Income/(Expense)**Interest
                  and other income
              
              
              **20,956**
              
              
              **-0.8**
              **%**
              
              33,615
              
              
              0.5
              %Interest
                  expense and loan fee
              
              
              **(75,358**
              **)**
              
              **0.2**
              **%**
              
              (5,283
              )
              
              -0.1
              %Gain
                  on building sale (Note 3(a))
              
              
              **29,318**
              
              
              **0.3**
              **%**
              
              29,318
              
              
              0.4
              %Non-cash
                  loan fee (Note 3(b))
              
              
              **(86,301**
              **)**
              
              **-1.0**
              **%**
              
              -
              
              
              0.0
              %**Total
                  Non-Operating Income**
              
              
              **(111,385**
              **)**
              
              **-1.2**
              **%**
              
              57,650
              
              
              0.8
              %**Income
                  Before Taxes**
              
              
              **110,063**
              
              
              **1.2**
              **%**
              
              11,252
              
              
              0.2
              %**Income
                  Tax Provision**
              
              
              **800**
              
              
              **0.0**
              **%**
              
              4,235
              
              
              0.1
              %**Net
                  Income**
              
              **$**
              **109,263**
              
              
              **1.2**
              **%**
              $
              7,017
              
              
              0.1
              %**Net
                  Income**
              
              
              **109,263**
              
              
              
              
              
              7,017Less
                  Preferred Dividend Payments (Note 4(a) and (b))
              
              
              **(143,762**
              **)**
              
              
              
              
              (140,740
              )**Adjusted
                  Net Income (Loss) for EPS Calculation**
              
              
              **(34,499**
              **)**
              
              
              
              
              (133,723
              )**Net
                  Income Per Share:**
              
              **$**
              **(0.00**
              **)**
              
              
              
              $
              (0.00
              )Weighted-Average
                  Shares Outstanding
              
              
              **29,570,306**
              
              
              
              
              
              27,276,451**Fully
                  Diluted Net Income Per Share:**
              
              **$**
              **(0.00**
              **)**
              
              
              
              $
              (0.00
              )Fully
                  Diluted Weighted-Average Shares Outstanding
              
              
              **29,570,306**
              
              
              
              
              
              27,276,451*
                  The following table shows how the Company's stock option expense
                  would be
                  allocated to all expenses. These non-cash stock option expenses
                  are
                  included in the unaudited operating results stated above.Cost
                  of sales
              
              **$**
              **41,373**
              
              
              
              
              $
              -Marketing
                  and sales
              
              
              **13,652**
              
              
              
              
              
              -Research
                  and development
              
              
              **-**
              
              
              
              
              
              -General
                  and administrative
              
              
              **49,594**
              
              
              
              
              
              90,701**Total
                  Non-Cash Stock Option Expense**
              
              **$**
              **104,619**
              
              
              
              
              $
              90,701
  *The
          accompanying notes are an integral part of these consolidated financial
          statements.*




Table
          of Contents
 2




**SpaceDev,
        Inc. and Subsidiaries**
 **Consolidated
        Statements of Cash Flows**
 **(Unaudited)**




*Three
                  Months Ended March 31,*
              
              
              **2007**
              
              
              2006**Cash
                  Flows From Operating Activities**Net
                  income
              
              **$**
              **109,263**
              
              $
              7,017Adjustments
                  to reconcile net income to net cash provided by(used
                  in) operating activities:Depreciation
                  and amortization
              
              
              **316,238**
              
              
              147,370Gain
                  on disposal of building sale
              
              
              **(29,318**
              **)**
              
              (29,318
              )Stock
                  option expense
              
              
              **104,619**
              
              
              90,701Common
                  stock grant expense
              
              
              **-**
              
              
              2,175Non-cash
                  loan fee
              
              
              **86,301**
              
              
              -Change
                  in operating assets and liabilities
              
              
              **(423,014**
              **)**
              
              (3,481,569
              )**Net
                  Cash Provided By (Used In) Operating Activities**
              
              
              **164,089**
              
              
              (3,263,624
              )**Cash
                  Flows From Investing Activities**Other
                  assets, capitalized acquisition costs
              
              
              **-**
              
              
              (1,066,564
              )Purchases
                  of fixed assets
              
              
              **(298,984**
              **)**
              
              (324,256
              )**Net
                  Cash Used in Investing Activities**
              
              
              **(298,984**
              **)**
              
              (1,390,820
              )**Cash
                  Flows From Financing Activities**Principal
                  payments on notes payable
              
              
              **-**
              
              
              (4,675,832
              )Principal
                  payments on capitalized lease obligations
              
              
              **(8,666**
              **)**
              
              (8,815
              )Dividend
                  payments on Series C and Series D-1 preferred
              
              
              **(153,855**
              **)**
              
              (98,774
              )Proceeds
                  from revolving credit facility
              
              
              **2,622,271**
              
              
              -Employee
                  stock purchase plan
              
              
              **12,005**
              
              
              42,767(Repurchase)
                  Issuance of preferred stock
              
              
              **(286,112**
              **)**
              
              4,764,296Proceeds
                  from issuance of common stock
              
              
              **5,419**
              
              
              23,359**Net
                  Cash Provided by Financing Activities**
              
              
              **2,191,062**
              
              
              47,001**Net
                  Increase (Decrease) in Cash**
              
              
              **2,056,167**
              
              
              (4,607,443
              )**Cash
                  at Beginning of Period**
              
              
              **1,438,146**
              
              
              5,750,038**Cash
                  at End of Period**
              
              **$**
              **3,494,313**
              
              $
              1,142,595


*T* *he
        accompanying notes are an integral part of these consolidated financial
        statements.*




Table
          of Contents
 3


**SpaceDev,
        Inc. and Subsidiaries**
 **Consolidated
        Statements of Cash Flows, Cont'd.**
 **(Unaudited)**
 *Three
                    Months Ended March 31,*
                
                
                **2007**
                
                
                2006**Supplemental
                    Disclosures of Cash Flow Information:**Cash
                    paid during the period for:Interest
                    expense
                
                **$**
                **75,358**
                
                $
                5,283**Noncash
                    Investing and Financing Activities:**During
                    the three months ended March 31, 2007, the Company entered into
                    a capital
                    lease in
                    the amount of approximately $190,000.During
                    the three months ended March 31, 2007 and 2006 the Company accrued
                    dividends in the amount of $143,762
                    and $140,740 respectively, for our Series C and Series D-1 Preferred
                    Stock.During
                    the three months ended March 31, 2007 and 2006, the Company converted
                    $52,871 and $34,416 of
                    employee stock purchase plan contributions into 63,970 and 24,885
                    shares
                    of common stock, respectively.
  *The
          accompanying notes are an integral part of these consolidated financial
          statements.*






Table
          of Contents
 4






**NOTES
        TO CONSOLIDATEDFINANCIAL STATEMENTS**
 **1.
        Basis of Presentation**
 
 The
        accompanying consolidated financial statements of SpaceDev, Inc., a Colorado
        corporation ("the Company") include the accounts of the Company and its
        subsidiary, Starsys, Inc., a Colorado corporation, and its inactive subsidiaries
        SpaceDev Oklahoma, an Oklahoma corporation and 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. Accordingly, reference
        should be made to the Company's Form 10-KSB filed on April 2, 2007 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 three months ended March 31, 2007 are not necessarily
        indicative of results that may be expected for the fiscal year ended December
        31, 2007 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.
 
 On
        January 31, 2006, the Company acquired Starsys Research Corporation, a Colorado
        corporation. After the merger, the Company maintained its headquarters in
        California and operating centers in California, Colorado and North Carolina.
        As
        a result of the merger, the Company grew from just over 50 employees to over
        200. The acquisition of Starsys on January 31, 2006 fundamentally changed
        the
        Company’s profile. The merger took place on January 31, 2006 and not January 1,
        2006; therefore, the presentation of financial results for the three month
        period ended March 31, 2007 represents a full quarter of combined results
        whereas the comparable quarter in 2006 illustrates only a partial quarter
        of
        combined results.
 
 **2.
        Accounting Policies**
 
 *(a)
        Revenue Recognition*
 
 The
        Company's revenues for the three months ended March 31, 2007 were derived
        primarily from fixed price contracts and commercial sales of component and
        subsystem products along with some United States government cost plus fixed
        fee
        (CPFF) contracts, which is compared to primarily the same type contracts
        for
        February and March 2006 and mainly CPFF contracts during the month of January
        2006. On January 31, 2006, the Company acquired Starsys Research Corporation,
        a
        Colorado corporation. SpaceDev had revenues for the three months ended March
        31,
        2006 of approximately $2.9 million. Starsys is a mature operating company
        with
        revenues of approximately $5.9 million for the three months ended March 31,
        2006, although only approximately $4.3 million were recognized by SpaceDev,
        since the merger took place on January 31, 2006 and not January 1, 2006;
        therefore, revenues for the three month period ended March 31, 2007 represents
        a
        full quarter of combined results whereas the comparable quarter in 2006 includes
        only a partial quarter of Starsys operations. 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. Certain
        fixed price contracts were prepared according to the "percentage-of-completion"
        method of accounting for long-term contracts. The amount of revenues recognized
        is that portion of the total contract amount that the actual cost expended
        bears
        to the anticipated final total cost based on current estimates of cost to
        complete the project (cost-to-cost method). Recognition of profit commences
        on
        an individual project only when cost to complete the project can reasonably
        be
        estimated and after there has been some meaningful performance achieved on
        the
        project. 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 $440,000. As projects are completed, 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.




Table
          of Contents
 5


*(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
 
 *(c)
        Earnings Per Share*
 
 For
        the
        three months ended March 31, 2007, options to purchase approximately 12.0
        million shares of common stock and warrants to issue approximately 2.4 million
        shares of common stock were excluded from the computation of diluted earnings
        per share as the exercise prices of these options and warrants was greater
        than
        the market price of the common shares at March 31, 2007. We also excluded
        the
        effect of the convertible preferred shares in diluted earning per common
        share
        calculation using the "if converted" method. Under that method, the convertible
        Series C and D-1 Preferred Shares are assumed to be converted into common
        shares
        at conversion rates of $1.54 per share and $1.48 per share, respectively.
        They
        were excluded from the computation of diluted earnings per share as the
        conversion price of the Preferred C and D-1 shares was greater than the market
        price of the common shares at March 31, 2007.
 
 *(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 and includes costs and estimated earnings
        in excess of billings on uncompleted contracts which represents approximately
        $1.0 million and $1.7 million at March 31, 2007 and December 31, 2006,
        respectively. 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.
        For the three months ended March 31, 2007 and December 31, 2006, the allowance
        for uncollectible accounts was approximately $75,000 and $75,000,
        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 continually evaluates its estimates and assumptions including those
        related to warranty obligations. The Company bases its estimates on historical
        experience and on various other assumptions that it believes to be reasonable
        under the circumstances. Actual results may differ from these estimates under
        different conditions, and such differences may be material. The Company has
        estimated its warranty reserve at March 31, 2007 at approximately
        $275,000.




Table
          of Contents
 6


*(g)*
            *Taxes*


In
        June
        2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in
        Income Taxes, an interpretation of FASB Statement No. 109, Accounting for
        Income
        Taxes ("FIN 48"). FIN 48 creates a single model to address accounting for
        uncertainty in income tax positions. FIN 48 prescribes a minimum threshold
        that
        an income tax position is required to meet before being recognized in the
        financial statements. The interpretation also provides guidance on derecognition
        and measurement criteria in addition to classification, interest and penalties
        and interim period accounting, and it significantly expands disclosure
        provisions for uncertain tax positions that have been or are expected to
        be
        taken in a company's tax return. FIN 48 is effective for fiscal years beginning
        after December 15, 2006 and the Company, accordingly, will adopt this statement
        as of January 1, 2007. The cumulative effect of adopting FIN 48 will be recorded
        in retained earnings and other accounts as applicable.
 
 As
        of the
        issuance date of these financial statements, the Company had not completed
        its
        assessment of potential unrecognized tax benefits. Therefore, the Company
        has
        not recorded, nor does it expect to record, any change to retained earnings
        as a
        result of the adoption of FIN 48. The Company believes that at January 1,
        2007
        and March 31, 2007 it had no unrecognized tax benefits that, if recognized,
        would favorably affect the Company's effective income tax rate in future
        periods. The Company's continuing practice is to recognize interest and/or
        penalties related to income tax matters in income tax expense. The Company
        had
        no accrued interest or penalties at January 1, 2007 and no accrued interest
        or
        penalties at March 31, 2007.
 
 The
        tax
        years 2002 through 2006 remain open to examination by some or all of the
        major
        taxing jurisdictions to which it is subject.
  **3.
        Long Term Liabilities**
 
 *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, for 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 $1,172,720 is being amortized
        at the rate of $117,272 per year for ten years ending in January 2013. As
        of
        March 31, 2007, the deferred gain was $684,087. This amortization is included
        in
        the Company's non-operating income/(expenses) and totaled $29,318 for both
        of
        the three months ended March 31, 2007 and 2006. On September 14, 2006, the
        building was sold again; however, the terms and conditions of the lease to
        the
        Company remained unchanged.
 
 *b)
        Revolving Credit Facility.*
 
 New
        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 borrows 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 $500,000 of such eligible
        inventory may be in the form of work-in-process inventory. The balance on
        this
        revolving credit facility at March 31, 2007 was $3,427,443.
 
 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. Laurus received 310,009 unregistered shares of the Company’s common stock
        valued at $350,000 at closing. 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 the expense is being amortized daily over the first year of the
        note.
        The Company will issue additional restricted shares of its common stock worth,
        in the aggregate, $200,000 to Laurus on each 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.
 
 Table
            of Contents
 7
 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. Laurus
        has
        piggyback registration rights subject to certain underwriters’ restrictions, but
        will not be entitled to demand registration of any of the shares received
        under
        the facility. The facility is not convertible into any class of our 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) 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 will be transferred to the Company on a daily basis.
 
 The
        Company paid to certain persons designated by Laurus the amount of $9,500
        for
        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 $140,000,
        of
        the facility amount, which facility fee is being expensed over the life of
        the
        note.




**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
        Shares"), to Laurus for an aggregate purchase price of $2.5 million or $10.00
        per share (the "Stated Value"). The Series C Preferred Shares are convertible
        into shares of the Company's common stock at a rate of $1.54 per share, and
        accrue quarterly, cumulative dividends at a rate of 6.85%. As of March 31,
        2007
        and 2006, the Company declared dividends payable of approximately $42,000
        for
        each of the three month periods 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 must 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 2006
        and
        so far in 2007. On March 31, 2007, accrued but unpaid dividends were
        approximately $42,000; these accrued dividends were paid in April of 2007.
        The
        Series C Preferred Shares are 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
        conversion does not exceed $1.48 per share or (b) the Stated Value if the
        average closing price of the common stock for the 22 days immediately preceding
        the date of conversion exceeds $1.48 per share. The Series C Preferred Shares
        have a liquidation right equal to the Stated Value upon the Company's
        dissolution, liquidation or winding-up. The Series C Preferred Shares have
        no
        voting rights, except as required by law.
 
 In
        conjunction with the Series C Preferred Shares, 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.
 
 *b)
        Series D-1 Preferred Stock.*
 
 Table
            of Contents
 8
 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 their 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, for an
        aggregate purchase price of $5.15 million, or $1,000 per share. As of March
        31,
        2007, approximately
        4,217 shares of Series D-1 Amortizing Convertible Perpetual Preferred Stock
        remain outstanding and approximately 933 shares of the Series D-1 Amortizing
        Convertible Perpetual Preferred Stock were repurchased through voluntary
        amortization or converted to the Company’s common stock. In total, 75 shares of
        the
        Series D-1 Amortizing Convertible Perpetual Preferred Stock were
        converted into 50,676 shares of the Company's common stock and approximately
        858
        shares of the Series D-1 Amortizing Convertible Perpetual Preferred Stock
        have
        been repaid through voluntary amortization, as provided for in the Agreement.
        The Company also issued various warrants to these investors as described
        below.
        The Company paid cash fees and expenses of $119,209 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
        preferred shares 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 March 31,
        2007,
        the Company had accrued Series D-1 dividends of approximately $102,000, which
        were paid in April 2007.
 
 Certain
        warrants the Company issued to the Series D-1 investors at the closing entitle
        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. The warrants
        are
        exercisable for five years following the date of grant. The warrants have
        "ratchet" 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.




Under
        the
        purchase agreement, from the date of the effectiveness of the initial
        registration statement filed pursuant to the registration rights agreement
        (February 15, 2006), until the one-year anniversary of that date, if: (1)
        on any
        trading day during such period the volume weighted average price of the
        Company's common stock for each of the twenty (20) trading days immediately
        prior to such date exceed ed
        $1.63;
        and, (2) the average daily trading volume of the Company's common stock exceeded
        $100,000 on each of those days, then the Company had the option, subject
        to a
        number of additional conditions, to put to the investors "units" at $1,000
        per
        unit for an aggregate purchase price of up to $2.0 million (or a lesser amount
        to the extent the preferred stock warrants issued at the initial closing
        of the
        financing, which are described below, had been exercised to purchase these
        units). Each "unit" consisted of one share of Series D-1 Preferred Stock
        and a
        common stock warrant, which entitled the holders to purchase up to an aggregate
        of 440,829 shares of common stock at an exercise price of $1.51 and otherwise
        had the same terms as the warrants described in the following paragraph.
        The
        right of the Company to “put” these units to the investors expired on February
        15, 2007, without exercise.
 
 The
        Company also issued certain other warrants to the Series D-1 investors at
        the
        closing (the "preferred stock warrants"). These warrants entitled the holder
        to
        purchase an aggregate number of 2,000 "units", which are identical to the
        "units" described above, at an exercise price of $1,000 per unit. The preferred
        stock warrants were exercisable from the effective date (i.e., February 15,
        2006) until the one-year anniversary of that date. If any units subject to
        the
        preferred stock warrants remained unsold after (1) their expiration date
        and (2)
        the exercise of the Company's put option, if applicable, and any holder of
        a
        preferred stock warrant issued in the financing had exercised the warrant
        in
        full, then the preferred stock warrant would supplementally grant that holder
        the right to purchase 440,829 shares of common stock, times the number of
        "units" which the holder's preferred stock warrant initially overlaid, with
        a
        strike price of $1.51 per share, and the warrant, as so supplemented, would
        have
        had a five year term from January 12, 2006 to January 11, 2011. The preferred
        stock warrants expired on February 15, 2007, without exercise.
 
 The
        purchase agreement contains a number of covenants by the Company, which
        include:
 
 ·
            A
                grant of preemptive rights to the investors to participate in future
                financings, which rights expired on January 12,
                2007; 
 Table
            of Contents
 9
 ·
            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 this financing, Laurus consented to and waived certain
        contractual rights. The Company paid Laurus Capital Management, L.L.C., and
        the
        manager of Laurus Master
        Fund, an amount of $87,000 in connection with Laurus' delivery of the consent
        and waiver, and paid $1,000 to Laurus' counsel for their related
        fees.
 
 *c)
        Common Stock Options*
 
 The
        Company adopted SFAS 123(R) to account for its stock-based compensation
        beginning January 1, 2006. Previously, the Company elected to account for
        its
        stock-based compensation plans under APB 25. For the three months ended March
        31, 2007 and 2006, the Company expensed approximately $105,000 and $91,000
        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 at 5.0%, expected volatility ranged from 86% to 97% 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**





On
      January 31, 2006, the Company completed the acquisition of Starsys Research
      Corporation by reverse triangular merger. The merger agreement was dated October
      24, 2005 and amended on December 7, 2005 and January 31, 2006.





The
      following is a schedule of the goodwill incurred in the Starsys
      acquisition.


Starsys
                  Research Total Assets
              
              $
              (7,851,494
              )Starsys
                  Research Total Liabilities
              
              
              13,054,140Cash
                  to Starsys Stockholders
              
              
              410,791Equity
                  to Starsys Stockholders
              
              
              5,576,846Fees
                  Associated with Acquisition
              
              
              1,056,079Total
                  Goodwill
              
              $
              12,246,362
 In
          2006,
          t he
          Company reduced its Goodwill from approximately $12.2 million to approximately
          $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
          approximately 10 years. Starsys shareholders received approximately $411,000
          in
          cash and approximately 3.8 million shares of the Company's common stock
          at the
          consummation of the merger. The Company also paid approximately $705,000
          in
          Starsys transaction expenses connected to the merger, and reclassified
          from
          Other Assets to Investment in Subsidiaries approximately $500,000 in certain
          legal and accounting expenses incurred during the merger. In addition,
          the
          Company recognized approximately $350,000 of deferred tax liability associated
          with the acquisition of intangible assets.
 
 On
          September 8, 2005, the Company made a secured loan in the principal amount
          of
          $1.2 million to Starsys Research Corporation. The loan accrued interest
          at 8%
          per annum and matured on January 31, 2006 upon the closing of the acquisition.
          No principal or interest payments were made before maturity. The loan was
          secured by a security interest in all of the assets of Starsys, subject
          to an
          intercreditor agreement with Vectra Bank. In addition, Starsys had agreed
          to pay
          the Company a placement agent fee and to reimburse the Company expenses
          in the
          aggregate amount of $120,000. The principle amount as well as the other
          amounts
          listed above, were forgiven at the closing of the merger.
 
 Table
              of Contents
 10
 Following
          the merger, the pre-merger Starsys shareholders were
          potentially entitled to receive additional performance consideration, based
          on
          the achievement by the Starsys business of specific financial performance
          criteria for fiscal years 2005, 2006 and 2007. This consideration could
          have
          originally consisted of up to an aggregate of $1,050,000 in cash and shares
          of
          the Company's common stock valued at up to $18 million, subject to reduction
          for
          some merger related expenses and to escrow arrangements, as
          follows:
  For
          the
          fiscal year ended December 31, 2005, up to $350,000 in cash and up to an
          aggregate number of shares of the Company's common stock equal to (A) up
          to $3.0
          million divided by (B) the volume weighted average price of the Company's
          common
          stock for the 20 trading days preceding the date of the audit opinion for the
          fiscal year ended December 31, 2005, but not less than $2.00 per share.
          This
          portion of the additional performance consideration was not earned;
 
 For
          the
          fiscal year ended December 31, 2006, up to $350,000 in cash and up to an
          aggregate number of shares of the Company's common stock equal to (A) up
          to $7.5
          million divided by (B) the volume weighted average price of the Company's
          common
          stock for the 20 trading days preceding the date of the audit opinion for
          the
          fiscal year ended December 31, 2006, but not less than $2.50 per share.
          This
          portion of the additional performance consideration was not earned;
          and,
 
 For
          the
          fiscal year ending December 31, 2007, up to $350,000 in cash and up to
          an
          aggregate number of shares of the Company's common stock equal to (A) up
          to $7.5
          million divided by (B) the volume weighted average price of the Company's
          common
          stock for the 20 trading days preceding the date of the audit opinion for
          the
          fiscal year ending December 31, 2007, but not less than $3.00 per share.
          This
          portion of the additional performance consideration will be determined
          in early
          2008. If this amount is earned, goodwill may be adjusted.
 
 Starsys
          shareholders may be entitled to receive additional performance consideration
          for
          a particular fiscal year if the Company breaches specified covenants of
          the
          merger agreement and is unable to cure the breach within the applicable
          cure
          period set forth in the merger agreement.


Approximately
        one-half of the shares issued to Starsys shareholders at the closing have
        been
        placed in escrow to satisfy any indemnification obligations of Starsys
        shareholders under the merger agreement and to pay reasonable expenses of
        the
        shareholder agent. The indemnification escrow will last until the audited
        financial statements prepared for the Starsys business for the fiscal year
        ending December 31, 2006 have
        been
        reviewed.
 
 **6.
        Other Assets**
 
 *a)
        Other Current Assets*
  Other
        current assets consist of a variety of prepaid 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 March 31,
        2007.
 Other
                    Current Assets - March 31,
                
                
                **2007**Prepaid:Financing
                    Fees
                
                **$**
                **317,351**Computer
                    & Software
                
                
                **110,873**Rent
                
                
                **13,190**Insurance
                
                
                **75,196**Taxes
                
                
                **16,320**Other
                    Accruals
                
                
                **491,738**Total
                    Other Current Assets
                
                **$**
                **1,024,667**




Table
          of Contents
 11


*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 March 31,
        2007.






Other
                  Assets - March 31,
              
              
              **2007**Prepaid
                  Rent
              
              **$**
              **188,130**Deposits
              
              
              **544,969**Total
                  Other Assets
              
              **$**
              **733,099**
  **7.
          New Accounting Pronouncements**
 
 There
          were no recent Accounting Pronouncements that affected the Company during
          the
          three months ended March 31, 2007. For past pronouncements, please refer
          the
          Company's Form 10-KSB filed on April 2, 2007.
 
 **8.
          Unaudited Pro Forma Combined Consolidated Statements of
          Operations**
 
 The
          following unaudited pro forma combining and combined statements of operations
          give effect to the merger of SpaceDev and Starsys using the purchase method
          of
          accounting, as required by Statement of Financial Accounting Standard No.
          141,
          "Business Combinations." The Company acquired Starsys Research Corporation
          on
          January 31, 2006 and is the "accounting acquirer" for accounting purposes.
          Under
          this method of accounting, the combined company will allocate the purchase
          price
          to the fair value of assets of Starsys deemed to be acquired, including
          identifiable intangible assets and goodwill. The purchase price allocation
          is
          subject to revision when the combined company obtains additional information
          regarding asset valuation. The unaudited pro forma combined statements
          of
          operations are based on respective historical consolidated financial statements
          and the accompanying notes of the Company.


The
        unaudited pro forma combined statement of operations for the year ended December
        31, 2006 combines SpaceDev's historical statement of operations for the year
        ended December 31, 2006 with the Starsys historical statement of operations
        for
        the year ended December 31, 2006 assuming the merger took place on January
        1,
        2006. The unaudited pro forma combined statements of operations should be
        read
        in conjunction with the related notes included in this Form 10-QSB and the
        consolidated audited financial statements of SpaceDev. The unaudited pro
        forma
        combined statements of operations are not necessarily indicative of what
        the
        actual results of operations and financial position would have been had the
        merger taken place on January 1 of each period presented and do not indicate
        future results of operations.




Table
          of Contents
 12




**SpaceDev,
        Inc. and Subsidiaries**
 Pro
        Forma
        Combined Consolidating and Consolidated Statement of Operations
 (Unaudited)


***March
                  31, 2006*****SpaceDev**
              
              
              **Starsys**
              
              
              **Pro
                  Forma Adjustments**
              
              
              **Pro
                  Forma****Net
                  Sales**
              
              $
              2,889,592
              
              $
              5,920,870
              
              $
              (51,345
              )
              $
              8,759,117**Cost
                  of sales**
              
              
              2,097,469
              
              
              4,443,218
              
              
              -
              
              
              6,540,687**Gross
                  Margin**
              
              
              792,123
              
              
              1,477,652
              
              
              (51,345
              )
              
              2,218,430**Operating
                  Expenses**Marketing
                  and sales expense
              
              
              497,614
              
              
              265,300
              
              
              (51,345
              )
              
              711,569Research
                  and development
              
              
              67,412
              
              
              9,082
              
              
              -
              
              
              76,494General
                  and administrative
              
              
              364,718
              
              
              1,176,493
              
              
              -
              
              
              1,541,211**Total
                  Operating Expenses**
              
              
              929,744
              
              
              1,450,875
              
              
              (51,345
              )
              
              2,329,274**Income/(Loss)
                  from Operations**
              
              
              (137,621
              )
              
              26,777
              
              
              -
              
              
              (110,844
              )**Non-Operating
                  Income/(Expense)**Interest
                  income
              
              
              33,615
              
              
              28,306
              
              
              **-**
              
              
              61,921Interest
                  expense
              
              
              (110
              )
              
              (27,656
              )
              
              **-**
              
              
              (27,766
              )Gain
                  on building sale
              
              
              29,318
              
              
              **-**
              
              
              **-**
              
              
              29,318**Total
                  Non-Operating Income/(Expense)**
              
              
              62,823
              
              
              650
              
              
              -
              
              
              63,473**Income/(Loss)
                  Before Income Taxes**
              
              
              (74,798
              )
              
              27,427
              
              
              -
              
              
              (47,371
              )Income
                  tax provision
              
              
              4,200
              
              
              35
              
              
              -
              
              
              4,235**Net
                  Income/(Loss)**
              
              $
              (78,998
              )
              $
              27,392
              
              $
              -
              
              
              (51,606
              )**Net
                  Income/(Loss) Per Share:**Net
                  Income/(Loss)
              
              $
              (0.00
              )
              $
              0.05
              
              $
              -
              
              $
              (0.00
              )Shares
                  Outstanding
              
              
              28,710,496
              
              
              520,000
              
              
              (520,000
              )
              
              28,710,496








Table
          of Contents
 13






**9.
        Subsequent Events**
 
 On
        April
        12, 2007, the Company finalized a contract modification to its 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;
        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 by September 30, 2007.
























Table
          of Contents
 14




**ITEM
        2.** **MANAGEMENT'SDISCUSSION
        AND ANALYSIS OR PLAN OF
        OPERATION**
  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. 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 assume responsibility
        for the accuracy and completeness of the forward-looking statements. Except
        as
        may be required by law, 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.
 
 Actual
        results could differ materially from those anticipated by such forward-looking
        statements. Factors that could cause or contribute to such differences include,
        but are not limited to, those identified in the "Risk Factors" section
        herein.
 
 **Overview**
  SpaceDev,
        Inc., including our wholly-owned subsidiary, Starsys, Inc., which was acquired
        by us on January 31, 2006, (the "Company," "SpaceDev," "we," "us" or "our")
        is
        engaged in the conception, design, development, manufacture, integration,
        sale,
        and operation of space technology 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 (a) low-cost small satellites and
        related
        subsystems, (b) hybrid rocket propulsion for space and launch vehicles, and
        (c)
        subsystems that enable critical spacecraft functions such as pointing solar
        arrays and communication antennas and restraining, deploying and actuating
        moving spacecraft components.
 
 During
        the first quarter of 2007, approximately 84% of our net sales were generated
        from direct government contracts, and from government-related work through
        subcontracts with others, while the remaining 16%
        was
        generated from commercial contracts. During the same period in 2006,
        approximately 92% of our net sales were generated from direct government
        contracts and from government-related work through subcontracts with others,
        while the remaining 8% was generated from commercial contracts. We will continue
        to seek both government and commercial business and anticipate that net sales
        from government sources will continue to represent in excess of 80% of our
        business' net sales for the next several years 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 technology, products and
        services. Although we are interested in exploring international revenue and
        contract opportunities, 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.
 
 During
        the first quarter of 2007 we submitted approximately 60 bids for government
        or
        commercial programs and continued our work with the United States Congress
        to
        identify directed funding for our programs. We continue to execute on our
        core
        government contracts as well as look for new opportunities inside and outside
        of
        our core customer base. Our government customers include but are not limited
        to
        the Missile Defense Agency, the Air Force Research Laboratory, NASA, and
        the
        U.S. Army. Our government related work customers include but are not limited
        to
        General Dynamics, Northrop Grumman and Raytheon. Commercial customers include
        but are not limited to Lockheed Martin and Sumitomo.




Table
          of Contents
 15


**Financing**


New
        Revolving Credit Facility.
 
 On
        September 29, 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. We are allowed
        to 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 $500,000 of such eligible inventory
        may be
        in the form of work-in-process inventory. The balance on this revolving credit
        facility at March 31, 2007 was approximately $3.4 million.
 
 The
        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. Laurus received
        310,009 unregistered shares of our common stock valued at $350,000 at closing.
        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 the expense
        is
        being amortized daily over the first year of the note. We will issue additional
        restricted shares of our common stock worth, in the aggregate, $200,000 to
        Laurus on each 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. 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.
        Laurus
        has piggyback registration rights subject to certain underwriters’ restrictions,
        but will not be entitled to demand registration of any of the shares received
        under the facility. 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 will be
        transferred to us on a daily basis.
 
 Series
        D-1 Amortizing Convertible Perpetual Preferred Stock.
 
 In
        January 2006, we entered into a securities purchase agreement, which we refer
        to
        as the 2006 purchase agreement, with a limited number of institutional
        accredited investors, led by Omicron Capital. On January 13, 2006, we issued
        and
        sold to these investors 5,150 shares of our Series D-1 Amortizing Convertible
        Perpetual Preferred Stock, par value $0.001 per share, which we refer to
        as
        Series D-1 Preferred Stock, for an aggregate purchase price of $5,150,000,
        or
        $1,000 per share. We also issued various warrants to these investors under
        the
        2006 purchase agreement. We used the proceeds from this transaction to finance
        the Starsys acquisition in early 2006
 
 **Selection
        of Significant Contracts**
 
 In
        June
        2002, Starsys 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 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 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.  We acquired Starsys on
        January 31, 2006. Revenues generated from this contract from February 1,
        2006
        through March 31, 2007 totaled approximately $3.5 million. We experienced
        significant cost overruns on this contract.  Before our merger with
        Starsys, the contract was modified to add an additional $1.7 million.  In
        late 2006 and early 2007, after our merger with Starsys, 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, and possibly all, of the incentive
        payments, which will partially mitigate the impact of significant cost, scope
        and requirements changes and overruns. Most of the $1.0 million has been
        recognized as revenue since the program is 95% complete as of March 31,
        2007.




Table
          of Contents
 16


In
        March
        2004, we were awarded a five-year, cost-plus-fixed fee indefinite
        delivery/indefinite quantity contract for up to $43,362,271 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 is proceeding 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 to us in April 2006 for a total of
        approximately $1.5 million, which was later amended to approximately $2.5
        million and ran through 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; 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
        by
        September 30, 2007. We are currently working with the Missile Defense Agency
        and
        other government agencies for additional funding support of our microsatellite
        distributed sensing experiment. Government contract funds from the Missile
        Defense Agency will expire at the end of the current government fiscal year.
        It
        is uncertain whether additional funding by the Missile Defense Agency will
        be
        available. It is possible that another government agency may fund the program
        or
        co-fund the program; however, there can be no assurance that funding will
        be
        available. (See Risk Factors: *“Some
        of our government contracts, including our large Missile Defense Agency
        contract, 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
        the
        customer”* ).
        We
        recognized approximately $18.1 million in revenue under this contract from
        inception through March 31, 2007.
 
 In
        January 2005, Starsys was awarded a firm fixed price contract from Raytheon
        in
        Goleta, California for the design, development, manufacture, assembly and
        test
        of the Aerosol Polarimetry Sensor (APS), Scan Mirror Motor/Encoder Assembly
        (SMMA). The APS instrument is slated to fly on the NASA Glory climate monitoring
        satellite mission. The APS is also a prime candidate for a secondary payload
        on
        National Polar-Orbiting Operational Environmental Satellite System. The SMMA
        consists of a Starsys designed 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 and extend to March 2009. Revenues from
        February 1, 2006, our acquisition date of Starsys through March 31, 2007
        totaled
        approximately $2.4 million.
 
 Table
            of Contents
 17
 In
        October 2005, Starsys was awarded a contract from General Dynamics C4 Systems
        to
        design and deliver an antenna pointing gimbal and control electronics for
        the
        GeoEye-1 program. The contract, valued at $2.0 million, was awarded and work
        has
        already begun on the antenna in anticipation of an on-time delivery to General
        Dynamics. The GeoEye-1 program is a next-generation, high-resolution commercial
        remote-sensing satellite scheduled for launch in 2007. The Starsys antenna
        control system is uniquely designed to operate by greatly reducing motion,
        of
        the GeoEye-1 spacecraft while pictures are being taken and data is
        simultaneously transmitted to earth ground stations, through incorporation
        of a
        low disturbance designed micro-stepping actuator and actuator drive electronics
        (Quiet Array Drive). Revenues from February 1, 2006, our acquisition date
        of
        Starsys through March 31, 2007 totaled approximately $1.88
        million.




In
      February 2006, we were awarded two deployable boom technology contracts for
      advance research and development of a self-deployed articulated boom for
      approximately $950,000 and a jack screw deployed boom for approximately $1.5
      million by the Air Force Research Laboratory (AFRL). We recognized the
      entire approximately $1.5 million in revenue under this contract from inception
      through March 31, 2007.





In
      June
      2006, we were awarded a firm fixed price contract from Lockheed Martin
      Commercial Space Systems 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. Options are included for additional gimbals supporting three
      additional spacecraft. The contract will include the development and
      qualification of the Ka-Band and 14-meter gimbal designs in addition to delivery
      of standard gimbals and solar array deployment hinges Starsys has previously
      provided for the A-2100 bus. The contract value for the initial award was $1.8
      million; however, if all options are exercised, the total contract value would
      exceed $6.0 million. We recognized approximately $1.0 million in revenue under
      this contract from inception through March 31, 2007.





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 (LRO) program from NASA Goddard
      Space Flight Center and Swales Aerospace. The total contract value is in excess
      of $6.3 million.  The LRO 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 mechanism to align the downlink antenna for communication with
      earth.  We are to provide these actuators for the 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 recognized
      approximately $2.6 million in revenue under this contract from inception through
      March 31, 2007.





In
      October 2006, we were awarded
      a $330,000 Phase I study contract from Benson Space Company to further the
      SpaceDev Dream Chaser TM spaceship program. This was a related party contract, because the principal
      of
      Benson Space Company is our founder and director, James W. Benson. The study
      was
      intended to contribute to the on-going development of the spaceship and to
      result in space vehicle and rocket motor designs ready for Phase II vehicle
      fabrication and testing. The SpaceDev Dream ChaserTM spaceship is based on NASA’s
      design of the ten passenger orbital HL-20 Personnel Launch System, and will
      launch vertically and land horizontally. We recognized approximately $325,000
      in
      revenue under this contract from inception through March 31, 2007.





In
      January 2007, in
      partnership with the University of Colorado Laboratory for Space Physics, we
      were awarded a $750,000 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. The program is scheduled to complete in 2008 and is
      an
      extension of a Phase 1 program completed in 2006. We recognized approximately
      $457,000 in revenue under this contract from inception through March 31,
      2007.





Table
          of Contents
 18


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. 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 an 1800 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 feet 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 recognized approximately $137,000 in revenue under this contract
      from inception through March 31, 2007.




**Resultsof
        Operations**
  Please
        refer to the consolidated financial statements, which are a part of this
        report,
        for further information regarding the results of operations. Also, please
        note
        that the presentation of financial results for the three month periods ended
        March 31, 2007 represents a full quarter of combined (historical SpaceDev
        +
        Starsys) results whereas the comparable quarter in 2006 illustrates only
        approximately two months of combined results (i.e., February 2006 and March
        2006) plus one month (January 2006) with only historical SpaceDev results.
 
 ***Three
        months Ended March 31, 2007 -vs.- Three months Ended March 31,
        2006***
 
 During
        the three months ended March 31, 2007, we had net sales of approximately
        $9.1
        million as compared to net sales of approximately $7.2 million for the same
        three month period in 2006. Sales increased primarily due to our acquisition
        of
        Starsys on January 31, 2006. On a pro forma basis, as if SpaceDev and Starsys
        had been together since January 1, 2006, revenues would have been approximately
        $8.8 million for the three months ended March 31, 2006. Therefore, the increase
        in revenues was mainly due to the timing of the merger combined with execution
        on certain SpaceDev and Starsys programs. Revenue for the three months ended
        March 31, 2007 from government and government related work was approximately
        $7.6 million and revenue from commercial customers was approximately $1.5
        million. In comparison, in the three months ended March 31, 2006, revenue
        from
        government and government related work was approximately $6.5 million and
        revenue from commercial customers was approximately $0.7 million.
 
 For
        the
        three months ended March 31, 2007, we had costs of sales (direct and allocated
        costs associated with individual contracts) of approximately $7.0 million,
        or
        76.9% of net sales, as compared to approximately $5.3 million, or 73.4% of
        net
        sales, during the same period in 2006. The increase in cost of sales is
        primarily related to higher revenues overall combined with our efforts to
        conclude loss generating fixed price development contracts. We also incurred
        additional facility costs in the form of rental on two Colorado facilities
        for
        two months and other costs related to moving our Boulder operation to
        Louisville, CO. We continue to focus efforts on managing our growth including
        but not limited to recruiting new talented engineers, developing and acquiring
        project management skills and creating or expanding systems to assist in
        the
        efficient and effective management of our projects.
 
 We
        experienced a slight increase of approximately $87,000 in operating expenses
        for
        the three month period ended March 31, 2007, compared to the same period
        in
        2006; however, the three month period in 2006 only included two months of
        the
        Starsys operating expenses. Total operating expenses as a percentage of net
        sales improved significantly from 27.3% for the three months ended March
        31,
        2006 to 20.6% for the three months ended March 31, 2007. The improvement
        was
        mainly due to our efforts in streamlining certain business management functions
        within our combined company. Although our efforts continue in this area,
        we have
        begun to see some tangible improvements.
 
 ·
            General
                and administrative expenses increased approximately $13,000 from
                approximately $1.23 million, or 17.2% of net sales, for the three
                months
                ended March 31, 2006 to approximately $1.24 million, or 13.7% of
                net
                sales, for the same three month period in 2007. The approximate $13,000
                increase can be attributed mainly to the three month period in 2007
                including three months of Starsys general and administrative expenses
                versus only two months of these costs in 2006. On a pro forma basis,
                general and administrative expenses declined from approximately $1.54
                million to approximately $1.24 million for the three month period
                ended
                March 31, 2006 and 2007, respectively. 
 Table
            of Contents
 19
 ·
            Research
                and development expenses decreased to approximately $39,000, or 0.4%
                of
                net sales, for the three months ended March 31, 2007, from approximately
                $82,000, or 1.1% of net sales, during the same period in 2006. The
                primary
                reason was that James W. Benson resigned as our Chief Technology
                Officer
                at the end of the third quarter of 2006 and was not
                replaced.


·
            Marketing
                and sales expenses decreased to approximately $587,000, or 6.5% of
                net
                sales, for the three months ended March 31, 2007, from approximately
                $644,000, or 9.0% of net sales, during the same period in 2006. The
                total
                dollar decrease of approximately $57,000 was mainly due to the
                non-repetition in 2007 of certain 2006 marketing and sales costs,
                particularly related to bidding a number of proposals, including
                the NASA
                COTS proposal, which started in early
                2006.


·
            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 at 4.0%, expected
                volatility ranged from 86.7% to 90.8% 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 three years based on the average
                vesting
                period of options granted. The total expense for the three months
                ended
                March 31, 2007 and 2006 was approximately $105,000 and $91,000,
                respectively. 
 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. Non-operating gain and income exceeded non-operating expenses
        beginning in 2005, and since then, we have recorded non-operating income.
 
 ·
            Interest
                expense and loan fees for the three months ended March 31, 2007 and
                2006
                was approximately $75,000 and $5,000, respectively. The increase
                was
                mainly attributable to utilization of our revolving credit facility
                in
                2007; whereas, we did not borrow any significant amount during the
                same
                period in 2006. We generated interest and other income in the three
                months
                ended March 31, 2007 and 2006 of approximately $21,000 and $34,000,
                respectively, due to lower cash balances in 2007. 
 ·
            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 March 31, 2007 and 2006, and we will continue to amortize the
                remaining deferred gain of approximately $684,000 into non-operating
                income over the remainder of the leaseback, which expires in January
                2013. 
 ·
            We
                recorded non-cash loan fees related to our revolving credit facility
                of
                approximately $86,000 for the three month period ended March 31,
                2007. The
                expense was due to the issuance of 310,009 shares of our common stock,
                valued at $350,000, to Laurus in September 2006 under the terms of
                the new
                revolving credit facility; we are amortizing this expense over the
                life of
                the credit facility. We will continue to expense the remaining $174,000
                through September 2007. If the facility is still in place then, we
                must
                issue another $200,000 of shares to
                Laurus 
 During
        the three months ended March 31, 2007 we generated net income of approximately
        $109,000, or 1.2% of net sales, despite recognizing approximately $105,000
        in
        non-cash charges related to expensing stock options under SFAS 123(R), compared
        to net income of approximately $7,000, or 0.1% of net sales, for the same
        three
        month period in 2006. During the three months ended March 31, 2007, we incurred
        a positive EBITDA of approximately $642,000, or 7.1% of net sales, compared
        to a
        EBITDA of approximately $192,000, or 2.7% of net sales, for the three months
        ended March 31, 2006.
 
 Table
            of Contents
 20
 EBITDA
        is
        a non-GAAP measure because not every company defines EBITDA in the same way,
        our
        EBITDA figures may not be fully comparable to those reported by other companies.
        We define EBITDA as net income before interest, taxes, depreciation,
        amortization, stock option expense, and gain on out 2003 building
        sale.




The
        following table reconciles EBITDA to net income for the three months ended
        March
        31, 2007 and 2006, respectively:


***For
                  the three months ended***
              
              
              **March
                  31, 2007**
              
              
              March
                  31, 2006**(Unaudited)**
              
              
              (Unaudited
              )**Net
                  Income**
              
              ***$***
              ***109,263***
              
              $
              7,017Interest
                  Income
              
              
              ***(20,956***
              ***)***
              
              (33,615
              )Interest
                  Expense
              
              
              ***75,358***
              
              
              5,283Non-Cash
                  Loan Fee
              
              
              ***86,301***
              
              
              -Provision
                  for Income Taxes
              
              
              ***800***
              
              
              4,235Depreciation
                  and Amortization
              
              
              **316,238**
              
              
              147,370Stock
                  Option Expense
              
              
              ***104,619***
              
              
              90,701Gain
                  on Building Sale
              
              
              ***(29,318***
              ***)***
              
              (29,318
              )**EBITDA**
              
              ***$***
              ***642,305***
              
              $
              191,673




EBITDA
        should not be considered as an alternative to net income (as an indicator
        of
        operating performance) or as an alternative to cash flow (as a measure of
        liquidity or ability to service debt obligations). We believe that EBITDA
        provides an important additional perspective on our operating results, our
        ability to service our long-term obligations, our ability to fund continuing
        growth, and our ability to continue as a going concern.
 
 On
        January 1, 2006, we adopted SFAS 123(R), which requires companies to measure
        an
        equity instrument based on the grant-date fair value of the award and expense
        the value. We use the Black-Scholes pricing model to determine the fair value
        of
        our options on the measurement date. The cost is recognized over the requisite
        period (usually the vesting period). During the first three months of 2007
        and
        2006 we had stock option expense of approximately $105,000 and $91,000 related
        to stock option awards, repectively. Without the adoption of SFAS 123(R),
        our
        operating income, net income and net income per share would have been increased
        to the pro forma non-GAAP amounts indicated below:




Table
          of Contents
 21


*Three
                  Months Ended**March
                  31,*
              
              
              2007
              
              
              %
              
              
              2006
              
              
              %**GAAP
                  Operating Income/(Loss)**
              
              **$**
              **221,448**
              
              
              **2.4**
              **%**
              $
              (46,398
              )
              
              -0.6
              %SFAS
                  123(R) stock -based compensation
              
              
              **104,619**
              
              
              **1.2**
              **%**
              
              90,701
              
              
              1.3
              %**Non-GAAP
                  Operating Income/(Loss)**
              
              
              **326,067**
              
              
              **3.6**
              **%**
              
              44,303
              
              
              0.6
              %**Non-Operating
                  Income/(Expense)**Interest
                  and other income
              
              
              **20,956**
              
              
              **0.2**
              **%**
              
              33,615
              
              
              0.5
              %Interest
                  expense and loan fee
              
              
              **(75,358**
              **)**
              
              **-0.8**
              **%**
              
              (5,283
              )
              
              -0.1
              %Gain
                  on building sale
              
              
              **29,318**
              
              
              **0.3**
              **%**
              
              29,318
              
              
              0.4
              %Non-cash
                  loan fee
              
              
              **(86,301**
              **)**
              
              **-1.0**
              **%**
              
              -
              
              
              0.0
              %**Total
                  Non-Operating Income/(Expense)**
              
              
              **(111,385**
              **)**
              
              **-1.2**
              **%**
              
              57,650
              
              
              0.8
              %**Non-GAAP
                  Net Income Before Taxes**
              
              **$**
              **214,682**
              
              
              **2.4**
              **%**
              $
              101,953
              
              
              1.4
              %Income
                  tax provision
              
              
              **800**
              
              
              **0.0**
              **%**
              
              4,235
              
              
              0.1
              %**Non-GAAP
                  Net Income**
              
              **$**
              **213,882**
              
              
              **2.4**
              **%**
              $
              97,718
              
              
              1.4
              %**Non-GAAP
                  Net Income**
              
              
              **213,882**
              
              
              
              
              
              97,718Less
                  Preferred Dividend Payments
              
              
              **(143,762**
              **)**
              
              
              
              
              (140,740
              )**Adjusted
                  Net Income/(Loss) for EPS Calculation**
              
              
              **70,120**
              
              
              
              
              
              (43,022
              )**Non-GAAP
                  Net Income Per Share**
              
              **$**
              **0.00**
              
              
              
              
              $
              (0.00
              )Weighted-Average
                  Shares Outstanding
              
              
              **29,570,306**
              
              
              
              
              
              27,276,451**Fully
                  Diluted Non-GAAP Net Income Per Share:**
              
              **$**
              **0.00**
              
              
              
              
              $
              (0.00
              )Fully
                  Diluted Weighted-Average Shares Outstanding Used in EPS Calculation
              
              
              **29,758,778**
              
              
              
              
              
              27,276,451




We
        believe that evaluating our ongoing operating results with these non-GAAP
        measurements may be useful as a supplement to our standard GAAP financial
        measurement presentation. Accordingly, we have chosen certain non-GAAP financial
        information to evaluate our ongoing operations and for internal planning
        and
        forecasting purposes. We believe that non-GAAP financial measures should
        be
        considered in addition to, and not a substitute for, financial information
        prepared in accordance with GAAP. We present such non-GAAP financial measures
        in
        reporting our financial results to provide additional and supplemental
        disclosure to evaluate operating results. Whenever we use a non-GAAP financial
        measurement, we provide a reconciliation of the non-GAAP financial measure
        to
        the most closely applicable GAAP financial measurement.
  **Liquidityand
        Capital Resources**
  ***Cash
        Flows for Three months Ended March 31, 2007 -vs.- Three months Ended March
        31,
        2006***
 
 Net
        increase in cash during the three months ended March 31, 2007 was approximately
        $2.1 million compared to a cash decrease of $4.6 million for the same three
        month period in 2006, primarily due to advances on our revolving credit
        facility. Net cash provided by operating activities totaled approximately
        $164,000 for the three months ended March 31, 2007, an increase of approximately
        $3.4 million, as compared to approximately $3.3 million used in operating
        activities during the same three month period in 2006. The increase was
        primarily due to our one-time need to use our cash resources to pay accounts
        payable and fund accounts receivable related to the acquisition of Starsys
        in
        2006.




Table
          of Contents
 22




Net
        cash
        used in investing activities totaled approximately $299,000 for the three
        months
        ended March 31, 2007, compared to approximately $1.4 million used in investing
        activities during the same three month period in 2006. Although purchases
        of
        fixed assets remained relatively level, the decrease in cash used in investing
        activities is primarily due to no acquisition-specific expenses this year
        compared to funding capital acquisition costs associated with the Starsys
        merger
        last year.
 
 Net
        cash
        provided by financing activities totaled approximately $2.2 million for the
        three months ended March 31, 2007, which is an increase of over $2.0 million
        from approximately $47,000 provided by financing activities during the same
        three months in 2006. This is primarily attributable to our new revolving
        credit
        facility that we opened in late 2006 which provided over $2.6 million in
        cash
        during the first three months of 2007. In the 2006 period we raised
        approximately $4.8 million net in our Series D-1 preferred stock financing
        but
        spent almost all of it on the Starsys merger.
  At
        March
        31, 2007, our cash, which included cash reserves and cash available for
        investment, was approximately $3.5 million, as compared to approximately
        $1.1
        million at March 31, 2006, a increase of approximately $2.4 million. At March
        31, 2007, our working capital ratio was 1.1:1 versus a working capital ratio
        of
        1.2:1 for the same period in 2006. A working capital ratio of 1:1 means that
        current assets are sufficient to cover all current liabilities.
 
 As
        of
        March 31, 2007, our backlog of funded and non-funded business was approximately
        $22 million, compared to approximately $20 million as of December 31, 2006
        and
        compared to $37 million as of March 31, 2006.
 
 As
        of
        March 31, 2007 there has been no material changes in the Company's utilization
        of net operating carryforwards or effective tax rate from those reported
        in our
        form 10-KSB annual report filed on April 2, 2007.  Pursuant to Internal
        Revenue Code Section 382 and 383, our use of net operating loss and credit
        carry
        forwards may be limited as a result of the cumulative changes in the ownership
        of more than 50% over a three year period.
 
 Our
        ability to increase cash generation from operations and thereby avoid a
        necessity to need to raise additional capital depends upon our ability to
        ultimately implement our business plan, which includes (but is not limited
        to)
        our ability to continue to effectively integrate operations with Starsys,
        manage
        the uncertainties in the government budgeting process, implement cost controls
        and limit the possibility of further cost overruns on fixed-price contracts,
        and
        generate substantial new revenue from customers, including but not limited
        to,
        the Missile Defense Agency.
 
 **CriticalAccounting
        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 estimable (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-materials 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.




Table
          of Contents
 23


In
        October 1995, the Financial Accounting Standards Board (FASB) issued Statement
        of Financial Accounting Standards (SFAS) No. 123, *Accounting
        for Stock-Based Compensation.* We
        adopted SFAS No. 123 in 1997. Through December 31, 2005, we have elected
        to
        measure compensation expense for our stock-based employee compensation plans
        using the intrinsic value method prescribed by APB Opinion No. 25, *Accounting
        for Stock Issued to Employees* and
        provided pro forma disclosures as if the fair value based method prescribed
        in
        SFAS No. 123 had been utilized. (See Note 4 to our Consolidated Financial
        Statements.)
 
 SFAS
        No.
        148, *Accounting
        for Stock-Based Compensation - Transition and Disclosure* ,
        which
        amends SFAS No. 123, *Accounting
        for Stock-Based Compensation* ,
        was
        published by the FASB on December 31, 2002. The effective date of SFAS No.
        148
        was December 15, 2002. SFAS No. 123 prescribes a "fair value" methodology
        to
        measure the cost of stock options and other equity awards. Companies may
        elect
        either to recognize fair value stock-based compensation costs in their financial
        statements or to disclose the pro forma impact of those costs in the footnotes.
        Through December 31, 2005, we had chosen the latter approach.
 
 In
        December 2004, the FASB issued SFAS No. 123 (revised 2004), *Share-Based
        Payment* (SFAS
        123(R)), which replaces SFAS No. 123 and supersedes APB Opinion No. 25. SFAS
        123(R) requires all share-based payments to employees, including grants and
        vesting of employee stock options beginning January 1, 2006, to be recognized
        in
        the financial statements based on their fair values. In addition, the adoption
        of SFAS 123(R) requires additional accounting related to the income tax effects
        and additional disclosure regarding the cash flow effects resulting from
        share-based payment arrangements. SFAS 123(R) became effective January 1,
        2006
        for calendar year companies. Accordingly, we implemented the revised standard
        in
        the first quarter of 2006. (See Note 4 to our
        Consolidated Financial Statements. )
 
 In
        June
        2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in
        Income Taxes, an interpretation of FASB Statement No. 109, Accounting for
        Income
        Taxes ("FIN 48"). FIN 48 creates a single model to address accounting for
        uncertainty in income tax positions. FIN 48 prescribes a minimum threshold
        that
        an income tax position is required to meet before being recognized in the
        financial statements. The interpretation also provides guidance on derecognition
        and measurement criteria in addition to classification, interest and penalties
        and interim period accounting, and it significantly expands disclosure
        provisions for uncertain tax positions that have been or are expected to
        be
        taken in a company's tax return. FIN 48 is effective for fiscal years beginning
        after December 15, 2006 and the Company, accordingly, will adopt this statement
        as of January 1, 2007. The cumulative effect of adopting FIN 48 will be recorded
        in retained earnings and other accounts as applicable.
 
 As
        of the
        issuance date of these financial statements, the Company had not completed
        its
        assessment of potential unrecognized tax benefits. Therefore, the Company
        has
        not recorded, nor does it expect to record, any change to retained earnings
        as a
        result of the adoption of FIN 48. The Company believes that at January 1,
        2007
        and March 31, 2007 it had no unrecognized tax benefits that, if recognized,
        would favorably affect the Company's effective income tax rate in future
        periods. The Company's continuing practice is to recognize interest and/or
        penalties related to income tax matters in income tax expense. The Company
        had
        no accrued interest or penalties at January 1, 2007 and no accrued interest
        or
        penalties at March 31, 2007.
 
 The
        tax
        years 2002 through 2006 remain open to examination by some or all of the
        major
        taxing jurisdictions to which it is subject.
 
 
 **RecentAccounting
        Pronouncements**
  There
        were no recent Accounting Pronouncements that affected the Company during
        the
        first quarter of 2007. For past pronouncements, please refer to our Form
        10-KSB
        filed on April 2, 2007.
 
 Table
            of Contents
 24
 **RiskFactors**
 
 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.




**Risks
      Related to** **our
      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, both SpaceDev and Starsys have experienced operating losses and, in
        some
        periods, revenues from operations have not been sufficient to fund our
        respective operations. On a pro forma basis, our combined company would have
        had
        revenue of approximately $34.1 million, $27 million and $23 million, and
        a net
        loss from operations of approximately $1.0 million, $2.9 million and $5.0
        million for the years ended December 31, 2006, 2005 and 2004, respectively,
        assuming the merger had occurred on January 1, 2004. On a pro forma basis,
        our
        combined company would have had revenue of approximately $8.8 million, and
        a net
        loss from operations of approximately $111,000 for the three months ended
        March
        31, 2006 compared to our actual revenue of $9.0 and net income from operations
        of approximately $121,000 for the three months ended March 31, 2007. The
        success
        of our combined companies 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 and future growth opportunities.***
 
 In
        the
        past, both SpaceDev and Starsys have relied upon cash from financing activities
        to fund part of the cash requirements of our respective businesses.
        A lthough
        we are currently generating a modest amount of cash from operations, we may
        need
        additional financing to fund our projected operations or expansion plans
        (including acquisitions). Additional financing may not be available to us
        on
        acceptable terms, or at all. Any financing may cause additional dilution
        to
        existing shareholders. 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 our ability to pay dividends to common
        shareholders.
 
 ***Our
        size tends to limit our business opportunities.***
 
 Unless
        we
        attain a meaningful larger size of revenue and capabilities, our ability
        to
        compete successfully for a large amount of desirable business may be limited
        because customers perceive that larger supplies are more dependable and 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."
 
 ***Some
        of our government contracts, including our large Missile Defense Agency
        contract, are staged and we cannot guarantee that all stages of the contracts
        will be awarded to us or fully funded.***
 
 Table
            of Contents
 25
 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, including
        but
        not limited to the Missile Defense Agency contract, 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. Task
        Order IV of our Missile Defense Agency contract was modified to extend the
        period of performance to September 30, 2007 and increase the task order ceiling
        from approximately $4.5 million to approximately $9.0 million.  If this
        funding is not realized or increased further, we will have garnered a total
        of
        only about $23 million of the $43 million potentially available under the
        contract.  We were informed in 2005 that the Missile Defense Agency had
        re-routed the laser communications experiment to another program and that
        they
        would not be exercising their option for the additional microsats at that
        time;
        however, the contract vehicle remained at $43 million and the Missile Defense
        Agency has authority to substitute other work within this contract vehicle
        if it
        wishes to.  The Missile Defense Agency has indicated that it may reduce or
        eliminate funding for the program in GFY 2008 due to government budget
        allocations and reductions. We are working with the Missile Defense Agency
        and
        other government agencies who may be interested in our microsat program both
        in
        addition to, and possibly in place of, the Missile Defense Agency program
        since
        there can be no assurances that our discussions with the Missile Defense
        Agency
        will be fruitful or that any additional task orders will be awarded in the
        future or that task order funding will be available.




***We
        provide our products and services primarily through fixed-price and cost
        plus
        fixed fee contracts. Starsys has experienced significant losses on fixed-price
        contracts, especially those requiring product development. Cost overruns
        may
        result in further losses and, if significant, 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, Starsys has experienced significant cost overruns
        on
        development projects under fixed-price contracts, resulting in estimated
        losses
        on contracts before application of any reserves of approximately $2.9 million
        for Starsys’ fiscal 2005 and approximately $1.7 million for the twelve months
        ended December 31, 2006. As of March 31, 2007, we retained reserves of
        approximately $0.4 million for potential risks on development projects, which
        had begun prior to the merger in January 2006.
   As
        a
        particular example, Starsys experienced significant cost overruns throughout
        2006 on a sizable subcontract with Northrop Grumman Space Technology. In
        early
        2007, we were successful in negotiating with our customer for a contract
        modification based on performance incentives. Since we were successful in
        achieving our performance targets, we defrayed some of our cost overruns.
        Any
        ongoing significant overruns could materially impair our liquidity and
        operations.
   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 particular
        case of two major Starsys 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 new
        fixed-price development contracts and offer our customers alternative contract
        structures that better protect us. This decision could limit our ability
        to
        obtain new fixed-price business, which has the potential for significant
        profitablity.
   Under
        cost plus fixed fee contracts, we are reimbursed for allowable incurred costs
        plus a fee, which may be fixed or variable. There is no guarantee as to the
        amount of fee we will be awarded under a cost plus fixed fee 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.
 Table
            of Contents
 26
 ***If
        we fail to integrate our operations effectively, the combination of SpaceDev
        and
        Starsys will not realize all the potential benefits of the merger and may
        be
        counterproductive.***
 
 The
        integration of SpaceDev and Starsys is ongoing and may be time consuming
        and
        expensive, and may disrupt our combined company's operations if it is not
        completed in a timely and efficient manner. If this integration effort is
        not
        successful, our combined company's results of operations could be harmed.
        In
        addition, our combined company may not achieve anticipated synergies or other
        benefits of the merger. Our combined company may encounter difficulties,
        costs,
        and delays involved in integrating our operations, including but not limited
        to
        the following:




·
            failure
                to successfully manage relationships with customers and other important
                relationships; ·
            failure
                of customers to accept new services or to continue using the products
                and
                services of the combined company; ·
            difficulties
                in successfully integrating the management teams and employees of
                the two
                companies; ·
            potential
                incompatibility of business cultures; ·
            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. 
 If
        our
        combined company's operations do not meet the expectations of existing customers
        of either company, these customers may reduce the amount of business or cease
        doing business with us altogether, which would harm our results of operations
        and financial condition.
 
 We
        do not
        believe that the anticipated benefits of the merger were fully realized in
        the
        first year. 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 is unsuccessful; ·
            the
                costs of or operational difficulties arising from the merger are
                greater
                than anticipated; ·
            the
                combined financial results are not consistent with expectations; ·
            the
                anticipated operating and product synergies of the merger are not
                realized; or, ·
            the
                fixed price development contracts acquired in the merger continue
                to incur
                major cost overruns or remains unprofitable for other
                reasons.  ***We
        need to invest in Starsys to support its business
        recovery.***
 
 We
        have
        used our cash to fund our combined operations, including, but not limited
        to,
        integrating the Starsys and SpaceDev businesses, and funding the completion
        of
        fixed price development contracts inherited as part of the merger.
 Although the number and value of Starsys’ historical fixed price
        development contracts is declining, and we believe is being replaced by more
        stable contract types, further cash may be required in 2007 to complete the
        fixed price development contracts and fund the remaining integration of the
        companies.  As stated previously, Starsys and the historical SpaceDev
        business have both experienced losses from operations in prior periods,
        requiring that we seek additional financing to support our businesses and
        there
        can be no assurance that additional financing will be available, and if
        available, at terms and conditions favorable to us.
 
 Table
            of Contents
 27
 ***We
        have relocated to a new Colorado facility and are planning to relocate our
        North
        Carolina facility in the second quarter of 2007.***
 
 The
        move
        of our Boulder, Colorado and Durham, North Carolina operations to new
        and larger nearby facilities in the first half of 2007 may be time
        consuming and expensive and may disrupt our operations. In addition, we may
        not achieve anticipated efficiencies or other operational benefits of the
        moves.  Although the Colorado move is essentially complete, we may still
        encounter difficulties, costs, and delays involved in recertifying our
        equipment, reestablishing network and communication capabilities, or other
        required operating essentials.  Failure for us to successfully manage the
        facility moves could damage relationships with our customers, divert management
        attention from other ongoing business opportunities, cause additional and
        unexpected program delays, and create additional costs and inefficiencies
        in personnel productivity.  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 will be approximately 65% 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
        the 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.  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.  For
        example, in our Missile Defense Agency contract, if Task
        Order IV of our Missile Defense Agency contract, which is currently funded
        for
        approximately $9.0  million,
        is not increased and we are not awarded any further task orders, we will
        have
        garnered a total of only about $23 million of the $43 million potentially
        available under the contract.  The MDA has indicated that it may reduce or
        eliminate funding for the program in GFY 2008 due to government budget
        allocations and reductions.  We are currently in discussions with the
        Missile Defense Agency and others to extend funding on the fourth phase of
        our
        distributed sensing experiment, which is the fabrication, integration and
        test
        phase of the program.  The Missile Defense Agency recently extended the end
        time of Task Order IV from March 1, 2007 to June 15, 2007 and then again
        to
        September 30, 2007. We are also working with the Missile Defense Agency and
        other government agencies who may be interested in our microsat program both
        in
        addition to, and possibly in place of, the Missile Defense Agency program
        since
        there can be no assurances that our discussions with the MDA will be fruitful
        or
        that any additional task orders will be awarded in the future, or that task
        order funding will be available.
 
 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.
 
 Table
            of Contents
 28
 ***Our
        common shareholders will experience dilution if our preferred stock is converted
        or our outstanding warrants and options are
        exercised.***
 
 As
        of
        March 31, 2007, we are obligated to issue 6,884,613 shares of our common
        stock,
        of which 2,422,137 are represented by outstanding warrants and 4,462,476
        could
        be converted from our outstanding preferred stock.  We would however,
        obtain a significant amount of cash from the exercise of the outstanding
        warrants. In addition, as of March 31, 2007, we had outstanding stock options
        to
        purchase an aggregate of 12,008,897 shares of our common stock, of which
        9,699,405 are currently vested.  The total number of shares, issuable upon
        the exercise or conversion of currently vested warrants, options and preferred
        stock (16,584,017 shares) represents approximately 56% of our issued and
        outstanding shares of common stock as of March 31,
        2007.


***Our
        level of business may be difficult to predict.***
 
 We
        hope
        to sell an increasing percentage of our 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. Government contracts
        can be
        defunded or terminated by the Government for convenience. Also, some of our
        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 products 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 predict
        accurately 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 affects to us.
        We
        intend to reduce significantly our acceptance of this sort of contract. This
        may
        limit our opportunity to develop products at a customer's expense.
 
 Our
        products and services 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 highly uncertain, especially
        in
        the historic SpaceDev business.***
 
 The
        demand for our technology, products and services 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 from our lines of business,
        including, but not limited to, small satellites and electromechanical systems
        for spacecraft. A long-term commercial market may develop for private manned
        and
        unmanned space exploration. Small satellites and commercial space exploration
        are still relatively new concepts, and it is difficult to predict accurately
        the
        ultimate size of the market. In addition, we are developing new product areas
        such as large deployable structures, solar array drives, slip rings and
        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 products and services, delays in such acceptance, or failure
        of our markets to develop or grow could negatively affect our business,
        financial condition, and results of operations.
 
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            of Contents
 29
 ***Our
        operating results could fluctuate on a quarterly and annual basis, which
        could
        cause our stock price to fluctuate or 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 product 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 net sales; ·
            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 products to successfully launch or operate; ·
            the
                uncertain market for our technology and products; ·
            the
                availability and cost of raw materials and components for our products;
                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.
 
 ***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 produce products or services that
        compete with our products or services, including new mechanisms and
        electromechanical subsystems using new technology which could render our
        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
        products and services may not function well under certain conditions.***
 
 Most
        of
        our products are technologically advanced and tested, but sometimes are not
        space qualified for performance under demanding operating conditions. Although
        we have never had a failure of our products in space, it is possible that
        our
        products may not successfully launch or operate, or perform as intended in
        space. Like most organizations that have launched space qualified hardware,
        we
        have experienced and in the future will likely experience some product and
        service failures, cost overruns, schedule delays, and other problems in
        connection with our products.
 
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 30
 ***Launch
        failures or delays could have serious adverse effects on our business.***
 
 Launch
        failures or delays of our small satellites could have serious adverse effects
        on
        our business. Small satellite launches are subject to significant risks,
        the
        realization of which can cause disabling damage to, or total loss of, a small
        satellite, as well as damage to our reputation among actual and potential
        customers. Delays in the launch could also adversely affect our net sales.
        Delays could be caused by a number of factors, including:
 
 ·
            designing,
                constructing, integrating, or testing the small satellite, components,
                or
                related ground systems; ·
            delays
                in receiving the license(s) necessary to operate the small satellite
                system(s); ·
            delays
                in obtaining our customer's payload;


·
            delays
                related to the launch vehicle; ·
            weather;
                and, ·
            other
                events beyond 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 lines of business, we intend to
        enter
        the launch services market by providing a microsat bus, integration services,
        and a launch vehicle as a package. Until we develop our own launch vehicle,
        we
        will be dependent on the performance of third party companies like Space
        Exploration Technologies, a small company with limited operating history,
        which
        has not yet had a successful launch, for our first launch vehicle.
 
 ***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. We accelerated
        vesting of all outstanding stock options in December 2005, in anticipation
        of
        SFAS 123(R), which reduced the effectiveness of the stock options as a retention
        device.***
 
 Our
        success will be dependent upon the efforts of key members of our management
        and
        engineering team, including our chief executive officer, Mark N. Sirangelo,
        our
        president and chief financial officer, Richard B. Slansky, the managing director
        of SpaceDev, Scott Tibbitts, and certain other key personnel. The loss of
        any 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 key personnel.
 
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            of Contents
 31
 Historically,
        we have used vesting stock options to enhance our ability to retain key
        personnel. If the employee leaves us before the vesting period has been
        completed, the employee must forfeit any unvested portion of the stock options.
        In December 2005, in order to avoid adverse financial reporting effects in
        future years under SFAS 123(R) new accounting standard, we eliminated all
        future
        vesting requirements on all of our 8,031,036 stock options, then outstanding
        and
        in the hands of employees, officers, and directors. To the extent the vesting
        requirement was operating as a retention device, the elimination of the vesting
        requirements eliminated the retention benefit. We continue to use vesting
        stock
        options as an incentive; however, as a result of SFAS 123(R) and other issues,
        the number of options being granted has been reduced.
 
 Our
        founder and former chief executive officer, James W. Benson, resigned as
        our
        Chairman and chief technology officer in September 2006 in order to found
        a new
        company, Benson Space Company. Although Benson Space Company is now one of
        our
        customers, the departure of a founder, who has helped to shape our culture
        and
        vision, is always a special challenge for an emerging
        company.




***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 extended periods of very
        rapid growth, 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,
        products, and businesses that could enhance our capabilities, complement
        our
        current products, 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-critical contracts or subcontracts. As a company, we have limited
        experience in acquiring other businesses and technologies: the Starsys
        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 products
        or sub-systems as a result of a supplier failure could damage our reputation
        and
        prevent us from winning new contracts.
 
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 32
 ***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 launch vehicle and satellite operations, accidental damage to high value
        customer hardware during the manufacturing process, and damages to customer
        spacecraft caused by our products 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
        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 technology. We rely on a combination of patents,
        trade secrets and contracts to establish and protect our proprietary rights
        in
        our technology. 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 technology and products, our competitive position may be significantly
        harmed because it may be much easier for competitors to sell products similar
        to
        ours. Alternatively, a competitor may independently develop or patent
        technologies that design around
        our patented technology.  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 product line or develop new uses for our products, these products
        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 products 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
        for our existing or new products, 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 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.
 
 Table
            of Contents
 33
 ***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.***
 
 From
        time
        to time, companies may assert patent, copyright and other intellectual property
        rights against our products, or products using our technologies, or other
        technologies used in our industry. These claims may result in our involvement
        in
        litigation. We may not prevail in such litigation given the complex technical
        issues and inherent uncertainties in intellectual property litigation. If
        any of
        our products were found to infringe on another company's intellectual property
        rights, we could be required to redesign our products or license such rights
        and/or pay damages or other compensation to such other company. If we were
        unable to redesign our products or license such intellectual property rights
        used in our products, we could be prohibited from making and selling such
        products.
 
 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 regulation, some of which prohibits 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 regulation 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,
        or
        "ITAR." Exports of our 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
        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, which we refer
        to
        as the ITU. In the United States, the Federal Communications Commission,
        which
        we refer to as the FCC, and the National Telecommunications Information Agency,
        which we refer to as 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.
 
 We
        are
        also subject to laws and regulations regulating 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.
 
 Table
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 34
 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; ·
            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; ·
            changes
                in market valuations of similar companies and of stocks
                generally; ·
            volume
                fluctuations generally including, but not limited to, resales by
                former
                Starsys stockholders or by Laurus Master Fund;
                and, ·
            other
                factors listed above in "*Our
                operating results could fluctuate on a quarterly and annual basis,
                which
                could cause our stock price to fluctuate or decline.*" 
 ***Changes
        in stock option accounting rules may adversely affect our reported operating
        results prepared in accordance with generally accepted accounting principles,
        our stock price and our efforts in recruiting additional employees.***
 
 Technology
        companies, in general, and our company in particular, depend upon and use
        broad
        based employee stock option programs to hire, incentivize, and retain employees
        in a competitive marketplace. Through fiscal 2005, we did not recognize
        compensation expense for stock options issued to employees or directors,
        except
        in limited cases involving modifications of stock options, and we instead
        disclosed in the notes to our financial statements information about what
        such
        charges would be if they were expensed. An accounting standard setting body
        adopted SFAS 123(R), a new accounting standard that requires us to record
        equity-based compensation expense for stock options and employee stock purchase
        plan rights granted to employees based on the fair value of the equity
        instrument at the time of grant. We began recording these expenses in 2006.
        The
        change in accounting rules will lead to a decrease in reported earnings,
        if we
        have earnings, or an increased loss, if we do not have earnings. This may
        negatively impact our future stock price. In order to protect reported earnings,
        we reduced the use of stock options, and by doing so, we could lose the
        advantage of a valuable incentivizing tool and could be placed at a competitive
        disadvantage by other potential employers who were more willing to grant
        stock
        options.
 
 ***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
        March 31, 2007, our executive officers and directors together beneficially
        owned
        approximately 38.0% of the issued and outstanding shares of our common
        stock.  James W. Benson and Susan C. Benson beneficially own approximately
        33.2% of our common stock.  (Mr. Benson separated from our employ in
        September 2006 and founded Benson Space Company but retains a seat on our
        Board
        of Directors.)  As a result, executive officers, directors and/or
        significant shareholders (i.e., 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. In addition, 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
        could have the effect of delaying or preventing a change in control of our
        company, even if the change in control would benefit our shareholders. 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.
 
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 35
 ***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.***
 
 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 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.


***Our
        expansion into other new lines of business may divert management's attention
        from our existing operations and prove to be too
        costly.***
 
 Our
        current business plan contemplates the migration of technologies from projects
        into products for small satellites and hybrid rocket motors over the next
        several years. Our Starsys-derived lines of business may migrate or expand
        from
        a component business into a structures and/or subsystem business over the
        next
        several years. In the meantime, we are investigating other applications of
        our
        technology and other markets for our technologies and prospective products.
        Our
        expansion into new lines of business may be difficult for us to manage because
        they may involve different disciplines and require different expertise than
        our
        historic core business. Consequently, this expansion may divert management's
        time and attention, and we may need to incur significant expenses in order
        to
        develop the expertise, and reputation we desire. Any revenues generated by
        new
        lines of business may not be significant enough to offset the expenditures
        required to enter such business, or provide the anticipated return on
        investment.
 
 ***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 will be required
        to
        include a management report on internal control over financial reporting
        as part
        of our annual report for the year ended December 31, 2007 (and future
        annual reports) pursuant to Section 404 of the Sarbanes-Oxley Act. We are
        in the
        process of evaluating our control structure 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 comply 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
        could
        materially adversely affect our reputation, financial condition, and the
        value
        of our securities.
 
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            of Contents
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 ***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 Convertible Preferred
        Stock and approximately 4,217 shares of our Series D-1 Preferred Stock. Our
        Board of Directors may determine the terms of future preferred stock offerings
        without further action by our shareholders. If we issue additional preferred
        stock, it could affect your rights or reduce the value of your 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.
 
 ***Our
        secured debt financing is expensive and onerous.***
 
 On
        September 29, 2006, we entered into a secured revolving credit facility with
        Laurus Master Fund.  Although the maximum size of the facility is
        $5,000,000, actual borrowings are limited by a formula based on our eligible
        accounts receivable and eligible inventory.  Our current cash advance is
        approximately $3.4 million.  We paid a loan fee at closing in the form of
        common stock valued at $350,000.  In addition, we will be required to pay
        Laurus additional loan fees in the form of common stock valued at $200,000
        on
        each anniversary date of the facility, if the facility remains in place. 
In addition, the 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 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, as amended. 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
        you may find it more difficult to sell our securities.
 
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 **ITEM3** **A(T).**  **CONTROLS
        AND PROCEDURES**
  Mark
        N.
        Sirangelo, our chief executive officer, and Richard B. Slansky, our chief
        financial officer, after evaluating the effectiveness of our disclosure controls
        and procedures (as defined in Rule 13a-15(e) under the Securities Exchange
        Act
        of 1934, as amended) have concluded that, as of March 31, 2007, our disclosure
        controls and procedures are effective.
 
 We
        are
        not yet required to furnish the information called for by Item 308T of
        Regulation S-B.




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**PARTII
        -- 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**
 On
        March
        29, 2007, the Compensation Committee of the Board of Directors met and proposed
        a change in the compensation arrangement for the Company’s Board of Directors.
        Each external (i.e., non-officer, non-management) director will receive $1,500
        in cash compensation for each Board of Director meeting attended in person
        and
        $750 cash for each Board of Directors meeting attended by telephone conference
        call.  In addition, each external director will receive $750 for each
        meeting of key committees attended in person or by telephone conference call.
        The key committees are the audit committee, compensation committee and the
        nominating and corporate governance committee. Each external director will
        receive reasonable and customary reimbursement of travel-related expenses
        for
        attendance at Board of Directors meetings. Finally, each external director
        will
        receive an annual stock option grant for 10,000 shares of the Company’s common
        stock at the end of each calendar year, so long as the external director
        served
        on the Board for at least six months during the year. The exercise price
        of the
        option would be equal to 100% of the fair market value of the Company’s stock at
        grant and the option would vest over three years in six month increments
        and
        would expire four years from date of grant. The Compensation Committee left
        open
        the possibility for an initial grant of the Company’s common stock for new Board
        members under the same general terms and conditions. The Board of Directors
        ratified the compensation proposal.




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 39
 ITEM
        6.  EXHIBITS
  
 Exhibit
                  No.
              Description
              Filed
                  Herewith
              Incorporated
                  by Reference
              Form
              Date
                  Filed with SEC
              Exhibit
                  No.31.1
              Rule
                  13a-14(a) certification of Chief Executive Officer
              X31.2
              Rule
                  13a-14(a) certification of Chief Financial Officer
              X32.1
              Section
                  1350/Rule 13a-14(b) certifications
              X
 
 
 **SIGNATURES**
 
 In
        accordance with the requirements of the Exchange Act, the Registrant caused
        this
        report to be signed on its behalf by the undersigned, thereunto duly
        authorized.
 
 **SpaceDev,
        Inc.**
 Registrant
 
 
 Dated:
        May 14, 2007  By:
        /s/ Mark N. Sirangelo
 Mark
        N.
        Sirangelo
 Chief
        Executive Officer
 
 
 
 Dated:
        May 14, 2007  By:
        /s/ Richard B. Slansky
 Richard
        B. Slansky
 President
        & Chief Financial Officer


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