Tableof Contents

 

 

 

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**WASHINGTON, DC 20549**

 

**FORM 10-Q/A**

**(AMENDMENT NO. 1)**

(Mark One)

 

| x                                                          | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934**  |
|------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------|
| ** **                                                 | ** ** | ** **                                                                                               |
| **For the quarterly period ended September 30, 2007** |
| ** **                                                 | ** ** | ** **                                                                                               |
| **OR**                                                     |
| ** **                                                 | ** ** | ** **                                                                                               |
| **o**                                                      | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |

 

**For thetransition period from**                                  **to **                                 

 

**Commission File Number 001-33253**

 

**FORCEPROTECTION, INC.**

(Exact Name of Registrant as Specified in ItsCharter)

 

| **Nevada**                                                     | ** ** | **84-1383888**                       |
|----------------------------------------------------------------|------------|--------------------------------------|
| (State or Other Jurisdiction ofIncorporation  or Organization) |       | (I.R.S. EmployerIdentification  No.) |
|                                                           |       |                                 |
| **9801 Highway 78, Building No. 1********Ladson,  SC**    | ** ** | **29456**                            |
| (Address of Principal Executive Offices)                       |       | (Zip Code)                           |

 

**(843) 574-7000**

(Registrant’s Telephone Number, Including AreaCode)

 

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

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer, or a smaller reporting company. See the definitions of “largeaccelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2of the Exchange Act.

(CheckOne):

 

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

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).o Yes   x  No

 

The registrant had 68,318,162shares of common stock outstanding as of September 30, 2008.

 

 

 

----

Tableof Contents

 

TABLE OF CONTENTS

 
| **PART I—FINANCIAL INFORMATION**                                                          |       | 2          |
|-----------------------------------------------------------------------------------------------------|------------|------------|
| ** **                                                                                          | ** ** | ** ** |
| Item 1. Financial Statements                                                                   |       | 2          |
|                                                                                                |       |       |
| Item 2. Management’s Discussion and  Analysis of Financial Condition and Results of Operations |       | 32         |
|                                                                                                |       |       |
| Item 4. Controls and Procedures                                                                |       | 47         |
|                                                                                                |       |       |
| **PART II—OTHER  INFORMATION**                                                            |       | 50         |
|                                                                                                |       |       |
| Item 6. Exhibits                                                                               |       | 50         |

 

i

----

Tableof Contents

 

**EXPLANATORY NOTE REGARDING RESTATEMENTS**

 

This Quarterly Report on Form 10-Q/Afor the three- and nine- month periods ended September 30, 2007 includesrestatements of the previously filed condensed consolidated financialstatements and data (and related disclosures) for the period ended September 30,2007. These corrections are discussed in Note 2, *Restatementand Reclassification of Previously Issued Condensed Consolidated FinancialStatements,* included in the accompanying condensed consolidatedfinancial statements for the period ended September 30, 2007. Thesecorrections are also discussed in Item 2, Management’s Discussion andAnalysis of Financial Condition and Results of Operations of this QuarterlyReport on Form 10-Q/A and are further discussed in Item 7, Management’sDiscussion and Analysis of Financial Condition and Results of Operations andNote 16, Summarized Quarterly Unaudited Financial Data, to theconsolidated financial statements included in our Annual Report on Form 10-Kfor our fiscal period ended December 31, 2007 filed with the United StatesSecurities and Exchange Commission (“SEC”) on September 15, 2008. Wepreviously announced, in a Form 8-K filed with the SEC on March 3,2008, that we would restate our previously reported condensed consolidatedfinancial statements for the three- and nine-month periods ended September 30,2007 as a result of errors discovered by management during its year-end andquarterly review, including errors associated with inventory purchased from asubcontractor as a result of a contract termination.  The information contained in this QuarterlyReport on Form 10-Q/A amends only Items 1, 2 and 4 of Part I and Item6 of Part II to the originally filed Quarterly Report on Form 10-Qfiled with the SEC on November 13, 2007 (the “Original Report”).

 

ThisQuarterly Report on Form 10-Q/A does not reflect all events occurringafter the original filing of the Original Report or modify or update all thedisclosures affected by subsequent events. Information not modified or updatedherein reflects the disclosures made at the time of the filing of the OriginalReport on November 13, 2007. Accordingly, this Form on 10-Q/A shouldbe read in conjunction with all of our periodic filings, as amended ifapplicable, including our Annual Report on Form 10-K for the year ended December 31,2007, filed with the SEC subsequent to the filing date of the Original Report.

 

1

----

Table of Contents

 

**PART I. FINANCIAL INFORMATION**

 

**Item 1.    Financial Statements (Unaudited)**

 

**Force Protection, Inc. and Subsidiaries**

**Condensed Consolidated Balance Sheets**

**(Unaudited)**

 
| ** **                                          | ** ** | **As of  September 30, 2007  (Restated)** | ** ** | **As of  December 31, 2006** | ** ** |
|-----------------------------------------------------|------------|-----------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                          | ** ** | **(In Thousands)**                             | ** ** |
| **Assets**                                          |       |                                                |       |                                   |       |
| **Current assets:**                                 |       |                                                |       |                                   |       |
| Cash and cash equivalents                           |       | $                                                   | 72,274     |                                   | $          | 156,319 |   |
| Accounts receivable, net of allowance               |       | 66,094                                              |       | 42,035                                 |       |
| Inventories                                         |       | 167,153                                             |       | 60,396                                 |       |
| Advances to subcontractor                           |       | 20,740                                              |       | —                                 |       |
| Deferred income tax assets                          |       | 12,759                                              |       | 9,563                                  |       |
| Income taxes receivable                             |       | 225                                                 |       | —                                 |       |
| Other current assets                                |       | 15,040                                              |       | 373                                    |       |
| Total current assets                                |       | 354,285                                             |       | 268,686                                |       |
| Property and equipment, net                         |       | 51,511                                              |       | 8,964                                  |       |
| Intangible assets, net                              |       | 1,531                                               |       | —                                 |       |
| Deferred income tax assets                          |       | 2,764                                               |       | 2,764                                  |       |
| **Total assets**                                    |       | $                                                   | 410,091    |                                   | $          | 280,414 |   |
| **Liabilities  and Shareholders’ Equity**      |       |                                                |       |                                   |       |
| **Current liabilities:**                            |       |                                                |       |                                   |       |
| Accounts payable                                    |       | $                                                   | 103,144    |                                   | $          | 38,654 |   |
| Due to United States government                     |       | 15,751                                              |       | 6,023                                  |       |
| Other current liabilities                           |       | 12,040                                              |       | 4,891                                  |       |
| Advance payments on contracts                       |       | 55,937                                              |       | 12,824                                 |       |
| Total current liabilities                           |       | 186,872                                             |       | 62,392                                 |       |
| Other long-term liabilities                         |       | 334                                                 |       | 168                                    |       |
|                                                |       | 187,206                                             |       | 62,560                                 |       |
| Commitments and contingencies                       |       |                                                |       |                                   |       |
| **Shareholders’ equity:**                      |       |                                                |       |                                   |       |
| Common stock                                        |       | 68                                                  |       | 67                                     |       |
| Additional paid-in capital                          |       | 256,684                                             |       | 251,038                                |       |
| Accumulated deficit                                 |       | (33,867                                             | )          | (33,251                                | )          |
| Total shareholders’ equity                     |       | 222,885                                             |       | 217,854                                |       |
| **Total liabilities and shareholders’ equity** |       | $                                                   | 410,091    |                                   | $          | 280,414 |   |

 

The accompanying notes to condensed consolidated financialstatements are an integral part of these balance sheets.

 

2

----

Tableof Contents

 

**Force Protection, Inc. and Subsidiaries**

**Condensed Consolidated Statements of Operations**

**(Unaudited)**

 
| ** **                                                 | ** ** | **For the three months ended September 30,** | ** ** | **For the nine months ended September 30,** | ** ** |
|------------------------------------------------------------|------------|----------------------------------------------------------------------------|------------|---------------------------------------------------------------------------|------------|
| ** **                                                 | ** ** | **2007  (Restated)**                                                       | ** ** | **2006**                                                                  | ** ** | **2007  (Restated)** | ** ** | **2006** | ** ** |
| ** **                                                 | ** ** | **(In Thousands,**                                                    | ** ** | **(In Thousands,**                                                   | ** ** |
| ** **                                                 | ** ** | **Except Per Share Data)**                                  | ** ** | **Except Per Share Data)**                                 | ** ** |
| Net sales                                                  |       | $                                                                          | 206,794    |                                                                      | $          | 42,161 |   | $ | 450,278 |   | $ | 133,038 |   |
| Cost of sales                                              |       | 184,260                                                                    |       | 34,243                                                                    |       | 387,475 |   | 108,325 |   |
| Gross profit                                               |       | 22,534                                                                     |       | 7,918                                                                     |       | 62,803 |   | 24,713 |   |
|                                                       |       |                                                                       |       |                                                                      |       |   |   |   |   |
| General and administrative expenses                        |       | 21,708                                                                     |       | 6,715                                                                     |       | 56,113 |   | 20,421 |   |
| Research and development expenses                          |       | 2,344                                                                      |       | 546                                                                       |       | 10,848 |   | 1,851 |   |
| Operating income (loss)                                    |       | (1,518                                                                     | )          | 657                                                                       |       | (4,158 | ) | 2,441 |   |
| Other income, net                                          |       | 594                                                                        |       | 121                                                                       |       | 3,488 |   | 169 |   |
| Interest expense                                           |       | (55                                                                        | )          | (110                                                                      | )          | (86 | ) | (1,737 | ) |
| Income (loss) before income tax benefit                    |       | (979                                                                       | )          | 668                                                                       |       | (756 | ) | 873 |   |
| Income tax benefit                                         |       | 180                                                                        |       | —                                                                    |       | 140 |   | — |   |
| Net income (loss)                                          |       | (799                                                                       | )          | 668                                                                       |       | (616 | ) | 873 |   |
| Accretion of Series D 6% convertible  preferred stock |       | —                                                                     |       | (64                                                                       | )          | — |   | (326 | ) |
| Preferred stock dividend                                   |       | —                                                                     |       | (364                                                                      | )          | — |   | (1,297 | ) |
| Net income (loss) available to common  shareholders        |       | $                                                                          | (799       | )                                                                         | $          | 240 |   | $ | (616 | ) | $ | (750 | ) |
| **Earnings (loss) per common share:**                      |       |                                                                       |       |                                                                      |       |   |   |   |   |
| Basic                                                      |       | $                                                                          | (0.01      | )                                                                         | $          | 0.00 |   | $ | (0.01 | ) | $ | (0.02 | ) |
| Diluted                                                    |       | $                                                                          | (0.01      | )                                                                         | $          | 0.00 |   | $ | (0.01 | ) | $ | (0.02 | ) |
| **Weighted average common shares outstanding:**            |       |                                                                       |       |                                                                      |       |   |   |   |   |
| Basic                                                      |       | 68,208                                                                     |       | 49,014                                                                    |       | 67,990 |   | 42,051 |   |
| Diluted                                                    |       | 68,208                                                                     |       | 49,014                                                                    |       | 67,990 |   | 42,051 |   |
|                                                            |            |                                                                            |            |                                                                           |            |  |  |  |  |  |  |  |  |  |

 

The accompanying notes to condensed consolidated financialstatements are an integral part of these statements.

 

3

----

Tableof Contents

 

**Force Protection, Inc. and Subsidiaries**

**Condensed Consolidated Statements of Cash Flows**

**(Unaudited)**

 
| ** **                                                                                  | ** ** | **For the nine months ended September 30,** | ** ** |
|---------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------|------------|
| ** **                                                                                  | ** ** | **2007  (Restated)**                                            | ** ** | **2006** | ** ** |
| ** **                                                                                  | ** ** | **(In Thousands)**                                         | ** ** |
| **Cash flows from operating activities:**                                                   |       |                                                            |       |   |   |
| Net Income (loss)                                                                           |       | $                                                               | (616       | ) | $ | 873 |   |
| Adjustments to reconcile net income (loss)  to net cash used in operating activities – |       |                                                            |       |   |   |
| Depreciation and amortization                                                               |       | 4,018                                                           |       | 588 |   |
| Deferred tax benefit                                                                        |       | (3,196                                                          | )          | — |   |
| Income tax benefit realized from stock options  exercised                                   |       | (2,276                                                          | )          | — |   |
| Stock-based compensation                                                                    |       | 2,035                                                           |       | 1,560 |   |
| Allowance for doubtful accounts                                                             |       | (45                                                             | )          | — |   |
| Provision for inventory obsolescence                                                        |       | 1,358                                                           |       | — |   |
| Warranty reserve                                                                            |       | 1,202                                                           |       | 189 |   |
| (Increase) decrease in assets –                                                        |       | —                                                          |       | — |   |
| Accounts receivable                                                                         |       | (24,014                                                         | )          | (12,537 | ) |
| Inventories                                                                                 |       | (108,115                                                        | )          | (1,071 | ) |
| Advances to subcontractor                                                                   |       | (20,740                                                         | )          | — |   |
| Income tax receivable                                                                       |       | (225                                                            | )          | — |   |
| Other current assets                                                                        |       | (14,667                                                         | )          | (148 | ) |
| Increase (decrease) in liabilities –                                                   |       | —                                                          |       |   |   |
| Accounts payable                                                                            |       | 64,490                                                          |       | 7,596 |   |
| Due to United States government                                                             |       | 9,728                                                           |       | — |   |
| Other current liabilities                                                                   |       | 8,063                                                           |       | 44 |   |
| Advance payments on contracts                                                               |       | 43,113                                                          |       | (5,432 | ) |
| Total adjustments                                                                           |       | (39,271                                                         | )          | (9,211 | ) |
| **Net cash used in operating activities**                                                   |       | (39,887                                                         | )          | (8,338 | ) |
| **Cash flows from investing activities:**                                                   |       |                                                            |       |   |   |
| Capital expenditures                                                                        |       | (47,706                                                         | )          | (4,372 | ) |
| **Net cash used in investing activities**                                                   |       | (47,706                                                         | )          | (4,372 | ) |
| **Cash flows from financing activities:**                                                   |       |                                                            |       |   |   |
| Proceeds from issuance of common stock:                                                     |       |                                                            |       |   |   |
| Other                                                                                       |       | 1,336                                                           |       | 46,018 |   |
| Dividends on Series D preferred stock                                                  |       | —                                                          |       | (277 | ) |
| Payments on debt                                                                            |       | —                                                          |       | (7,500 | ) |
| Income tax benefit realized from stock  options exercised                                   |       | 2,276                                                           |       | — |   |
| Net decrease in long-term liabilities                                                       |       | (64                                                             | )          | — |   |
| **Net cash provided by financing activities**                                               |       | 3,548                                                           |       | 38,241 |   |
| **Increase (decrease) in cash and cash  equivalents**                                       |       | (84,045                                                         | )          | 25,531 |   |
| **Cash and cash equivalents at beginning of  period**                                       |       | 156,319                                                         |       | 1,217 |   |
| **Cash and cash equivalents at end of period**                                              |       | $                                                               | 72,274     |   | $ | 26,748 |   |
| **Supplemental cash flow information:**                                                     |       |                                                            |       |   |   |
| Cash paid during the period for Interest,  net of amounts capitalized                       |       | $                                                               | 86         |   | $ | 1,737 |   |
| Income taxes                                                                                |       | $                                                               | 1,000      |   | $ | — |   |
| **Supplemental schedule of noncash investing  and financing activities:**                   |       |                                                            |       |   |   |
| Note payable, net of discount, issued as  consideration for non-compete agreement           |       | $                                                               | 390        |   | $ | — |   |

 

The accompanying notes to condensed consolidated financialstatements are an integral part of these statements.

 

4

----

Tableof Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements**

 

 

**1.****             ****Summary of Significant AccountingPolicies**

 

***Organization and Description of the Business***

 

Force Protection, Inc., reincorporated underthe laws of Nevada in 2005, and its subsidiaries, is an important provider ofblast- and ballistic-protected products used to support armed forces andsecurity personnel in harm’s way. We design, manufacture, test, deliver andsupport our blast- and ballistic-protected products with the purpose toincrease survivability of the users of the products. Our specialty vehicles,which we believe are at the forefront of blast- and ballistic-protectedtechnology, are designed to protect their occupants from landmines, hostilefire, and improvised explosive devices (“IEDs”). Our primary customer is theUnited States Department of Defense (“DoD”) where we service two principalservices, the U. S. Army and U. S. Marine Corps.

 

References herein to “Force Protection,” the “Company,”“we,” “our,” or “us” refer to Force Protection, Inc. and its subsidiariesunless otherwise stated or indicated by context.

 

Commencing in March 2008, in conjunction with thepreparation of our consolidated financial statements for the year ended December 31,2007, we undertook a comprehensive review of our previously issued unauditedcondensed consolidated financial statements for the periods ended March 31,2007, June 30, 2007 and September 30, 2007, collectively referred toas the (Quarterly Financial Statements). As a result of this review, we havedetermined that the previously issued unaudited Quarterly Financial Statementswere not prepared in accordance with generally accepted accounting principlesin the United States of America (“GAAP”) and we have restated those previouslyissued Quarterly Financial Statements. The condensed consolidated financialstatements for the period ended September 30, 2007, include the effects ofthese restatements. (See Note 2, *Restatement andReclassification of Previously Issued Condensed Consolidated FinancialStatements*).

 

***Basis of Presentation and Consolidation***

 

These unaudited condensedconsolidated financial statements should be read in conjunction with (i) ouraudited consolidated financial statements included in our Annual Report on Form 10-Kfor the year ended December 31, 2006 filed with the United StatesSecurities and Exchange Commission (“SEC”) on March, 16, 2007, as amended on July 12,2007 and on October 15, 2007, and (ii) because of the timing of thefiling of this amended Quarterly Report on Form 10-Q/A, our auditedconsolidated financial statements included in our Annual Report on Form 10-Kfor the year ended December 31, 2007, filed with the SEC on September 15,2008.  These unaudited condensedconsolidated financial statements have been prepared pursuant to Rule 10-01of Regulation S-X. Certain information and note disclosures normally includedin annual financial statements prepared in accordance with GAAP have beencondensed or omitted pursuant to those rules and regulations, although webelieve that the disclosures made herein are adequate to make the informationnot misleading.

 

The unaudited results ofoperations for the interim periods shown in these financial statements are notnecessarily indicative of operating results for the entire year. In ouropinion, the accompanying condensed consolidated financial statements recognizeall adjustments of a normal recurring nature considered necessary to fairlystate the financial position, results of operations, and cash flows for eachinterim period presented.

 

These unaudited condensedconsolidated financial statements include the assets, liabilities, revenues andexpenses of our two wholly owned subsidiaries, Force Protection Industries, Inc.and Force Protection Technologies, Inc. We eliminate from our financial results all significant intercompanyaccounts and transactions.

 

***Use of Estimates***

 

The preparation of our unaudited condensedconsolidated financial statements in conformity with GAAP requires the use ofestimates and assumptions that affect the reported amounts of assets andliabilities, the disclosure of contingent assets and liabilities at the date ofthe unaudited condensed consolidated financial statements, and the reportedamounts of revenues and expenses during the reporting periods. Significantestimates and assumptions are used for, but are not limited to: (1) revenuerecognition; (2) allowance for doubtful accounts; (3) definitizationand advance payments on contracts; (4) inventory costs and reserves; (5) assetimpairments; (6) depreciable lives of assets; (7) economic lives andfair

 

5

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

value of leased assets; (8) income taxreserves and valuation allowances; (9) fair value of stock options; (10) allocationof direct and indirect cost of sales; and (11) contingent liabilities,warranty, and litigation reserves. Future events and their effects cannot bepredicted with certainty; accordingly, our accounting estimates require theexercise of judgment. The accounting estimates used in the preparation of our unauditedcondensed consolidated financial statements will change as new events occur, asmore experience is acquired, as additional information is obtained and as ouroperating environment changes. We evaluate and update our assumptions andestimates on an ongoing basis and may employ outside experts to assist in ourevaluation, as considered necessary. Actual results could differ from thoseestimates.

 

***Risks and Uncertainties***

 

We are exposed to a number of risks in the normalcourse of our operations that could potentially affect our financial position,results of operations, and cash flows.

 

*Customer Concentration*

 

Substantially all of our revenue comes from our DoDcontracts either as a prime contractor or as a subcontractor to another primecontractor to the U.S. government. Revenue from those contracts approximated 91% and 92 % of*Net sales* for the nine months ended September 30,2007 and 2006, respectively.  Ouraccounts receivable from the U.S. government as of September 30, 2007 was93 % of our accounts receivable.

 

*Law and Regulations*

 

As a result ofthose DoD contracts, we are required to participate in the U.S. governmentcontracting process, which involves extensive statutes, regulations andrequirements of the U.S. government agencies and entities that govern theseprograms, including award, administration, funding, and performance ofcontracts. These statutes and regulations impose a broad range of requirements,many of which are unique to government contracting, including variousprocurement, import and export, federal national security, contract pricing andcost, funding, contract termination and adjustment, audit requirements, andprotection of classified information. Our failure to comply with theseregulations and requirements could result in reductions of the value ofcontracts, contract modifications or termination, loss of security clearance,and the assessment of civil or criminal penalties and fines, inability to winnew contracts, and lead to suspension or debarment from government contractingor subcontracting for a period of time, any of which could have a materialadverse affect on our financial position, results of operations, and cashflows.

 

We are also subject to certain unique business risksassociated with the defense market, including changes in budget appropriations,procurement policies, political developments both domestically and abroad, andother factors. Any material deterioration in the economic and environmentalfactors that impact the defense industry could have a material adverse effecton our financial position, results of operations, and cash flows.

 

There are certain federal laws that, while notspecifically directed at us as a contractor, may affect our U.S. governmentcontracts. The Anti-Deficiency Act is one of the major laws through whichCongress exercises its constitutional control of the public purse. TheAnti-Deficiency Act indirectly regulates how the agency awards our contractsand pays our invoices. Accounts receivable related to DoD contractsapproximated 93% of our accounts receivable as of September 30, 2007.

 

Our operations also are subject to a broad range ofenvironmental, health and safety laws and regulations in the jurisdictions inwhich we operate. These laws and regulations impose increasingly stringentenvironmental, health and safety protection standards and permittingrequirements regarding, among other things, air emissions, wastewater storage,treatment and discharges, the use and handling of hazardous or toxic materials,waste disposal practices, and the remediation of environmental contaminationand working conditions for our employees. Some environmental laws, such as theU.S. Comprehensive Environmental Response, Compensation, and Liability Act,also known as CERCLA or Superfund, and comparable state laws, impose joint andseveral liability for the cost of environmental remediation, natural resourcedamages, third-party claims, and other expenses, without regard to the fault orthe legality of the original conduct, on those persons who contributed to therelease of a hazardous substance into the environment.

 

6

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

The costs of complying with these laws andregulations, including participation in assessments and remediation ofcontaminated sites and installation of pollution control facilities could besignificant. In addition, if we are found responsible for any hazardouscontamination, we may have to pay expensive fines or penalties or performcostly clean-up. Even if we are charged, and later found not responsible forsuch contamination and clean-up, the costs of defending the charges could besignificant.

 

*Sources and Supply of Materials*

 

Our products incorporate engines, transmissions, axlesand a number of other components that are available only from the source orsources selected by the U.S. military. Identifying additional or replacementsuppliers approved by the U.S. military for any of the numerous components usedin our products may not be accomplished quickly or on commercially reasonableterms, if at all. In addition to suppliers specified by the U.S. military, weuse other suppliers for certain components of our products, some of which aresmall businesses that are not well capitalized. In the event that we are unableto obtain required components from our existing suppliers, and if we are unableto mitigate the impact or find an alternate supplier in a timely manner, itcould have a material adverse effect on our ability to produce our vehicles.Significant interruptions in the supply of components may occur for a varietyof reasons, including capacity constraints at our suppliers, competition forcomponents with other manufacturers of vehicles, insolvency of a supplier, workstoppages at suppliers and transportation interruptions, which couldinvolve significant additional costs and result in delays in production andproduct deliveries and could have a material adverse effect on our results ofoperations. In addition, the unavailability or scarcity of certain componentsor raw material could result in increased costs, which could have a materialadverse effect on our financial position, results of operations, and cashflows.

 

In addition, some of our product components aremanufactured in and supplied from foreign countries. If import tariffs or taxesincrease for any reason, our cost of goods would increase. Our financialperformance could be adversely affected by changes in the political, social andeconomic environment in these foreign countries. The role of the central andlocal governments in the economies of these foreign countries may besignificant. Policies toward economic liberalization, and laws and policiesaffecting foreign companies, foreign investment, currency exchange rates andother matters could change, resulting in greater restrictions on our ability todo business with suppliers based in other countries. A foreign government couldimpose surcharges, increase tax rates, or revoke, terminate or suspendoperating licenses without compensating us. In addition, the U.S. governmentcould impose charges and taxes and could take other actions that could make itmore expensive or costly for us to obtain components from sources in foreigncountries or could prevent us from acquiring those components. Also, othercountries, from time to time, experience instances of civil unrest andhostilities and confrontations have occurred between the military, insurgentforces, and civilians. If for these or any other reason, we are unable toobtain required components from foreign sources as and when required, or atall, it could have a material adverse effect on our financial position, resultsof operations, and cash flows.

*** ***

***Revenue Recognition***

 

Substantially all of ourrevenues from the U.S. government and certain of our revenues from others areearned pursuant to written contractual arrangements to design, develop,manufacture and/or modify blast- and ballistic-protected products and toprovide related engineering and technical or other services according to thespecifications of the buyers (customers). These contracts are generallyfixed-price, cost-reimbursable, or time and material based. We recognizerevenues and earnings on fixed-production contracts, whose units are producedand delivered in a continuous or sequential process, based upon the unit’scontract selling price as we deliver it and the customer’s *formalacceptance* of the unit. We charge the actual unit cost to *Cost of sales.*

 

We define *formal acceptance* under the U.S. government contract astaking place when a representative of the U.S. government signs the UnitedStates Form DD250 entitled “Material Inspection and Receiving Report.”Under the Federal Acquisition Regulation (“FAR”), a signed Form DD250signifies contractual inspection and acceptance by the United States of thework performed by Force Protection. A signed Form DD250 also is the eventcontractually obligating the U.S. government to pay us for the approved goodsor services (subject to any “definitization” contractual adjustment(s), asdiscussed below).

 

7

----

Tableof Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

In accordance with standardindustry practice, there is a representative from the United States DefenseContract Management Agency (“DCMA”) acting as a contractual representative ofthe U.S. government present at our facilities. This DCMA representativeinspects each vehicle as it is delivered by us, and upon confirmation of thevehicle’s conformity with the contractual specifications, the inspector orother contractually designated official signs the Form DD250 and formallyaccepts delivery of the vehicle. We only recognize revenues arising from ourU.S. government contracts upon execution of the Form DD250 by the DCMAinspector.

 

Under some of our U.S.government contracts, we receive performance-based payments based on completionof specific milestones stipulated under the contract (for example, completionof manufacturing fabrication). We report these payments as *Advancepayments on contracts* in our condensed consolidated balance sheetsuntil the final delivery of the products and formal acceptance by the U.S.government as evidenced by an executed Form DD250. As discussed above,upon acceptance of the products and the execution of the Form DD250, werecognize the full sale price of the product as revenue.

 

We recognize revenue fromother items, such as foreign and domestic user training, field support(including vehicle repairs), performing vehicle modifications, and providingtest support to the U.S. government for its vehicle testing, when we meet fourbasic criteria: (i) persuasive evidence that a customer arrangementexists; (ii) the price is fixed or determinable; (iii) collectibilityis reasonably assured; and (iv) delivery of product has occurred orservices have been rendered.

 

We negotiate contracts withour customers that may include revenue arrangements with multiple deliverables.We account for each deliverable under a contract separately. Historically, wenegotiate and sign contracts with our customers that provide a contract amountand specific terms and conditions associated with each deliverable.

 

Shipping and handling costsare expensed as incurred and included in *Cost of sales.*

 

*Definitization / Due to the UnitedStates government*

 

Our contracts with the U.S.government are negotiated as either a “sole source” or “open competition” bidprocess. A sole source process is one in which we are the sole bidder for thecontract. An open competition could involve various bidders. Once a bid isaccepted, the U.S. government usually expects work to commence immediately. Anopen competition results in a final agreed-upon contract price to which theU.S. government has agreed. A sole source process results in an agreed-uponcontract with the U.S. government, subject to an adjustment process at a laterdate, termed the “definitization process.” The definitization process commencesupon awarding of a contract, whereby the U.S. government undertakes a detailedreview of our costs involved in the manufacturing and delivery process. We thenwork with the U.S. government to determine an adequate and fair final contractprice. We have the right to submit proposed prices, but they are subject tofinal review and approval by the contracting officer, who may require that weuse different prices. Although both parties make an effort to definitize the contractas quickly as possible, the process is time consuming and can take months tocomplete. In addition, if an agreement is not reached as to price by a specificdate, the contracting officer may unilaterally determine a price. Duringdefinitization, we are usually required to perform the contract work and makedeliveries before the final contract price has been established. For thisreason, as part of the original award, we bill the U.S. government at apredetermined price that is used for invoicing and accounting purposes pendingfinal definitization.

 

As a result of theadjustments related to the definitization process, we recognize a liability, *Due to United States government*, and reduce gross sales toarrive at net sales.  As of September 30,2007 and December 31, 2006, our liability for contracts subject to thedefinitization process has been estimated based upon an expected adjustmentpercentage.

 

*Sales Returns and Allowance forDoubtful Accounts*

 

Historically, we have not encountered sales returnsor significant uncollectible accounts receivable and we do not anticipate themin the near future.  The majority of ouraccounts receivable are with the U. S. government and we do not maintain anallowance for doubtful accounts for those accounts due to the credit-worthinessof the U. S. 

 

8

----

Tableof Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

government. We do maintain an allowance for doubtful accounts for ournon-governmental customers, which is based upon specific identification.

 

***Cash and CashEquivalents***

 

*Cash and cash equivalents* includes investments that are highly liquidand have maturities of three months or less when purchased. The carrying valuesof cash and cash equivalents approximate their fair value due to the short-termnature of these instruments.

 

We maintain amounts on deposit with variousfinancial institutions, which may at times exceed federally insured limits.However, management periodically evaluates the credit-worthiness of thoseinstitutions, and we have not experienced any losses on such deposits.

 

***Inventories***

 

We carry our inventories at the lower of their costor market value, reduced by reserves for excess and obsolete items. Cost isdetermined using the first-in, first-out (“FIFO”) method. Market is determinedbased on net realizable value. Appropriate consideration is given to obsolescence,excess quantities, and other factors in evaluating net realizable value.

 

***Property andEquipment***

 

We report land, buildings, leasehold improvements,and machinery and equipment, including tooling and pattern equipment, at cost,net of depreciation and asset impairments, if applicable. We report assetsunder capital lease obligations at the lower of their fair value or the presentvalue of the aggregate future minimum lease payments as of the beginning of thelease term. We depreciate our assets using the straight-line method over theshorter of the lease term or the estimated useful lives of the assets.

 

The ranges of estimated useful lives are as follows:

 
| ** **                                            | ** ** | **Years** | ** ** |
|-------------------------------------------------------|------------|-----------|------------|
| Buildings                                             |       | 29        |       |
| Leasehold improvements                                |       | 2-5       |       |
| Machinery and equipment, including tooling  and molds |       | 7         |       |
| Computer equipment and software                       |       | 3         |       |
| Furniture and fixtures                                |       | 3         |       |
| Demonstration vehicles                                |       | 5         |       |
| Manuals                                               |       | 5         |       |
| Vehicles                                              |       | 5         |       |

 

The carrying amounts of all long-lived assets areevaluated periodically to determine if adjustment to the depreciation andamortization period or to the unamortized balance is warranted. Such evaluationis based principally on the expected utilization of the long-lived assets.

 

Maintenance and repairs of property and equipmentare expensed as incurred. We capitalize replacements and improvements thatincrease the estimated useful life of an asset and we capitalize interest onmajor construction and development projects while in progress.

 

We retain fully depreciated assets in property andaccumulated depreciation accounts until we remove them from service. In thecase of sale, retirement, or disposal, the asset cost and related accumulateddepreciation balance is removed from the respective account, and the resultingnet amount, less any proceeds, is included as a component of income fromoperations in the unaudited condensed consolidated statements of operations.

 

9

----

Tableof Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

We recognize escalated rents, including any rentholidays, on a straight-line basis over the term of the lease for those leaseagreements where we receive the right to control the use of the entire leasedproperty at the beginning of the lease term.

 

We test for impairment of long-lived assets,including intangible assets, whenever events or changes in circumstancesindicate that the carrying value of an asset or asset group (hereinafterreferred to as “asset group”) may not be recoverable by comparing the sum ofthe estimated undiscounted future cash flows expected to result from use of theasset group and its eventual disposition to the carrying value. If the sum ofthe estimated undiscounted future cash flows is less than the carrying value,an impairment determination is required. The amount of impairment is calculated by subtracting the fair value ofthe asset group from the carrying value of the asset group.  An impairment charge, if any, is recognizedwithin *Operating income (loss*)*.*

 

***Intangible Assets***

 

We amortize the cost of intangible assets over theirrespective estimated useful lives on a straight-line basis. The amortizationperiods are as follows:

 
| ** **                    | ** ** | **Years** | ** ** |
|-------------------------------|------------|-----------|------------|
| Licenses                      |       | 3         |       |
| Non-compete agreements        |       | 4         |       |
| Customer base                 |       | 2         |       |
| Special expertise             |       | 2         |       |
| Weighted-average useful lives |       | 3         |       |

 

***Investments inand Advances to Non-consolidated Affiliates***

 

Equity method investments are recorded at originalcost and adjusted periodically to recognize (i) our proportionate share ofthe investees’ net income or losses after the date of investment; (ii) additionalcontributions made and dividends or distributions received; and (iii) impairmentlosses resulting from adjustments to net realizable value.  However, for contracts not yet novated to anequity method investee we continue to recognize the revenues and expenses fromthose contracts in our unaudited condensed consolidated financial statements.

 

We assess the potential impairment of our equitymethod investments. We determine fair value based on valuation methodologies,as appropriate, including the present value of estimated future cash flows,estimates of sales proceeds, and external appraisals. If an investment is determinedto be impaired and the decline in value is other than temporary, we record awrite-down.

 

*Force Dynamics LLC*

 

On September 10, 2007,we entered into a subcontract (“GDLS Subcontract”) with General Dynamics LandSystems Inc. (“GDLS”) pursuant to which GDLS manufactures approximately50% of the Cougar vehicles to be manufactured under, and performs approximately50% of the life cycle support required by, the Mine Resistant Ambush Protected(“MRAP”) Competitive Contract based on revenues. We previously entered into ajoint venture with GDLS on December 15, 2006 (“Workshare Agreement”)pursuant to which we and GDLS would fulfill the obligations of the MRAPCompetitive Contract. We formed a Delaware limited liability company, ForceDynamics, LLC (“Force Dynamics”), to govern the terms of the jointventure. However, the MRAP Competitive Contract was awarded to us and not toForce Dynamics or GDLS. We have attempted to novate this contract to ForceDynamics, although the U.S. government has not yet agreed to the novation. Ifthe contract is novated, we and GDLS may be required to guarantee payment ofall liabilities and performance of all obligations that Force Dynamics willassume under the novated contract. We will not fund and Force Dynamics willremain inactive until such time the MRAP Competitive Contract is assigned toForce Dynamics. Because this contract was awarded to Force Protection and hasnot yet been novated to the joint venture, we include 100% of the revenues fromthe MRAP Competitive Contract (including revenue from vehicles manufactured byGDLS) in *Net sales* in our unaudited condensed consolidatedstatement of operations beginning with the three-month period ended September30, 2007, and will continue to include them until such time as the MRAPCompetitive Contract is novated to Force Dynamics, at which point we willrecognize revenues only from vehicles subcontracted 

 

10

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

by Force Dynamics that weactually manufacture.  In addition, beginningwith the three-month period ended September 30, 2007 we include in *Cost of sales*, an amount equal to 100% of revenues fromvehicles manufactured by GDLS. Notwithstanding the inclusion of revenues from vehicles manufactured byGDLS in *Net sales*, GDLS is entitled to all ofthe revenue from vehicles manufactured by GDLS. Amounts included in our consolidated statements of operations for the three-and nine-month periods ended September 30, 2007 from vehicles manufacturedby GDLS are as follows (in thousands):

 
| ** **    | ** ** | **2007** | ** ** |
|---------------|------------|----------|------------|
| Net sales     |       | $        | 33,270     |   |
| Cost of sales |       | 33,270   |       |
|               |            |          |            |  |

 

*Advances to subcontractor* consist of amounts paid to GDLS on the MRAPCompetitive Contract based upon the achievement of contractual performancemilestones. These advances are a flow through from our contract with the U.S.government.

 

In connection with our jointventure arrangement with GDLS, we entered into a technology license agreementwith Force Dynamics and GDLS. The agreement provides that we grant ForceDynamics and GDLS a non-exclusive license without the right to sublicense.Force Dynamics and GDLS will pay us a vehicle fee for each MRAP vehicleproduced. The term of this technology agreement is the later of completion orcomplete termination of the MRAP program or the Workshare Agreement.

*** ***

***Stock-BasedCompensation***

 

Force Protection does not have a formal stock optionplan.  However, we provided some of ouremployees stock-based compensation in the form of stock options and shares ofour common stock. Prior to July 1, 2005, we accounted for thosestock-based compensation awards using the recognition and measurementprinciples of the intrinsic value method of Accounting Principles Board (“APB”)Opinion No. 25,*Accounting for StockIssued to Employees,* and its related interpretations, and appliedthe disclosure-only provisions of FASB Statement No. 123,*Accounting for Stock-Based Compensation*.Under the intrinsic value method, we recognized compensation expense on thedate of grant only if the current market price of the underlying stock on thegrant date exceeded the exercise price of the stock-based award.

 

In December 2004, the FASB issued FASBStatement No. 123 (revised 2004), *Share-BasedPayment*, which revises FASB Statement No. 123 and supersedesAPB Opinion No. 25. FASB Statement No. 123(R) requires allshare-based payments to employees, including grants of employee stock options,to be recognized in the financial statements based on their fair valuesbeginning with the first interim or annual period after June 15, 2005.Subsequent to the effective date, the pro forma disclosures previously permittedunder FASB Statement No. 123 are no longer an alternative to financialstatement recognition.

 

In March 2005, the Staff of the SEC issuedStaff Accounting Bulletin (“SAB”) No. 107, *Share-Based Payment*. SAB No. 107 expresses the view ofthe SEC Staff regarding the interaction between FASB Statement No. 123(R) andcertain SEC rules and regulations and provides the SEC Staff’s viewsregarding the valuation of share-based payment arrangements for publiccompanies. The SEC Staff believes the guidance in SAB No. 107 will assistpublic companies in their initial implementation of FASB Statement No. 123(R) beginningwith the first interim or annual period of the first fiscal year that beginsafter June 15, 2005.

 

Effective July 1, 2005, we adopted FASBStatement No. 123(R) using the modified prospective method. Underthis method, compensation cost recognized during 2006 included: (1) compensationcost for the portions of all share-based payments granted prior to, but not yetvested as of July 1, 2005, based on the grant date fair value estimated inaccordance with the original provisions of FASB Statement No. 123amortized on a straight-line basis over the options’ remaining vesting periodbeginning July 1, 2005, and (2) compensation cost for all share-basedpayments granted subsequent to July 1, 2005, based on the grant-date fairvalue estimated in accordance with the provisions of FASB Statement No. 123(R) amortizedon a straight-line basis over the options’ requisite service period. Pro formaresults for prior periods have not been restated.

 

11

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

***Warranty***

 

Our sales contracts generally include a warrantythat our products are free from defects in design, material, and workmanshipfor a period of one year from the acceptance date. The warranty does not applyto any damage or failure to perform caused by the misuse or abuse of thevehicle, combat damage, fair wear and tear items (brake shoes, wiper blades,etc.), or by the customer’s failure to perform proper maintenance or service onthe supplies.  We base our warranty accrualson estimates of the expected warranty costs that incorporate historicalinformation and forward assumptions about the nature, frequency, and averagecost of warranty claims. Warranty costs are included in*Cost of sales.*

 

***LitigationReserve***

 

We accrue for loss contingencies associated withoutstanding litigation, claims and assessments for which management hasdetermined it is probable that a loss contingency exists and the amount of losscan be reasonably estimated. We expense professional fees associated withlitigation claims and assessments as incurred.

 

***Research anddevelopment***

 

We incur costs in connection with research anddevelopment programs that are expected to contribute to future earnings, andcharge such costs against income as incurred. Research and development costs consist primarily of payroll andpersonnel related costs, contractor fees, infrastructure costs, andadministrative expenses directly related to research and development support.

 

***Income Taxes***

 

We provide for income taxes using the asset andliability method. This approach recognizes the amount of federal, state, andlocal taxes payable or refundable for the current year, as well as deferred taxassets and liabilities for the future tax consequence of events recognized inthe consolidated financial statements and income tax returns. Deferred incometax assets and liabilities are adjusted to recognize the effects of changes intax laws or enacted tax rates. In addition, we establish reserves for taxcontingencies in accordance with FASB Interpretation No. 48, *Accounting for Uncertainty in Income Taxes.*

 

A valuation allowance is required when it is morelikely than not that some portion of the deferred tax assets will not berealized. Realization is dependent on generating sufficient future taxableincome.

 

Force Protection and its subsidiaries file aconsolidated federal income tax return. State income tax returns are filed on aseparate, combined, or consolidated basis in accordance with relevant statelaws and regulations.

 

***Earnings (Loss)Per Common Share***

 

The calculation of basic earnings (loss) per commonshare is based on the weighted-average number of our common shares outstandingduring the applicable period. The calculation for diluted earnings (loss) percommon share recognizes the effect of all potential dilutive common shares thatwere outstanding during the respective periods, unless their impact would beanti-dilutive.

 

***Recent AccountingPronouncements***

 

In May 2008, the FASB issued FASB Statement No. 162,*The Hierarchy of Generally**Accepted Accounting Principles*. FASBStatement No. 162 defines the order in which accounting principles thatare generally accepted should be followed. FASB Statement No. 162 iseffective for fiscal years beginning after November 15, 2008.  We have not yet commenced evaluating thepotential impact, if any, of the adoption of FASB Statement No. 162 on ourconsolidated financial position, results of operations, and cash flows.

 

In April 2008, the FASB issued Staff Position (“FSP”)No. FAS 142-3, *Determination of UsefulLife of Intangible Assets,* (FSP FAS 142-3).  FSP FAS 142-3 amends the factors thatshould be considered in developing the renewal or extension assumptions used todetermine the useful life of a recognized intangible asset under FASB 

 

12

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

Statement No. 142, *Goodwill andOther Intangible Assets*. FSP FAS 142-3 also requires expandeddisclosure related to the determination of intangible asset useful lives. FSPFAS 142-3 is effective for fiscal years beginning after December 15,2008. Earlier adoption is prohibited. We have not yet commenced evaluating thepotential impact, if any, of the adoption of FSP FAS 142-3 on our consolidatedfinancial position, results of operations and cash flows.

 

In March 2008, the FASB issued FASB Statement No. 161,*Disclosures about Derivative**Instruments and Hedging Activities*, anamendment of FASB Statement No. 133, *Accountingfor Derivative Instruments and Hedging Activities*. FASB Statement No. 161changes the disclosure requirements for derivative instruments and hedgingactivities. Entities are required to provide enhanced disclosures about (i) howand why an entity uses derivative instruments, (ii) how derivativeinstruments and related hedged items are accounted for under FASB Statement No. 133,*Accounting for Derivative Instruments andHedging Activities,*and its related interpretations and (iii) howderivative instruments and related hedged items affect an entity’s financialposition, results of operations, and cash flows. FASB Statement No. 161 iseffective for financial statements issued for fiscal years and interim periodsbeginning after November 15, 2008, with early application permitted. FASBStatement No. 161 permits, but does not require, comparative disclosuresfor earlier periods at initial adoption. We have not yet commenced evaluatingthe potential impact, if any, of the adoption of FASB Statement No. 161 onour consolidated financial position, results of operations, cash flows ordisclosures related to derivative instruments and hedging activities.

 

In December 2007, the FASB issued FASBStatement No. 141 (revised 2007), *BusinessCombinations*, which establishes principles and requirements for howthe acquirer in a business combination (i) recognizes and measures in itsfinancial statements the identifiable assets acquired, the liabilities assumed,and any controlling interest, (ii) recognizes and measures the goodwillacquired in the business combination or a gain from a bargain purchase, and (iii) determineswhat information to disclose to enable users of the financial statements toevaluate the nature and financial effects of the business combination.  FASB Statement No. 141 (R) appliesto fiscal years beginning after December 15, 2008. Earlier adoption isprohibited.

 

In December 2007, the FASB issued FASBStatement No. 160, *NoncontrollingInterests in Consolidated Financial Statements*, which establishesaccounting and reporting standards that require (i) the ownershipinterest in subsidiaries held by parties other than the parent to be clearlyidentified and presented in the consolidated balance sheet within shareholders’equity, but separate from the parent’s equity; (ii) the amount ofconsolidated net income attributable to the parent and the noncontrollinginterest to be clearly identified and presented on the face of the consolidatedstatement of operations; and (iii) changes in a parent’s ownershipinterest while the parent retains its controlling financial interest in itssubsidiary to be accounted for consistently. FASB Statement No. 160 applies to fiscal years beginning afterDecember 15, 2008. Earlier adoption is prohibited.

 

In February 2007, the FASB issued FASBStatement No. 159, *The Fair ValueOption**for Financial Assets andFinancial Liabilities*, which provides companies with an option toreport selected financial assets and liabilities at fair value. FASB Statement No. 159establishes presentation and disclosure requirements designed to facilitatecomparisons between companies that choose different measurement attributes forsimilar types of assets and liabilities and requires companies to provideadditional information that will help investors and other users of financialstatements to more easily understand the effect of a company’s choice to usefair value on its earnings. FASB Statement No. 159 also requires entitiesto display the fair value of those assets and liabilities for which the companyhas chosen to use fair value on the face of the balance sheet. FASB Statement No. 159does not eliminate disclosure requirements included in other accountingstandards, including requirements for disclosures about fair value measurementsincluded in FASB Statements No. 157, *FairValue**Measurements*,and No. 107, *Disclosures about FairValue of Financial Instruments.* FASB Statement No. 159 is effectiveas of the beginning of an entity’s first fiscal year beginning after November 15,2007. We adopted FASB Statement No. 159 on January 1, 2008, and wedid not elect the fair value option for any other financial instruments orcertain other financial assets and liabilities that were not previouslyrequired to be measured at fair value.

 

In September 2006, the FASB issued FASBStatement No. 157, *Fair Value**Measurements*, which defines fairvalue, establishes a framework for measuring fair value under GAAP and expandsdisclosures about fair value measurements. FASB Statement No. 157 appliesto other accounting pronouncements that require or permit fair valuemeasurements. The new guidance is effective for financial statements issued forfiscal years beginning after November 15, 2007, and for interim periodswithin those fiscal years. We adopted FASB Statement No. 157 on 

 

13

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

January 1, 2008, and it did not have animpact on our consolidated financial position, results of operations and cashflows.

 

We have determined that all other recently issuedaccounting pronouncements will not have a material impact on our consolidatedfinancial position, results of operations and cash flows, or do not apply toour operations.

 

**2. Restatement and Reclassification of Previously Issued CondensedConsolidated Financial Statements**

 

On February 29, 2008, we concluded we needed torestate our previously issued condensed consolidated financial statements forthe third quarter of 2007 and delay the filing of our Annual Report on Form 10-Kfor the year ended December 31, 2007. On August 26, 2008, we concluded we needed to restate ourpreviously issued unaudited condensed consolidated financial statements for thefirst and second quarters of 2007.  Wehave concluded that misstatements in those previously issued financialstatements were significant enough to warrant the restatement of the first,second, and third quarters of 2007.  Themisstatements primarily related to the recognition of revenue and liabilitiesin the proper periods and the determination of deferred incomes taxes. Inconnection with the restatement, certain presentation reclassifications havebeen made to conform to the current period presentation.

 

The following table summarizes the effects of therestatement and presentation reclassifications on our previously issuedunaudited condensed consolidated financial statements:

 

**Summary of increases (decreases)in Net income (unaudited)**

 
| ** **                                                            | ** ** | **September 30, 2007** | ** **               |
|-----------------------------------------------------------------------|------------|----------------------------------|--------------------------|
| **(in thousands, except per share amounts)** | ** ** | ** **                       | **Three  months  ended** | ** ** | **Nine  months  ended** | ** ** |
| Net income, as previously reported                                    |       | $                                | 11,362                   |   | $ | 23,517 |   |
| Net adjustments                                                       |       |                             |                     |   |   |
| Revenue recognition                                                   |       | 502                              |                     | 9,125 |   |
| Liability recognition                                                 |       | (11,588                          | )                        | (41,524 | ) |
| Inventory burden calculation                                          |       | (5,207                           | )                        | (1,589 | ) |
| Stock-based compensation                                              |       | (61                              | )                        | (1,069 | ) |
| Income tax expense                                                    |       | 7,407                            |                     | 14,553 |   |
| Other                                                                 |       | (3,214                           | )                        | (3,629 | ) |
| Effect of restatement adjustments                                     |       | (12,161                          | )                        | (24,133 | ) |
| Net loss, restated                                                    |       | $                                | (799                     | ) | $ | (616 | ) |
|                                                                  |       |                             |                     |   |   |
| **Basic earning (loss) per common share:**                            |       |                             |                     |   |   |
| Net income, as previously reported                                    |       | $                                | 0.17                     |   | $ | 0.35 |   |
| Net adjustments                                                       |       |                             |                     |   |   |
| Revenue recognition                                                   |       | 0.01                             |                     | 0.14 |   |
| Liability recognition                                                 |       | (0.17                            | )                        | (0.62 | ) |
| Inventory burden calculation                                          |       | (0.08                            | )                        | (0.03 | ) |
| Stock-based compensation                                              |       | Nil                              |                     | (0.01 | ) |
| Income tax expense                                                    |       | 0.11                             |                     | 0.22 |   |
| Other                                                                 |       | (0.05                            | )                        | (0.06 | ) |
| Effect of restatement adjustments                                     |       | (0.18                            | )                        | (0.36 | ) |
| Net loss, restated                                                    |       | $                                | (0.01                    | ) | $ | (0.01 | ) |
|                                                                  |       |                             |                     |   |   |
| **Diluted earning (loss) per common share:**                          |       |                             |                     |   |   |
| Net income, as previously reported                                    |       | $                                | 0.16                     |   | $ | 0.34 |   |
| Net adjustments                                                       |       |                             |                     |   |   |
| Revenue recognition                                                   |       | 0.01                             |                     | 0.14 |   |
| Liability recognition                                                 |       | (0.16                            | )                        | (0.61 | ) |
| Inventory burden calculation                                          |       | (0.08                            | )                        | (0.03 | ) |
| Stock based compensation                                              |       | Nil                              |                     | (0.01 | ) |
| Income tax expense                                                    |       | 0.11                             |                     | 0.22 |   |
| Other                                                                 |       | (0.05                            | )                        | (0.06 | ) |
| Effect of restatement adjustments                                     |       | (0.17                            | )                        | (0.35 | ) |
| Net loss, restated                                                    |       | $                                | (0.01                    | ) | $ | (0.01 | ) |
|                                                                       |            |                                  |                          |  |  |  |  |  |

 

14

----

Tableof Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

*Revenue recognition*

 

We did not recognize revenue in the appropriatequarters in 2007, including some instances when we recognized revenue whenbillable to the customer rather than at the earlier date when we earned therevenue.  We also did not account for ouradvance payments on contracts in the appropriate quarters in 2007.

 

*Inventory burden calculation*

 

We did not properly determine our inventory forfinancial reporting purposes.  Weinappropriately included costs that were not part of the production process andwe omitted other costs because they were not properly classified in cost ofsales.

 

*Liability recognition*

 

We did not recognize our accounts payable in theappropriate quarters in 2007.  Inaddition, we had overstated our warranty liability and understated ourroyalties payable.

 

*Stock-based compensation*

 

We did not properly apply the provisions of FASBStatement No. 123(R) related to determination of the volatility ofthe options granted in all quarters of 2007 and we did not properly determinethe related current and deferred income tax expense related to the exercisingof options in the first quarter of 2007 in our condensed consolidated financialstatements.  We also did notappropriately withhold the appropriate payroll taxes for one employee’s optionexercise.

 

*Income tax expense*

 

As a result of the adjustments, we had to revise ourpreviously calculated income tax expense for each quarter in 2007.  We used our annual effective rate of 18.4%(See Note 12, *Income Taxes*).

 

*Other*

 

We did not properly account for advances tosubcontractor, prepaid insurance or the acquisition and disposition of propertyand equipment in the appropriate quarter in 2007.  In addition, we did not account for certainof operating lease costs on a straight-line basis in each of the quarters in2007.

*** ***

***Balance Sheet Impact***

 

Thefollowing table sets forth the unaudited condensed consolidated balance sheetinformation for the Company, showing previously reported amounts, adjustments,reclassifications and restated and reclassified amounts as of September 30,2007 (in thousands):

*** ***
| ** **                 | ** ** | **As of September 30, 2007** | ** ** |
|----------------------------|------------|--------------------------------------------------|------------|
| ** **                 | ** ** | **As  Previously  Reported**                     | ** ** | **Adjustments** | ** ** | **As  Restated** | ** ** | **Reclassifi-  cations** | ** ** | **As restated  and  reclassified** | ** ** |
| **Assets**                 |       |                                             |       |   |   |   |   |   |   |   |   |
| **Current assets:**        |       |                                             |       |   |   |   |   |   |   |   |   |
| Cash and cash equivalents  |       | $                                                | 72,274     |   | $ | — |   | $ | 72,274 |   | $ | — |   | $ | 72,274 |   |
| Accounts receivable        |       | 37,758                                           |       | 28,336 |   | 66,094 |   | — |   | 66,094 |   |
| Inventories                |       | 182,473                                          |       | (15,320 | ) | 167,153 |   | — |   | 167,153 |   |
| Advances to subcontractor  |       | 16,277                                           |       | 4,463 |   | 20,740 |   | — |   | 20,740 |   |
| Deferred income tax assets |       | 7,473                                            |       | 5,286 |   | 12,759 |   | — |   | 12,759 |   |
| Income taxes receivable    |       | —                                           |       | 225 |   | 225 |   | — |   | 225 |   |
| Other current assets       |       | —                                           |       | 15,040 |   | 15,040 |   | — |   | 15,040 |   |
| Total current assets       |       | 316,255                                          |       | 38,030 |   | 354,285 |   | — |   | 354,285 |   |
|                            |            |                                                  |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

15

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 
| ** **                                          | ** ** | **As of September 30, 2007** | ** ** |
|-----------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                          | ** ** | **As  Previously  Reported**                     | ** ** | **Adjustments** | ** ** | **As  Restated** | ** ** | **Reclassifi-  cations** | ** ** | **As restated  and  reclassified** | ** ** |
| Property and equipment, net                         |       | 47,630                                           |       | 3,881 |   | 51,511 |   | — |   | 51,511 |   |
| Intangible assets, net                              |       | 1,582                                            |       | (51 | ) | 1,531 |   | — |   | 1,531 |   |
| Deferred income tax assets                          |       | 60                                               |       | 2,704 |   | 2,764 |   | — |   | 2,764 |   |
| **Total assets**                                    |       | $                                                | 365,527    |   | $ | 44,564 |   | $ | 410,091 |   | $ | — |   | $ | 410,091 |   |
| **Liabilities and Shareholders’ Equity**       |       |                                             |       |   |   |   |   |   |   |   |   |
| **Current liabilities:**                            |       |                                             |       |   |   |   |   |   |   |   |   |
| Accounts payable                                    |       | $                                                | 47,856     |   | $ | 55,288 |   | $ | 103,144 |   | $ | — |   | $ | 103,144 |   |
| Due to United States government (a)                 |       | —                                           |       | 15,751 |   | 15,751 |   | — |   | 15,751 |   |
| Warranty reserve (b)                                |       | 4,943                                            |       | (1,891 | ) | 3,052 |   | (3,052 | ) | — |   |
| Deferred income tax liabilities                     |       | 8,985                                            |       | (8,829 | ) | 156 |   | (156 | ) | — |   |
| Other current liabilities (b)                       |       | —                                           |       |   |   |   |   | 12,040 |   | 12,040 |   |
| Advance payments on contracts                       |       | 52,303                                           |       | 3,634 |   | 55,937 |   |   |   | 55,937 |   |
| Other accrued liabilities (b)                       |       | 6,884                                            |       | 1,716 |   | 8,600 |   | (8,600 | ) | — |   |
| Current portion of long-term liabilities            |       | 222                                              |       | 10 |   | 232 |   | (232 | ) | — |   |
| Total current liabilities                           |       | 121,193                                          |       | 65,679 |   | 186,872 |   | — |   | 186,872 |   |
|                                                |       |                                             |       |   |   |   |   |   |   |   |   |
| Other long-term liabilities                         |       | 77                                               |       | (11 | ) | 66 |   | 268 |   | 334 |   |
| Long-term debt                                      |       | 268                                              |       | — |   | 268 |   | (268 | ) | — |   |
|                                                |       | 121,538                                          |       | 65,668 |   | 187,206 |   | — |   | 187,206 |   |
|                                                |       |                                             |       |   |   |   |   |   |   |   |   |
| **Shareholders’ equity:**                      |       |                                             |       |   |   |   |   |   |   |   |   |
| Common stock                                        |       | 68                                               |       | — |   | 68 |   | — |   | 68 |   |
| Additional paid-in capital                          |       | 251,813                                          |       | 4,871 |   | 256,684 |   | — |   | 256,684 |   |
| Accumulated deficit                                 |       | (7,892                                           | )          | (25,975 | ) | (33,867 | ) | — |   | (33,867 | ) |
| Total shareholders’ equity                     |       | 243,989                                          |       | (21,104 | ) | 222,885 |   | — |   | 222,885 |   |
| **Total liabilities and shareholders’ equity** |       | $                                                | 365,527    |   | $ | 44,564 |   | $ | 410,091 |   | $ | — |   | $ | 410,091 |   |

 

----

(a) Adjustmentsrelated to the definitization process, which were previously reported as partof the allowance for doubtful accounts, have been reclassified to report themas a liability, *Due to United States government.*

(b) Otheraccrued liabilities, warranty reserve, and current portion of long-termliabilities have been reclassified to *Other current liabilities*

*** ***

***Statements of Operations Impact***

 

The following tables present unaudited condensedconsolidated statements of operations information for the Company showingpreviously reported amounts, adjustments and restated amounts for the three andnine months ended September 30, 2007 (in thousands, except share data):

 
| ** **                          | ** ** | **For the three months ended September 30, 2007** | ** ** |
|-------------------------------------|------------|--------------------------------------------------------------------------------------|------------|
| ** **                          | ** ** | **As previously  reported**                                                     | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
| Net sales                           |       | $                                                                                    | 206,291    |   | $ | 503 |   | $ | 206,794 |   |
| Cost of sales                       |       | 165,678                                                                              |       | 18,582 |   | 184,260 |   |
| Gross profit                        |       | 40,613                                                                               |       | (18,079 | ) | 22,534 |   |
| General and administrative expenses |       | 20,030                                                                               |       | 1,678 |   | 21,708 |   |
| Research and development expenses   |       | 2,526                                                                                |       | (182 | ) | 2,344 |   |
| Operating income (loss)             |       | 18,057                                                                               |       | (19,575 | ) | (1,518 | ) |
| Other income, net                   |       | 594                                                                                  |       | — |   | 594 |   |
|                                     |            |                                                                                      |            |  |  |  |  |  |  |  |

 

16

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 
| ** **                                         | ** ** | **For the three months ended September 30, 2007** | ** ** |
|----------------------------------------------------|------------|--------------------------------------------------------------------------------------|------------|
| ** **                                         | ** ** | **As previously  reported**                                                     | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
| Interest expense                                   |       | (62                                                                                  | )          | 7 |   | (55 | ) |
| Income (loss) before income tax (expense)  benefit |       | 18,589                                                                               |       | (19,568 | ) | (979 | ) |
| Income tax (expense) benefit                       |       | (7,227                                                                               | )          | 7,407 |   | 180 |   |
| Net income (loss)                                  |       | $                                                                                    | 11,362     |   | $ | (12,161 | ) | $ | (799 | ) |
| **Earnings (loss) per common share:**              |       |                                                                                 |       |   |   |   |   |
| Basic                                              |       | $                                                                                    | 0.17       |   | $ | (0.18 | ) | $ | (0.01 | ) |
| Diluted                                            |       | $                                                                                    | 0.16       |   | $ | (0.17 | ) | $ | (0.01 | ) |
| **Weighted average common shares outstanding:**    |       |                                                                                 |       |   |   |   |   |
| Basic                                              |       | 68,208                                                                               |       |   |   | 68,208 |   |
| Diluted                                            |       | 68,929                                                                               |       |   |   | 68,208 |   |

*** ***
| ** **                                         | ** ** | **For the nine months ended September 30, 2007** | ** ** |
|----------------------------------------------------|------------|-------------------------------------------------------------------------------------|------------|
| ** **                                         | ** ** | **As previously  reported**                                                    | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
| Net sales                                          |       | $                                                                                   | 441,152    |   | $ | 9,126 |   | $ | 450,278 |   |
| Cost of sales                                      |       | 345,252                                                                             |       | 42,223 |   | 387,475 |   |
| Gross profit                                       |       | 95,900                                                                              |       | (33,097 | ) | 62,803 |   |
|                                               |       |                                                                                |       |   |   |   |   |
| General and administrative expenses                |       | 50,642                                                                              |       | 5,471 |   | 56,113 |   |
| Research and development expenses                  |       | 10,674                                                                              |       | 174 |   | 10,848 |   |
| Operating income (loss)                            |       | 34,584                                                                              |       | (38,742 | ) | (4,158 | ) |
|                                               |       |                                                                                |       |   |   |   |   |
| Other income, net                                  |       | 3,489                                                                               |       | (1 | ) | 3,488 |   |
| Interest expense                                   |       | (142                                                                                | )          | 56 |   | (86 | ) |
| Income (loss) before income tax (expense)  benefit |       | 37,931                                                                              |       | (38,687 | ) | (756 | ) |
| Income tax (expense) benefit                       |       | (14,414                                                                             | )          | 14,554 |   | 140 |   |
| Net income (loss)                                  |       | $                                                                                   | 23,517     |   | $ | (24,133 | ) | $ | (616 | ) |
| **Earnings (loss) per common share:**              |       |                                                                                |       |   |   |   |   |
| Basic                                              |       | $                                                                                   | 0.35       |   | $ | (0.36 | ) | $ | (0.01 | ) |
| Diluted                                            |       | $                                                                                   | 0.34       |   | $ | (0.35 | ) | $ | (0.01 | ) |
| **Weighted average common shares outstanding:**    |       |                                                                                |       |   |   |   |   |
| Basic                                              |       | 67,985                                                                              |       |   |   | 67,990 |   |
| Diluted                                            |       | 68,914                                                                              |       |   |   | 67,990 |   |

*** ***

***Statement of Cash Flows Impact***

 

The following table presents selected unaudited condensedconsolidated statement of cash flows information for the Company showingpreviously reported cash flows, adjustments and restated cash flows for thenine months ended September 30, 2007 (in thousands):

** **
| ** **                                        | ** ** | **For the nine months ended September 30, 2007** | ** ** |
|---------------------------------------------------|------------|-------------------------------------------------------------------------------------|------------|
| ** **                                        | ** ** | **As  previously  reported**                                                        | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
|                                              |       |                                                                                |       |   |   |   |   |
| Net cash used in operating activities             |       | $                                                                                   | (40,903    | ) | $ | 1,016 |   | $ | (39,887 | ) |
| Net cash used in investing activities             |       | (44,354                                                                             | )          | (3,352 | ) | (47,706 | ) |
| Net cash provided by financing activities         |       | 1,212                                                                               |       | 2,336 |   | 3,548 |   |
| Increase (decrease) in cash and cash  equivalents |       | (84,045                                                                             | )          | — |   | (84,045 | ) |
|                                              |       |                                                                                |       |   |   |   |   |
| Cash and cash equivalents at beginning of  year   |       | 156,319                                                                             |       | — |   | 156,319 |   |
| Cash and cash equivalents at end of period        |       | $                                                                                   | 72,274     |   | $ | — |   | $ | 72,274 |   |

 

17

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

**3.****            ****Accounts Receivable**

 

Accounts receivable consists of the following (inthousands):

 
| ** **                            | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|---------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| U. S. government                      |       | $                                                    | 61,674     |                                    | $          | 39,770 |   |
| Other accounts receivable             |       | 4,438                                                |       | 2,310                                   |       |
|                                  |       | 66,112                                               |       | 42,080                                  |       |
| Less: Allowance for doubtful accounts |       | (18                                                  | )          | (45                                     | )          |
| Accounts receivable, net              |       | $                                                    | 66,094     |                                    | $          | 42,035 |   |

 

Other accounts receivable primarily relate to thesale of excess raw materials to suppliers and others.  Any gain or loss on these sales is includedin *Other income, net* in the accompanying unauditedcondensed consolidated statement of operations. As of September 30, 2007,our accounts receivable from the U.S. government includes $7.3 million ofearned and unbilled accounts receivable.

 

**4.****            ****Inventories**

 

Inventories consist of the following (in thousands):

 
| ** **                | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|---------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| Raw material and supplies |       | $                                                    | 122,681    |                                    | $          | 36,418 |   |
| Work in process           |       | 42,756                                               |       | 23,978                                  |       |
| Finished goods            |       | 1,716                                                |       | —                                  |       |
| Inventories               |       | $                                                    | 167,153    |                                    | $          | 60,396 |   |

** **

**5.****            ****Property and Equipment**

 

Property and equipment consist of the following (inthousands):

 
| ** **                                            | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|-------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| Land                                                  |       | $                                                    | 4,212      |                                    | $          | — |   |
| Buildings                                             |       | 5,221                                                |       | —                                  |       |
| Leasehold improvements                                |       | 10,922                                               |       | 1,534                                   |       |
| Machinery and equipment; including tooling  and molds |       | 6,141                                                |       | 3,795                                   |       |
| Computer equipment and software                       |       | 6,737                                                |       | 2,757                                   |       |
| Furniture and fixtures                                |       | 3,853                                                |       | 1,023                                   |       |
| Demonstration vehicles                                |       | 1,531                                                |       | 1,096                                   |       |
| Manuals                                               |       | 705                                                  |       | 105                                     |       |
|                                                       |            |                                                      |            |                                         |            |  |  |

 

18

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 
| ** **                     | ** ** | **September 30,  2007  (Restated)** | ** ** | **December 31,  2006** | ** ** |
|--------------------------------|------------|------------------------------------------|------------|-----------------------------|------------|
| Vehicles                       |       | 468                                      |       | 143                         |       |
|                           |       | 39,790                                   |       | 10,453                      |       |
| Less: Accumulated depreciation |       | (5,098                                   | )          | (1,489                      | )          |
|                           |       | 34,692                                   |       | 8,964                       |       |
| Construction in progress       |       | 16,819                                   |       | —                      |       |
| Property and equipment, net    |       | $                                        | 51,511     |                        | $          | 8,964 |   |
|                                |            |                                          |            |                             |            |  |  |

 

Depreciationexpense for the nine months ended September 30, 2007 and September 30,2006 was $3.6 million and $0.6 million, respectively.

 

***Significant Asset Acquisitions***

 

In March 2007, we purchased the research anddevelopmental testing facility of NEWTEC Services Group, Inc., locatednear Edgefield, South Carolina, for $5.5 million ($5,050,000 in cash and$450,000 note payable, which was discounted using an implied interest rate of7.25%). We intend to use the facility to expand our research and developmentactivities and support the verification and quality control validation of ourarmored vehicles used to protect military personnel against explosivethreats.  The purchase price wasallocated as follows (in thousands):

 
| ** **                                           | ** ** | **Amount** | ** ** |
|------------------------------------------------------|------------|------------|------------|
| Land                                                 |       | $          | 2,100      |   |
| Furniture and fixtures                               |       | 800        |       |
| Manuals                                              |       | 600        |       |
| Intangible assets**(See  Note 6,*Intangible Assets)* |       | 1,940      |       |
| Total                                                |       | $          | 5,440      |   |

 

In March 2007, we purchased real and personalproperty located in Summerville, South Carolina, for $4.1 million in cash. Weintend to use the facility as a product development and logistic servicestraining center.  The purchase price wasallocated as follows (in thousands):

 
| ** **             | ** ** | **Amount** | ** ** |
|------------------------|------------|------------|------------|
| Land                   |       | $          | 1,320      |   |
| Building               |       | 2,502      |       |
| Furniture and fixtures |       | 278        |       |
| Total                  |       | $          | 4,100      |   |

 

In July 2007, we purchased land and anapproximately 430,000 square foot building in Roxboro, North Carolina for $3.5million in cash, which we originally planned to use as a manufacturing plant(See Subsequent Event –Asset Impairment discussion below). We allocatedapproximately $0.8 million to land and $2.7 million to the building.  Also, in July, 2007, we completedconstruction on and placed into service a 90,000 square warehouse facility atour corporate headquarters in Ladson, South Carolina at a cost of approximately$4.4 million, included in leasehold improvements.

 

***Leases***

 

We lease certain buildings under non-cancelableoperating leases expiring on June 30, 2009; with four separate five-yearrenewal options which must be exercised six months prior to the expiration ofthe lease term. Our other operating leases generally have 3- to 5-year terms,with one or more renewal options, with terms to be negotiated at the time ofrenewal. Contingent rents are included in rent expense in the year incurred.The excess of cumulative rent expense (recognized on the straight-line basis)over cumulative rent payments made on leases with fixed escalation terms isrecognized as straight-line rental accrual and is included in*Other current liabilities* in theaccompanying condensed consolidated balance sheets, as follows (in thousands):

 

19

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 
| ** **                   | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| Straight-line rental accrual |       | $                                                    | 238        |                                    | $          | — |   |
|                              |            |                                                      |            |                                         |            |  |  |

*** ***

***Construction in Progress***

 

Amounts in construction in progress as of September 30,2007, relate primarily to the construction of assembly lines at our Ladson,South Carolina and Roxboro, North Carolina manufacturing plants.

*** ***

***Subsequent Event-Asset Impairment***

*** ***

In March 2008, we decided to suspend theconstruction of the assembly line at our Roxboro facility and began to developa plan for an alternative use for the facility. As a result, we charged tooperations in the first quarter of 2008 $2.1 million in deposits on services tobe provided and $2.8 million in design costs.

*** ***

**6.****            ****Intangible Assets**

 

Intangible assets consist of the following as of September 30,2007 (in thousands):

 
| ** **            | ** ** | **Gross  Carrying  Amount  (Restated)** | ** ** | **Accumulated  Amortization  (Restated)** | ** ** | **Net  (Restated)** | ** ** |
|-----------------------|------------|-----------------------------------------|------------|-------------------------------------------|------------|---------------------|------------|
| Licenses              |       | $                                       | 800        |                                      | $          | 155                 |       | $ | 645 |   |
| Non-compete agreement |       | 540                                     |       | 79                                        |       | 461                 |       |
| Customer base         |       | 200                                     |       | 58                                        |       | 142                 |       |
| Special expertise     |       | 400                                     |       | 117                                       |       | 283                 |       |
| Total                 |       | $                                       | 1,940      |                                      | $          | 409                 |       | $ | 1,531 |   |

 

As discussed in Note 5, *Property andEquipment,* we acquired the above intangible assets in March 2007in connection with the purchase of a research and development testing facilitylocated in Edgefield, South Carolina.

 

Amortization expense for intangible assets for thenine months ended September 30, 2007 was $0.4 million.

 

**7.****            ****Other Current Liabilities**

 

Other current liabilities consist of the following(in thousands):

 
| ** **                                      | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|-------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| Current portion of other long-term  liabilities |       | $                                                    | 232        |                                    | $          | 72 |   |
| Compensation and benefits                       |       | 4,338                                                |       | 1,223                                   |       |
| Warranty reserves                               |       | 3,052                                                |       | 1,850                                   |       |
| Income tax payable                              |       | 157                                                  |       | —                                  |       |
| Vehicle fee payable                             |       | 2,531                                                |       | 1,139                                   |       |
| Interest payable                                |       | 32                                                   |       | —                                  |       |
| Liquidated damages settlement                   |       | 1,460                                                |       | 607                                     |       |
| Straight-line rent accrual                      |       | 238                                                  |       | —                                  |       |
| Other current liabilities                       |       | $                                                    | 12,040     |                                    | $          | 4,891 |   |

 

20

----

Table of Contents

 

**Force Protection, Inc. andSubsidiaries**

**Notes to Condensed ConsolidatedFinancial Statements (Continued)**

 

***Compensation and Benefits — GainShare Program***

 

The compensation and benefits accrued liabilitiesaccount balance includes wages and benefits that were earned at the end of theapplicable quarter, and not yet paid. Additionally, the compensation andbenefits account balance may include an accrued liability amount attributableto our Gain Sharing Program for quarters in which gain sharing was approved butnot paid. The Gain Sharing Program was authorized by the Board of Directors on March 1,2007 and provides for additional compensation that is paid quarterly toemployees during periods in which we earn net income. Under the gain shareprogram, we distribute ten percent of each quarter’s net income equally to allemployees.

 

***Warranty Reserves***

 

Warranty reserves consist of the following (inthousands):

 
| ** **                      | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|---------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| Balance at beginning of year    |       | $                                                    | 1,850      |                                    | $          | 1,686 |   |
| Charges to expense              |       | 1,368                                                |       | 164                                     |       |
| Costs paid or otherwise settled |       | (166                                                 | )          | —                                  |       |
| Balance at end of period        |       | $                                                    | 3,052      |                                    | $          | 1,850 |   |

 

***Vehicle Fee Payable***

 

We are party to two long-term intellectual propertyagreements pursuant to which we have the right to use certain intellectualproperty technology relating to blast -and ballistic-protected vehicles. Oneagreement is with the CSIR Defencetek (“CSIR”), a division of the Council forScientific and Industrial Research, a statutory council established inaccordance with the Laws of the Republic of South Africa. The other is withMechem, a division of Denel Pty Ltd, a company established under the Laws ofthe Republic of South Africa. Under these agreements, we pay a per vehicleroyalty fee in exchange for the exclusive transfer to us of certain technology.

 

The agreement with CSIR provides for the license, onan exclusive basis, by CSIR to us of certain technical, scientific andcommercial intellectual property rights pertaining to the development of ourCougar and Buffalo vehicles.  Under our agreement with CSIR, we pay CSIR afee for each vehicle sold and/or manufactured by us using the licensedintellectual property during the term of the agreement, including vehiclesmanufactured by our subcontractors.  Weare not obligated to pay a fee in respect of our Cheetah vehicle, and themanufacture of the Cheetah vehicles is not dependent upon the technologygranted to us under the agreement.  The initial term of the agreement was March 8,2002 through March 7, 2007, and the term of the renewed agreement is March 8,2007 through March 7, 2012. We have no right to extend the agreement afterMarch 2012 and, if the agreement expires without renewal, after such dateCSIR may grant a license to the licensed intellectual property to otherparties.  However, even upon expirationof the agreement we will have the ability to manufacture and deliver the Cougarand Buffalo vehicles.

 

The agreement with Mechem provides for the provisionon an exclusive basis by Mechem to us of certain technical, scientific andcommercial intellectual property rights pertaining to the development of ourCougar and Buffalo vehicles. Under our agreement with Mechem, we payMechem a fee for each vehicle sold and/or manufactured by us using the licensedintellectual property during the term of the agreement, including vehiclesmanufactured by our subcontractors.  Weare not obligated to pay a fee with respect to our Cheetah vehicle, and themanufacture of the Cheetah vehicle is not dependent upon the technology grantedto us under the agreement with Mechem. Our original agreement with Mechem waseffective October 15, 2001 and expired October 15, 2006.  Our current agreement with Mechem, which weentered into on September 13, 2006, expires on September 12,2011.  We have no right to extend theagreement after September 2011 and, if the agreement expires withoutrenewal, after such date Mechem may license the licensed intellectual propertyto other parties.  However, even uponexpiration of the agreement, we will have the ability to manufacture anddeliver the Cougar and Buffalo vehicles.

 

21

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notesto Condensed Consolidated Financial Statements (Continued)**

 

***Liquidated Damages Settlement***

 

OnDecember 20, 2006, we completed a private placement of 13 million sharesof its common stock to institutional investors at $11.75 per share, resultingin gross proceeds of $152.8 million. The proceeds, net of commissions, were$146.6 million. Per the Securities Purchase Agreement, we agreed to file aregistration statement to register all 13 million shares of common stock forresale and distribution under the Securities Act of 1933, as amended, within 30calendar days thereafter (January 19, 2007) and cause the registrationstatement to be declared effective by the SEC no later than 120 calendar daysthereafter (April 19, 2007). If the registration statement registeringthese shares was not declared effective on or before the applicable date, thenwe were required to deliver to each purchaser, as liquidated damages, an amountequal to one and one third percent (1 1/3%) for each 30 days (or such lesserpro-rata amount for any period of less than 30 days) of the total purchaseprice of the securities purchased and still held by such purchaser pursuant tothe Securities Purchase Agreement on the first day of each 30 day or shorterperiod for which liquidated damages were calculable. The registration statementfor the shares issued became effective July 26, 2007. On October 15,2007, we filed a prospectus supplement with respect to the registrationstatement.  Liquidated damage expense forthe nine months ended September 30, 2007 was $7.5 million and is includedin *General and administrative expenses* inthe accompanying unaudited condensed consolidated statements of operations.

 

**8.****             ****Advance payments on contracts**

 

Advancepayments on contracts of the following (in thousands):

 
| ** **                                                 | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| Mine Resistant Ambush Protected (“MRAP”) program |       | $                                                    | 52,200     |                                    | $          | — |   |
| Iraqi Light Armored Vehicles (“ILAV”)            |       | 3,737                                                |       | 4,260                                   |       |
| Mastiff Protected Patrol Vehicles  (“Mastiff”)   |       | —                                               |       | 7,488                                   |       |
| Other                                                      |       | —                                               |       | 1,076                                   |       |
| Advance payments on contracts                              |       | $                                                    | 55,937     |                                    | $          | 12,824 |   |

 

**9.****             ****Other Long-term Liabilities**

 

Otherlong-term liabilities consist of the follow items.

 
| ** **                                                     | ** ** | **As of  September 30,  2007  (Restated)** | ** ** | **As of  December 31,  2006** | ** ** |
|----------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------|------------|
| Non-compete agreement                                          |       | $                                                    | 417        |                                    | $          | — |   |
| Equipment note payable                                         |       | 149                                                  |       | 240                                     |       |
|                                                           |       | 566                                                  |       | 240                                     |       |
| Less: Current portion (included in*Other current liabilities)* |       | (232                                                 | )          | (72                                     | )          |
| Other long-term liabilities                                    |       | $                                                    | 334        |                                    | $          | 168 |   |

 

Asdiscussed above in Note 5, *Property and Equipment,*we purchased the research and developmental testing facility of NEWTEC ServicesGroup, Inc., located near Edgefield, South Carolina, for $5,500,000(5,050,000 in cash and $450,000 note payable). We discounted the note using an implied interest rate of 7.25%.  The note is payable in annual of installmentsof $150,000 on January 1, 2008, 2009, and 2010.

 

InOctober 2006, we acquired capital equipment valued at $234,875 using anote with implied interest of 11.25% from the supplier with a repayment basedon usage of materials used with the equipment. It is expected that based onusage estimates the note payments in 2008 and 2009 will be $92,608 and $13,838respectively.

 

22

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

InApril 2007, we acquired capital equipment valued at $52,893 at an interestrate of 8.15% from the supplier with repayments based on a 36 month term.

 

**10.****      ****Shareholders’ Equity**

 

***Authorization of Shares***

 

Wehave the authority to issue 310 million shares, in aggregate, consisting of 300million shares of common stock and 10 million shares of preferred stock, ofwhich 1,600 have been designated “Series A,” 25 of which have beendesignated as “Series B,” 150 of which have been designated as “Series C”and 20,000 of which have been designated as “Series D.” By shareholder’sresolution effective January 1, 2005, all classes of stock were declaredto have a par value of $0.001 per share.

 

***Common Stock Transactions***

 

Duringthe nine months ended September 30, 2007, employees exercised stockoptions to purchase 1,411,133 shares of our common stock valued at $1.4million. We also issued 4,348 shares of our common stock related to 2006employee stock option exercises that were identified as shares to be issued inshareholders’ equity as of December 31, 2006.

 

Wecancelled 27,700 shares relating to the December 2006 Private Investmentin Public Equity (“PIPE”) offering.

 

Weissued 26,789 shares of common stock to members of the board of directors as2006 compensation, which were identified as shares to be issued in shareholders’equity as of December 31, 2006.

 

Weissued 50,000 shares of common stock granted in June 2006 to an employeewhich vested and were issued on January 1, 2007.

 

**11.****      ****Stock Based Compensation**

 

*Stock Options*

 

OnJuly 1, 2005, we adopted FASB Statement No. 123(R) using themodified prospective method. The modified prospective method requires companiesto record compensation cost beginning with the effective date based on the requirementsof FASB Statement No. 123(R) for all share-based payments grantedafter the effective date. All awards granted to employees prior to theeffective date of FASB Statement No. 123(R) that remain unvested atthe adoption date will continue to be expensed over the remaining serviceperiod.

 

Wedid not grant stock options during the nine months ended September 30,2007.  We used the Black-Scholesvaluation model to determine the fair value options granted during the yearended December 31, 2006. The Black-Scholes option-pricing model wasdeveloped for use in estimating the fair value of traded options which have novesting restrictions and are fully transferable. In addition, option-pricingmodels require the input of highly subjective assumptions, including theexpected stock price volatility. Because our trading history is shorter thanthe expected life of the options, we used historical stock price volatilitydata from comparable companies to supplement our own historical volatility todetermine expected volatility assumptions. We do not pay a dividend, and we donot include a dividend payment as part of our pricing model. Risk-free interestrates are based on U.S. Treasury Strip yields, compounded daily,consistent with the expected lives of the options. Because we do not have asufficient history of option exercise or cancellation, we estimated theexpected life of the options to be two years, which for a majority of theoptions was the midway point.  Under theBlack-Scholes option-pricing model, the weighted- average fair value per shareof employee stock options granted during the year ended December 31, 2006was $0.03, the last year options were granted.

 

23

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

Thefair value of our options was estimated using the following assumptions:

 
| ** **                                             | ** ** | **For the nine months ended September  30,** | ** ** |
|--------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                             | ** ** | **2007**                                                              | ** ** | **2006** | ** ** |
| Expected volatility                                    |       | —                                                                |       | 45.82% - 70.31% |   |
| Risk-free interest rate                                |       | —                                                                |       | 4.40% - 4.97% |   |
| Expected forfeiture rate                               |       | —                                                                |       | 5.00% |   |
| Dividend yield                                         |       | —                                                                |       | —% |   |
| Stock price on date of grants                          |       | —                                                                |       | $0.77-$7.48 |   |
| Expected option terms (in years)                       |       | —                                                                |       | 2 |   |
| Expected duration from grant to expiration  (in years) |       | —                                                                |       | 4 and 5 |   |
| Option vesting term (in years)                         |       | —                                                                |       | 1-day – 14 months |   |

 

The followingsummarizes stock option activity for the nine months ended September 30,2007:

 
| ** **                                                  | ** ** | **Shares** | ** ** | **Weighted Average  Exercise Price** | ** ** |
|-------------------------------------------------------------|------------|------------|------------|------------------------------------------------|------------|
| Options outstanding at December 31,  2006              |       | 1,959,665  |       | $                                              | 2.63       |   |
| Granted                                                     |       | —     |       | —                                         |       |
| Exercised                                                   |       | (1,411,133 | )          | $                                              | 0.95       |   |
| Forfeited/expired                                           |       | —     |       | —                                         |       |
| Options outstanding at September 30,  2007             |       | 548,532    |       | $                                              | 6.96       |   |
| Options exercisable at September 30,  2007             |       | 423,529    |       | $                                              | 6.82       |   |
| Options  available for grant at September 30, 2007 (a) |       | —     |       | —                                         |       |

 

----

(a) Force Protection did not have aformal stock option plan as of September 30, 2007.

 

The following table summarizes informationabout stock options outstanding and exercisable at September 30, 2007.

 
| **Options Outstanding**                  | ** ** | **Options Exercisable** | ** ** |
|-----------------------------------------------|------------|------------------------------|------------|
| ** **                                    | ** ** | ** **                   | ** ** | **Weighted** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | ** **                   | ** ** | **Average** | ** ** | **Weighted** | ** ** | ** ** | ** ** | **Weighted** | ** ** |
| **Range of   Exercise Prices** | ** ** | **Number  Outstanding**      | ** ** | **Remaining  Contractual Life** | ** ** | **Average  Exercise Price** | ** ** | **Number  Exercisable** | ** ** | **Average  Exercise Price** | ** ** |
| $1.50-$7.48                                   |       | 548,532                      |       | 2.85 |   | $ | 6.96 |   | 548,532 |   | $ | 6.96 |   |
|                                               |            |                              |            |  |  |  |  |  |  |  |  |  |  |

 

*Stock Grants*

 

Thefollowing table summarizes supplemental information about non-vested stockgrants activity for the three months ended September 30, 2007.

 
| ** **                                | ** ** | **Number of   Shares** | ** ** | **Weighted   average per   share grant   price** | ** ** |
|-------------------------------------------|------------|----------------------------------|------------|---------------------------------------------------------------------------|------------|
| Outstanding as of December 31, 2006  |       | 191,026                          |       | $                                                                         | 5.48       |   |
| Shares granted                            |       | —                           |       | —                                                                    |       |
| Shares vested                             |       | (70,513                          | )          | $                                                                         | 5.14       |   |
| Outstanding as of September 30, 2007 |       | 120,513                          |       | $                                                                         | 5.68       |   |

 

*Stock-based compensation*

 

Stock-basedcompensation includes the expense associated with both stock options granted toemployees and stock grants issued to employees and is recognized in *General and administrative expense*s in the condensed consolidatedstatement of operations as follows (in thousands):

 

24

----

Table of Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 
| ** **                     | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine months ended  September 30,** | ** ** |
|--------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                     | ** ** | **2007  (Restated)**                                 | ** ** | **2006**                                            | ** ** | **2007  (Restated)** | ** ** | **2006** | ** ** |
| Stock options                  |       | $                                                    | 390        |                                                | $          | 67 |   | $ | 1,752 |   | $ | 415 |   |
| Stock grants                   |       | 91                                                   |       | 262                                                 |       | 283 |   | 277 |   |
| Total stock based compensation |       | $                                                    | 481        |                                                | $          | 329 |   | $ | 2,035 |   | $ | 692 |   |

 

25

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

**12.****      ****Income Taxes**

 

Weprovide for income taxes using the liability method in accordance with FASBStatement No. 109,*Accounting forIncome Taxes*. In accordance with APB Opinion No. 28,*Interim Financial Reporting*, and FASBInterpretation No. 18,*Accounting forIncome Taxes in Interim Periods*, the provision for taxes on incomerecognizes our estimate of the effective tax rate expected to be applicable forthe full fiscal year, adjusted for the impact of any discrete events, which arereported in the period in which they occur. Each quarter, we re-evaluate ourestimated tax expense for the year and make adjustments for changes in theestimated tax rate. Additionally, we evaluate the realizability of our deferredtax assets on a quarterly basis. Our evaluation considers all positive andnegative evidence and factors, such as the scheduled reversal of temporarydifferences, historical and projected future taxable income or losses, andprudent and feasible tax planning strategies.

 

The*Income tax benefit* for the three and ninemonths ended September 30, 2007 was based on the estimated effective taxrates applicable for the fiscal year ending December 31, 2007, afterconsidering items specifically related to the interim period. The *Income tax benefit*for the three- and nine-monthperiods ended September 30, 2006 was based on the estimated effective taxrates applicable for the fiscal year ended December 31, 2006, afterconsidering items specifically related to the interim period.

 

ForceProtection is subject to U.S. federal, state, and local income taxes. Income (*loss) before income tax (expense) benefit*is as follows (in thousands):

 
| ** **                              | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended   September 30,** | ** ** |
|-----------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                              | ** ** | **2007  (Restated)**                                 | ** ** | **2006**                                                  | ** ** | **2007  (Restated)** | ** ** | **2006** | ** ** |
| Income (loss) before income tax benefit |       | $                                                    | (979       | )                                                         | $          | 668 |   | $ | (756 | ) | $ | 873 |   |
|                                         |            |                                                      |            |                                                           |            |  |  |  |  |  |  |  |  |

 

Areconciliation of statutory federal income tax (expense) benefit rate to theactual income tax (expense) benefit rate is as follows:

 
| ** **                                         | ** ** | **Three Months Ended   September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------|------------|------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                         | ** ** | **2007  (Restated)**                                       | ** ** | **2006**                                            | ** ** | **2007  (Restated)** | ** ** | **2006** | ** ** |
| Income tax (expense) benefit at statutory  rate    |       | 35.00                                                      | %          | (35.00                                              | )%         | 35.00 | % | (35.00 | )% |
| (Increase) decrease in tax rate resulting  from:   |       |                                                       |       |                                                |       |   |   |   |   |
| State income taxes, net of federal tax  benefit    |       | 4.70                                                       | %          | (3.25                                               | )%         | 4.70 | % | (3.25 | )% |
| (Increase) decrease in valuation allowance         |       | —                                                     | %          | 38.25                                               | %          | — | % | 38.25 | % |
| Reversal of other tax accruals no longer  required |       | (8.21                                                      | )%         | —                                              | %          | (8.21 | )% | — | % |
| Research and development credit                    |       | (11.63                                                     | )%         | —                                              | %          | (11.63 | )% | — | % |
| Other                                              |       | (2.55                                                      | )%         | —                                              | %          | (2.55 | )% | — | % |
| Nondeductible items                                |       | 1.05                                                       | %          | —                                              | %          | 1.05 | % | — | % |
| Effective Income tax (expense)  benefit rate       |       | 18.36                                                      | %          | —                                              | %          | 18.36 | % | — | % |

 

Theeffective tax rate is the provision for income taxes as a percent of incomebefore income taxes.  The 2007 effectiverate is lower than the expected federal statutory rate of 35 % primarily due tothe state income taxes, 

 

26

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

reversalof other tax accruals no longer required, research and development credits, andcertain nondeductible items at the statutory rate.

 

Asa result of the adoption of FASB Statement No. 123(R), our deferred taxassets at September 30, 2007 and December 31, 2007 do not includeexcess tax benefits from stock option exercises. Shareholders’ equity will beincreased if these excess tax benefits are ultimately realized.

 

Weadopted FASB Interpretation No. 48, on January 1, 2007.  FASB Interpretation No. 48 clarifies theaccounting for uncertainty in income taxes recognized in a company’s financialstatements in accordance with FASB Statement No. 109, *Accountingfor Income Taxes*. FASB Statement No. 109 does not prescribe arecognition threshold or measurement attribute for the financial statementrecognition and measurement of a tax position taken in a tax return. FASBInterpretation No. 48 clarifies the application of FASB Statement No. 109by defining a criterion that an individual tax position must meet for any partof the benefit of that position to be recognized in a company’s financialstatements. Additionally, FASB Interpretation No. 48 provides guidance onmeasurement, derecognition, classification, interest and penalties, accountingin interim periods, disclosure, and transition.

 

Webelieve that we have appropriate support for the income tax positions taken andto be taken on our income tax returns and that our income tax receivable andaccruals for tax liabilities are adequate for all open years and based on anassessment of many factors including past experience and interpretations of taxlaws applied to the facts of each matter. Accordingly, we have not recognized a liability as a result of applyingthe guidance in FASB Interpretation No. 48.

 

**13.****      ****Earnings (Loss) Per Common Share**

 

Thefollowing table shows the information used in the calculation of basic anddiluted earnings (loss) per common share (in thousands, except number of sharesand per share amounts):

 
| ** **                                                                   | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine months ended  September 30,** | ** ** |
|------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                   | ** ** | **2007  (Restated)**                                 | ** ** | **2006**                                            | ** ** | **2007  (Restated)** | ** ** | **2006** | ** ** |
| **Numerator – Basic:**                                                  |       |                                                 |       |                                                |       |   |   |   |   |
| Net income (loss)                                                            |       | $                                                    | (799       | )                                                   | $          | 668 |   | $ | (616 | ) | $ | 873 |   |
| Less:    Accretion of Series D 6% convertible preferred stock |       | —                                               |       | (64                                                 | )          | — |   | (326 | ) |
| Less:    Preferred dividends                                       |       | —                                               |       | (364                                                | )          | — |   | (1,297 | ) |
| Income (loss) available for common  shareholders – basic:               |       | $                                                    | (799       | )                                                   | $          | 240 |   | $ | (616 | ) | $ | (750 | ) |
| **Numerator – Diluted:**                                                |       |                                                 |       |                                                |       |   |   |   |   |
| Income (loss) available for common  shareholders – basic                |       | $                                                    | (799       | )                                                   | $          | 668 |   | $ | (616 | ) | $ | 873 |   |
| Add:    Accretion of Series D 6% convertible preferred stock  |       | —                                               |       | (64                                                 | )          | — |   | (326 | ) |
| Add:    Preferred dividends                                        |       | —                                               |       | (364                                                | )          | — |   | (1,297 | ) |
| Income (loss) available for common  shareholders – diluted              |       | $                                                    | (799       | )                                                   | $          | 240 |   | $ | (616 | ) | $ | (750 | ) |
| **Denominator:**                                                             |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted average common shares outstanding –  basic:                    |       | 68,207,649                                           |       | 49,014,150                                          |       | 67,989,525 |   | 42,050,762 |   |
| Add:    Stock options                                              |       | Anti-dilutive                                        |       | —                                              |       | Anti-dilutive |   | Anti-dilutive |   |
| Add:    Stock grants                                               |       | Anti-dilutive                                        |       | —                                              |       | Anti-dilutive |   | Anti-dilutive |   |
| Weighted average common shares outstanding –  diluted                   |       | 68,207,649                                           |       | 49,014,150                                          |       | 67,989,525 |   | 42,050,762 |   |
| **Basic earnings (loss) per common share:**                                  |       |                                                 |       |                                                |       |   |   |   |   |
| Income (loss) available for common  shareholders – basic:               |       | $                                                    | (0.01      | )                                                   | $          | 0.00 |   | $ | (0.01 | ) | $ | (0.02 | ) |
| **Diluted earnings (loss) per common share:**                                |       |                                                 |       |                                                |       |   |   |   |   |
| Income (loss) available for common  shareholders – diluted              |       | $                                                    | (0.01      | )                                                   | $          | 0.00 |   | $ | (0.01 | ) | $ | (0.02 | ) |

 

27

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

Thecalculation of earnings (loss) per common share is based on theweighted-average number of our common shares outstanding during the applicableperiod. The calculation for diluted loss per common share recognizes the effectof all dilutive potential common shares that were outstanding during therespective periods, unless their impact would be antidilutive.  We use the treasury stock method to calculatethe dilutive effect of stock options and other common stock equivalents(potentially dilutive shares). Diluted earnings per common share recognize thedilution that would occur if securities or other contracts to issue commonstock were exercised or converted into common stock. These potentially dilutiveshares include: (1) Series D 6% Convertible Preferred Stock, (2) warrants,(3) stock options, and (4) stock grants. We excluded 369,006 and343,296 common stock equivalents for the three and nine months ended September 30,2007, respectively, and 3,697,617 and 6,429,063 common stock equivalents forthe three and nine months ended September 30, 2006, respectively, from thecalculation of diluted loss per share because they were anti-dilutive.

 

**14.****      ****Related Party Transactions**

 

Ourformer Chief Executive Officer, Mr. Gordon McGilton, was a principal ofAPT Leadership, a consulting firm we hired to provide various businessconsulting services, training seminars and certain business software. APTLeadership billed Force Protection $0.4 million and $0.5 million for the ninemonths ended September 30, 2007 and 2006, respectively.  Mr. McGilton disclosed to the board ofdirectors each year that he did not receive any dividends, distributions orother compensation from APT Leadership at any time while an employee of theCompany.  Further, Mr. McGilton disclosed that as of December 31,2007 he transferred his interest in APT Leadership to the other owner for $1 inconsideration.  In addition, as part ofthe process to determine our income tax expense for the year ended December 31,2007, we discovered in August 2008, that we did not withhold the properamount of federal income taxes for Mr. McGilton in connection with hisexercise of stock options in January 2007 and, as a result, Mr. McGiltoneffectively owed us $315,085 as of September 30, 2007, which is includedin *Other current assets* in the accompanyingunaudited condensed consolidated balance sheets. Mr. McGilton repaid thisamount on September 11, 2008.

 

OnFebruary 18, 2006, we entered into a Modification and Assignment Agreementwith Longview Fund, LP and Longview Equity Fund, LP (collectively, “Longview”)pursuant to which we paid $1.3 million against the principal balance of thesecured promissory notes ( “Notes”) and extended the maturity date of the Notesfor an additional 60 days. In addition, we consented to the assignment of $2.5million of the Notes to Fort Ashford Funds LLC (“Fort Ashford”). Mr. FrankKavanaugh, a former director of Force Protection, is the principal owner ofFort Ashford and at such time was a substantial shareholder of our commonstock. Mr. Kavanaugh’s relationship to Fort Ashford Funds LLC was fullydisclosed to us and Mr. Kavanaugh did not participate in the negotiationsor decision process with respect to the Modification and Assignment Agreement.We paid $87,510 to Longview and $50,000 to Fort Ashford in cash as compensationfor the extension of the maturity dates of the Notes.

 

OnApril 20, 2006, we paid $1.0 million against the principal balance of theNotes and extended the maturity date on the Notes and the Note with FortAshford for an additional 60 days, through June 20, 2006. We paid $55,000to Longview and $50,000 to Fort Ashford in cash as compensation for thisextension.

 

OnJune 20, 2006, we paid off the principal balance and all applicableaccrued interest under the Notes. Additionally, we extended the maturity dateof the Ashford Note for an additional 30 days, through July 20, 2006.We paid $50,000 to Fort Ashford in cash as compensation for the extension of theAshford Note.

 

OnAugust 9, 2006, we paid off the principal balance of the Ashford Note, andall applicable accrued interest under the Ashford Note.

 

28

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

**15.****Commitments and Contingencies**

 

***Financing Commitments-Credit Facility***

 

On July 20, 2007, we entered into a revolving credit agreementwith Wachovia Bank. Borrowings under the credit agreement bear interest at afloating rate per annum equal to the one-month London Interbank Offered Rate (“LIBOR”)market index plus 2.0%. The original amount of the agreement was$50 million and all amounts payable under this credit agreement wereoriginally due and payable on September 30, 2007. We have entered intoseveral modification agreements with the lender to reduce the principal amountto $30 million and to extend the maturity of the credit agreement to October 31,2008. Until October 31, 2008, we may borrow, repay, and re-borrow amountsunder the terms of the note as long as the total principal balance outstandingdoes not to exceed $30 million. Amounts payable under the credit agreementare secured by a pledge of all of our personal property and fixtures. There areno assurances that Wachovia will extend the terms of this financing agreementbeyond October 31, 2008.

 

***Legal Proceedings***

 

We are subject to various claims arising in the ordinary course ofbusiness, and are parties to various legal proceedings that constituteordinary, routine litigation incidental to our business. The majority of theseclaims and proceedings relate to commercial, shareholder and employee matters.In our opinion, apart from the actions set forth below, the disposition ofthese proceedings and claims, after taking into account accruals recorded inour consolidated balance sheets and the availability and limits of ourinsurance coverage, will not have a material adverse effect on the business orour financial position, results of operations, or cash flows.

 

Shareholder Class Actionand Derivative Complaints

 

On March 10, 2008, the first of ten related class action lawsuitswas filed against us and certain of our former and current board members orofficers in the United States District Court for the District of South CarolinaCharleston Division on behalf of a proposed class of investors who purchased orotherwise acquired our securities during the period between August 14,2006 and February 29, 2008. The complaints seek class certification, andthe allegations include but are not limited to allegations that the defendantsviolated the Securities Exchange Act of 1934 and made false or misleading publicstatements and/or omissions concerning our business, internal controls, andfinancial results. The plaintiffs assert that as a result of the defendants’allegedly wrongful acts and omissions, members of the proposed class havesuffered significant losses and damages. The individual class action lawsuitswere consolidated on June 10, 2008 under caption ‘In Re Force Protection, Inc.Securities Litigation, Action No. 2: 08-cv-845-CWH.’ On June 20,2008, a group of investors consisting of the Laborers’ Annuity and BenefitSystem of Chicago, Gary Trautman, David J. Jagar, Bhadra Shah, PanteliPoulikakos, George Poulikakos, and Niki Poulikakos was appointed leadplaintiff.

 

Between March 27, 2008 and May 28, 2008, various allegedshareholders filed derivative lawsuits against former and current officers orboard members wherein the plaintiff shareholders are seeking damages for theCompany. The Company has been named a nominal defendant in each derivativelawsuit. Four (4) derivative lawsuits are pending in the United StatesDistrict Court for the District of South Carolina Charleston Division; two (2) derivativelawsuits are pending in Charleston, South Carolina Circuit Court; and one (1) derivativelawsuit is pending in Clark County, Nevada District Court. The plaintiffshareholders’ allegations include and are not limited to allegations of breachof fiduciary duties, abuse of control, gross mismanagement, and waste ofcorporate assets, unjust enrichment in connection with the Company’s publicstatements regarding its operations and financial results, internal controls,compensation of certain defendants, and alleged insider stock sales by certaindefendants.

 

Other disputes

 

On August 21, 2007, we filed suit against Protected Vehicles, Inc.(“PVI”) and Garth Barrett, Thomas Thebes, and Paul Palmer, three of PVI’semployees (all of whom were former employees of Force Protection) in the UnitedStates District Court for the District of South Carolina. In the complaint, weallege that the named defendants used our confidential information and tradesecrets to create a competing business. We seek injunctive relief, unspecifieddamages, attorneys’ fees and costs. The defendants have answered our complaintand filed counterclaims against us. In their answers and counterclaims, thedefendants allege, among other things, that we and 

 

29

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

severalof our current and former officers and directors engaged in: certaintransactions (including transactions with Force Protection) in which suchofficers and directors maintained a financial interest; backdating and certainother improper acts in connection with certain stock issuances; allegedlywrongful acts with respect to a procurement contract with a foreign government;and other transactions involving alleged self-dealing and engaged in certainallegedly retaliatory acts in connection with defendants’ prior attempts tobring such activities to the attention of the Company’s personnel orgovernmental agencies. Defendants seek unspecified monetary damages, attorneys’fees and costs. Defendants filed an amended counterclaim withdrawing three (3) oftheir causes of action, and have recently indicated they intend to file asecond amended counterclaim. On January 18, 2008, the district courtentered an order staying the litigation in light of an involuntary bankruptcypetition filed on January 15, 2008, in the United States Bankruptcy Courtfor the District of South Carolina with respect to PVI. On February 5,2008, PVI filed a voluntary Chapter 7 petition. On March 28, 2008,the Chapter 7 proceeding was converted to a Chapter 11 proceeding. OnJune 20, 2008, the Bankruptcy Court remanded the litigation back to theDistrict Court, and on September 3, 2008, the bulk of PVI’s assets,including certain rights and liabilities with respect to our suit against it,were sold to a third party. On July 31, 2008, we settled our claim againstPaul Palmer. Our claims against PVI and the third party (who has now been addedas a defendant in the suit) are currently set to be tried in early 2009; thecounterclaims against us have not been set for trial.

 

From February 2007 through April 2008, we received a total of68 complaints from current and former employees filed with the United StatesEqual Employment Opportunity Commission alleging, among other things, raceand/or gender discrimination. We have responded to the complaints as suchresponses have become due, and are investigating the allegations.

 

We are subject to a number of claims relating to our common shares. Inone, certain investors have issued to Force Protection a demand for 481,492shares of our common stock in connection with the investors’ conversion oftheir shares of our preferred stock and other damages relating to warrants theinvestors allege were granted but never distributed to them. In addition, on November 13,2007, we were served with a lawsuit filed by former senior employee MurrayHammick against Force Protection Industries, Inc. and former ForceProtection officers Gordon McGilton, Scott Ervin, and Frank Kavanaugh. Thecomplaint, filed in the Charleston (South Carolina) County Court of CommonPleas, alleges, among other things, that Mr. Hammick is owed options toacquire approximately 83,000 shares of our common stock and certain back wagesand sets forth claims for*, inter alia*,breach of contract, violation of the South Carolina Payment of Wages Act,retaliatory wrongful discharge, and defamation. We answered the complaint on January 25,2008.

 

During the period from August 1, 2007 to November 23, 2007,Force Protection Industries, Inc. entered into three IT hosting andconsulting agreements. A series of disputes arose from these contracts. ForceProtection, Inc. has entered into settlement agreements for these claimstotaling $2,275,362.

 

In early November 2007, the Department of State, Directorate ofDefense Trade Controls (“DDTC”) advised us of a site visit planned for December 2007.In advance of that site visit, the DDTC requested, and we provided, certaindocuments and materials relating to our policies and procedures concerning companyactivity regulated by the International Traffic in Arms Regulations (“ITAR”).The site visit took place in mid-December 2007 and included a meeting withcertain of our officers and interviews of certain of our employees involvedwith security, training, business development, human resources, informationtechnology, empowered officials, engineering, contracts, manufacturing, programmanagement, shipping, supply chain integrated logistics support and quality.Following the site visit, we received a letter from the DDTC regarding certainweaknesses it identified in our compliance program with respect to training,treatment of foreign visitors, overseas travel by personnel, export manuals,identifying data regarding ITAR hardware and services, and license tracking andrequesting certain specific measures be undertaken. We are in the process ofaddressing those specific measures.

 

In early December 2007, we submitted a voluntary disclosure toDDTC regarding the shipment of technical manuals, Cheetah spare parts, armoredvest plates, parts not listed on our license and transfers of technical data toand by our vendors without proper authorization or identification of theappropriate exemption. On January 22, 2008, the DDTC requested additionalinformation and documentation for each specific shipment of these items withinsixty days. In addition, the DDTC directed us to undertake certain specificmeasures, including, but not limited to, that we hire a full time senior exportcontrol compliance officer, implement certain procedures, conduct comprehensiveITAR training, immediately conduct a comprehensive export compliance audit, andinstitute a plan 

 

30

----

Tableof Contents

 

**ForceProtection, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements (Continued)**

 

toconduct periodic audits of the export compliance program. On February 11,2008, we provided DDTC with the job description for the Director of ExportControls, draft Export Controls Manual, ITAR presentation provided in neworientation training and the attendance logs for annual ITAR training providedto executives and other employees having ITAR responsibilities. On March 11,2008, we provided DDTC with our draft audit plan and on June 2, 2008, weprovide the final audit report. On July 14, 2008, we provided DDTC withsupplemental information to our previous voluntary disclosure and otherinformation identified in the audit. We have developed and implemented anExport Control Policies and Procedures Manual and ITAR Product ClassificationGuide, established an Export Control Council, and revised our TechnologyControl Plan and Code of Conduct and Ethics. As a result of the exportcompliance audit, we have identified additional unauthorized transfersinternally at our facility and in support of U.S. operations in Iraq andAfghanistan as well as issues associated with the execution of our licenses andagreements. We have reported these matters to DDTC.

 

On February 8, 2008, a temporary independent contractor whoseservices we had terminated filed a complaint with the Occupational Safety andHealth Administration (“OSHA”) which alleges a violation under the employeeprotection provisions of Section 806 of the Corporate and Criminal FraudAccountability Act of 2002, Title VIII of the Sarbanes-Oxley Act of 2002, 18U.S.C. §1514A. The former independent contractor alleges that we terminated hisengagement in retaliation for his allegation of certain corporate governance,government contracting, accounting and other irregularities. On April 18,2008, we responded to the allegations, and are awaiting a recommendation andreport from the OSHA investigator. In August 2008 the claimant submitted aproposed amended complaint which seeks to add additional claims and the currentand former chief executive officers as defendants.

 

On August 15, 2008, we received a $1.1 million notice ofclaim of lien for the balance of tooling supplied by a vendor to our primecontractor on the Roxboro Facility. We have demanded that the prime contractorresolve this matter with its vendor and indemnify us for this claim of lien.

 

Although we intend to defend ourselves in connection with the foregoinglegal proceedings and claims, there can be no assurance that we will ultimatelyprevail in any of these matters. Moreover, the defense of these claims andproceedings may result in substantial legal expenses and diversion of ourmanagement, and any settlement or adverse judgment may require us to makesubstantial payments, any of which could have a material adverse effect on ourbusiness or financial position, results of operations, or cash flows.

 

In addition, compliance with the directives of the DDTC discussed abovemay result in substantial expenses and diversion of management. Any failure toadequately address the directives of DDTC could result in civil fines and/orsuspension or loss of our export privileges, any of which could have a materialadverse effect on our business or financial position, results of operations, orcash flows.

 

We are also a party to other litigation which we consider routine andincidental to our business. We may be involved from time to time in otherlitigation that could have a material effect on our operations or finances.Other than the litigation described above, we are not aware of any pending orthreatened litigation against us that could have a material adverse effect onour business or financial position, results of operations, or cash flows.

 

31

----

Tableof Contents

 

**ITEM 2. Management’s Discussion and Analysis of Financial Condition and Resultsof Operations**

 

Management’s Discussion and Analysis of Financial Condition and Resultsof Operations (“MD&A”) has been restated to reflect certain adjustments toour unaudited condensed consolidated financial information previously reportedin our quarterly report on Form 10-Q for the period ended September 30,2007 filed with the SEC on November 13, 2007.  See “Restatement” below for additionalinformation.  MD&A is designed toprovide information that is supplemental to, and should be read together with,our unaudited condensed consolidated financial statements and theaccompanying notes contained in this Quarterly Report on Form 10-Q/A andbecause of the timing of the filing of this Quarterly Report on Form 10-Q/A,the Annual Report on Form 10-K for the year ended December 31, 2007filed on September 15, 2008, which included restated 2007 quarterlyinformation.

 

Information in this MD&A is intended to assist the reader inobtaining an understanding of our unaudited condensed consolidated financialstatements, the changes in certain key items in those financial statements fromperiod to period, the primary factors that accounted for those changes, and anyknown trends or uncertainties that we are aware of that may have a materialeffect on our future performance, as well as how certain accounting principlesaffect our unaudited condensed consolidated financial statements. MD&Aincludes the following sections:

 

·                  Highlights and Executive Summary

 

·                  Overview

 

·                  Restatement

 

·                  Results of Operations—an analysis of ourconsolidated results of operations, for the three and nine months ended September 30,2007 and 2006

 

·                  Liquidity and Capital Resources—an analysisof the effect of our operating, financing and investing activities on ourliquidity and capital resources

 

·                  Off-Balance Sheet Arrangements—a discussionof such commitments and arrangements

 

·                  Dividends—our dividend history

 

·                  Critical Accounting Policies and Estimates—adiscussion of accounting policies that require significant judgments andestimates

 

·                  New Accounting Pronouncements—a summary anddiscussion of our plans for the adoption of new accounting standards relevantto us

 

**SPECIAL NOTE REGARDINGFORWARD–LOOKING STATEMENTS**

 

This Quarterly Report on Form 10-Q/A contains both historical andforward-looking statements within the meaning of Section 27A of theSecurities Act of 1933, as amended (“Securities Act”), and Section 21E ofthe Securities Exchange Act of 1934, as amended (“Exchange Act”). Allstatements other than statements of historical fact included in this QuarterlyReport on Form 10-Q/A that address activities, events or developments thatwe expect, believe or anticipate will or may occur in the future areforward-looking statements including, in particular, the statements about ourplans, objectives, strategies and prospects regarding, among other things, ourfinancial position, results of operations, cash flows and business. We haveidentified some of these forward-looking statements with words like “believe,” “may,”“will,” “should,” “expect,” “intend,” “plan,” “predict,” “anticipate,” “estimate”or “continue” and other words and terms of similar meaning. Theseforward-looking statements include, among other things:

 

·                  statements regarding the growth of the U.S.and world market for blast- and ballistic-protected vehicles and survivabilitysolutions;

 

32

----

Tableof Contents

 

·                  statements with respect to our expectationsregarding our ability to obtain materials, components and supplies necessary tomanufacture our vehicles, our ability to improve cost efficiencies, including,without limitation, as a result of volume purchasing, improvements in ourmanufacturing process and possible future changes in the efficiencies in ouroperations;

 

·                  statements regarding any changes in our costof sales, our general and administrative expenses or our research anddevelopment expenses as a percentage of net sales;

 

·                  statements regarding our ability to utilizenet operating loss carry-forwards for income tax purposes; and

 

·                  statements regarding the rate at which we andGDLS will produce MRAP vehicles and the date as of which we will achieve anyparticular monthly production rate of these vehicles.

 

These forward-looking statements were based on expectations about futureevents at the time they were made and are subject to numerous uncertainties andfactors, all of which are difficult to predict and many of which are beyond ourcontrol. Many factors mentioned in our discussion in this Quarterly Report on Form 10-Q/Awill be important in determining future results. We do not know whether theexpectations reflected in these forward-looking statements will prove correct.They can be affected by inaccurate assumptions we might make or by known orunknown risks and uncertainties, including those described under “Risk Factors”in periodic reports we file with the SEC.

 

In addition, this Quarterly Report on Form 10-Q/A containshistorical information, forecasts and estimates regarding defense expendituresby the U.S. federal government, actual and anticipated procurement of armoredvehicles and similar matters. This historical data and these forecasts andestimates have been obtained from publicly available information, industrypublications, trade associations and data compiled by independent marketresearch firms. However, we have not independently verified this informationand we cannot assure you that it is accurate or that these forecasts andestimates will prove correct.

 

When used in this Quarterly Report on Form 10-Q/A, except asspecifically noted otherwise, the term “Force Protection, Inc.” refers toForce Protection, Inc. only, and the terms “Company,” “we,” “our,” “ours”and “us” refer to Force Protection, Inc. and its consolidatedsubsidiaries.

 

**Highlights and Executive Summary**

 

We are an important provider of blast- and ballistic-protected productsused to support armed forces and security personnel in harm’s way. We design,manufacture, test, deliver and support our blast- and ballistic-protectedproducts with the purpose to increase survivability of the users of theproducts. Our specialty vehicles, which we believe are at the forefront ofblast- and ballistic-protected technology, are designed to protect theiroccupants from landmines, hostile fire, and improvised explosive devices (“IEDs”).We are an important provider of vehicles for the U.S. military’s Mine ResistantAmbush Protected (“MRAP”) vehicle program, which is currently one of thehighest priority acquisition programs for the U.S. Department of Defense (“DoD”),according to a memorandum from Secretary of Defense Robert Gates dated May 2,2007.

 

33

----

Tableof Contents

 

Through an acquisition in 2002, we began shifting our principal focusfrom our then existing recreational watercraft production business to theproduction of mine clearing and armored vehicles. Our business began to growexponentially when we were awarded contracts by the U.S. military in 2005 andeach year after that. By 2007, substantially all of our net sales were derivedfrom work performed directly or indirectly under U.S. government contracts. Forthe three months ended September 30, 2007 and 2006, our net sales totaled$206.8 million and $42.2 million, respectively, and our net income (loss)available to common shareholders totaled $(799,000) and $240,000,respectively.  For the nine months ended September 30,2007 and 2006, our net sales totaled $450.3 million and $133.0 million,respectively, and our net loss available to common shareholders totaled$(616,000) and $(750,000), respectively.

 

**Overview**

 

We design, manufacture, test, deliver and support our blast- andballistic-protected products to increase survivability of the users of theproducts. These vehicles require ongoing life cycle support in the areas ofspare parts, maintenance, and training. As a consequence, we believe that wehave a substantial business opportunity to provide life cycle support to ourexisting and future fleet of vehicles. In addition, as the fleet ages, we havethe opportunity to offer upgrades and product improvements for our fleetdesigned to further enhance the operability and capability of the vehicles.

 

Our specialty vehicles, which we believe are at the forefront of blast-and ballistic-protected technology, are designed to protect their occupantsfrom landmines, hostile fire and IEDs. We currently have three vehicle typesaimed at fulfilling different operational or mission requirements: the Buffalo,the Cougar and the Cheetah. The Buffalo has six wheels, is our largest vehicleand is designed primarily for use in conducting mine clearance operations. TheCougar is a medium-sized vehicle and is available in 4-wheeled and 6-wheeled variantsand in a variety of configurations for troop transport, command and control,route reconnaissance, convoy escort and ambulance duty. The Cheetah has fourwheels and is designed specifically for reconnaissance, forward command andcontrol and urban operations. At present, we have not sold any Cheetahvehicles.

 

We are headquartered, and have manufacturing facilities, in Ladson,South Carolina. In March 2007, we purchased a blast range in Edgefield,South Carolina, and leased a related office building. We use these facilitiesfor our own research and development activities and may also contract withselected governmental and commercial customers to use our facilities. We alsopurchased, in March 2007, a facility in Summerville, South Carolina, forthe intended purpose of expanding research and development operations and tofacilitate our increased customer training requirements of products andapplications. In July 2007, we purchased an additional facility inRoxboro, North Carolina. We intend to use this facility for training andsustainment purposes.

 

**Restatement**

 

Management’sDiscussion and Analysis of Financial Condition and Results of Operations setforth in this Item 2 has been restated to reflect certain adjustments to ourunaudited condensed consolidated financial information previously reported inour quarterly report on Form 10-Q for the period ended September 30,2007, filed with the SEC on November 13, 2007.  On February 29, 2008, we concluded weneeded to restate our previously issued unaudited condensed consolidatedfinancial statements for the third quarter of 2007 and delay the filing of ourAnnual Report on Form 10-K for the year ended December 31, 2007. On August 26,2008, we concluded we needed to restate our previously issued unaudited condensedconsolidated financial statements for the first and second quarters of 2007. Wehave concluded that misstatements in those previously issued financialstatements were significant enough to warrant the restatement of the first,second, and third quarters of 2007. The misstatements primarily related to therecognition of revenue and liabilities in the proper periods and thedetermination of deferred incomes taxes. In connection with the restatement,certain presentation reclassifications have been made to conform to the currentperiod presentation.  See Note 2, *Restatement and**Reclassification ofPreviously Issued Condensed Consolidated Financial Statements*, inthe accompanying unaudited condensed consolidated financial statements foradditional information.

 

34

----

Tableof Contents

 

**Resultsof Operations**

 

The following discussion and analysis is based on our unauditedcondensed consolidated statements of operations, which reflect our results ofoperations for the three and nine months ended September 30, 2007 and2006, as prepared in accordance with GAAP.

 

The following tables present our vehicle sales and our results ofoperations for the three and nine months ended September 30, 2007 and2006, as well as the percentage changes from period to period:

 
| ** **            | ** ** | **For the three months  ended September 30,** | ** **           | ** ** | ** ** |
|-----------------------|------------|------------------------------------------------------------------------|----------------------|------------|------------|
| **Units Sold**   | ** ** | ** **                                                             | **2007  (Restated)** | ** ** | **2006**   | ** ** | **Percentage  Change** | ** ** |
| Buffalo               |       | 21                                                                     |                 | 3          |       | 600 | % |
| Cougar (all variants) |       | 353                                                                    |                 | 55         |       | 542 | % |
| Cheetah               |       | —                                                                 |                 | —     |       | — |   |
| Total units sold      |       | 374                                                                    |                 | 58         |       | 545 | % |
|                       |            |                                                                        |                      |            |            |  |  |  |

 
| ** **            | ** ** | **For the nine months  ended September 30,** | ** **           | ** ** | ** ** |
|-----------------------|------------|-----------------------------------------------------------------------|----------------------|------------|------------|
| **Units Sold**   | ** ** | ** **                                                            | **2007  (Restated)** | ** ** | **2006**   | ** ** | **Percentage  Change** | ** ** |
| Buffalo               |       | 56                                                                    |                 | 11         |       | 409 | % |
| Cougar (all variants) |       | 746                                                                   |                 | 159        |       | 369 | % |
| Cheetah               |       | —                                                                |                 | —     |       | — |   |
| Total units sold      |       | 802                                                                   |                 | 170        |       | 372 | % |
|                       |            |                                                                       |                      |            |            |  |  |  |

 
| ** **                                                 | ** ** | **For the three months ended  September 30,** | ** **                   | ** ** | ** ** |
|------------------------------------------------------------|------------|------------------------------------------------------------------------|------------------------------|------------|------------|
| **(in thousands)**                                    | ** ** | ** **                                                             | **2007  (As restated)** | ** ** | **2006**   | ** ** | **Percentage  Change** | ** ** |
| Net sales                                                  |       | $                                                                      | 206,794                      |       | $          | 42,161 |   | 390 | % |
| Cost of sales                                              |       | 184,260                                                                |                         | 34,243     |       | 438 | % |
| Gross profit                                               |       | 22,534                                                                 |                         | 7,918      |       | 185 | % |
|                                                       |       |                                                                   |                         |       |       |   |   |
| General and administrative expenses                        |       | 21,708                                                                 |                         | 6,715      |       | 223 | % |
| Research and development expenses                          |       | 2,344                                                                  |                         | 546        |       | 329 | % |
| Operating income (loss)                                    |       | (1,518                                                                 | )                            | 657        |       | (331 | )% |
| Other income, net                                          |       | 594                                                                    |                         | 121        |       | 391 | % |
| Interest expense                                           |       | (55                                                                    | )                            | (110       | )          | (50 | )% |
| Income (loss) before income tax benefit                    |       | (979                                                                   | )                            | 668        |       | (247 | )% |
| Income tax benefit                                         |       | 180                                                                    |                         | —     |       | n/m |   |
| Net income (loss)                                          |       | (799                                                                   | )                            | 668        |       | (220 | )% |
| Accretion of Series D 6% convertible  preferred stock |       | —                                                                 |                         | (64        | )          | n/m |   |
| Preferred stock dividend                                   |       | —                                                                 |                         | (364       | )          | n/m |   |
| Net income (loss) available to common  shareholders        |       | $                                                                      | (799                         | )          | $          | 240 |   | (433 | )% |
|                                                            |            |                                                                        |                              |            |            |  |  |  |  |  |

 

35

----

Tableof Contents

 
| ** **                                                 | ** ** | **For the nine months ended  September 30,** | ** **                   | ** ** | ** ** |
|------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------------------------|------------|------------|
| **(in thousands)**                                    | ** ** | ** **                                                            | **2007  (As restated)** | ** ** | **2006**   | ** ** | **Percentage  Change** | ** ** |
|                                                       |       |                                                                  |                         |       |       |   |   |
| Net sales                                                  |       | $                                                                     | 450,278                      |       | $          | 133,038 |   | 238 |  % |
| Cost of sales                                              |       | 387,475                                                               |                         | 108,325    |       | 258 |  % |
| Gross profit                                               |       | 62,803                                                                |                         | 24,713     |       | 154 |  % |
|                                                       |       |                                                                  |                         |       |       |   |   |
| General and administrative expenses                        |       | 56,113                                                                |                         | 20,421     |       | 175 |  % |
| Research and development expenses                          |       | 10,848                                                                |                         | 1,851      |       | 486 |  % |
| Operating income (loss)                                    |       | (4,158                                                                | )                            | 2,441      |       | (270 | )% |
| Other income, net                                          |       | 3,488                                                                 |                         | 169        |       | n/m |   |
| Interest expense                                           |       | (86                                                                   | )                            | (1,737     | )          | (95 | )% |
| Income (loss) before income tax benefit                    |       | (756                                                                  | )                            | 873        |       | (187 | )% |
| Income tax benefit                                         |       | 140                                                                   |                         | —     |       | n/m |   |
| Net income (loss)                                          |       | (616                                                                  | )                            | 873        |       | (171 | )% |
| Accretion of Series D 6% convertible  preferred stock |       | —                                                                |                         | (326       | )          | n/m |   |
| Preferred stock dividend                                   |       | —                                                                |                         | (1,297     | )          | n/m |   |
| Net loss available to common shareholders                  |       | $                                                                     | (616                         | )          | $          | (750 | ) | (18 | )% |
|                                                            |            |                                                                       |                              |            |            |  |  |  |  |  |

 

----

n/m– not meaningful

 

***Three Months Ended September 30, 2007, asRestated***

 

*Comparison of Results of Operations for the Three Months Ended September 30,2007 and 2006*

 

*Units sold*

 

The increase in vehicles sold in the comparative periods is primarilydue to the vehicles sold pursuant to the MRAP program. The vehicles sold underthe program, which started shipping in the first quarter of 2007, representapproximately 98% of the vehicles sold in the three months ended September 30,2007.

 

*Net sales*

 

The increase in net sales for the comparative periods is attributableto an increase in volume of vehicle deliveries, spare parts, and logisticsservices (field service representatives and technical publications). The mix ofvehicles delivered and spares parts and logistics sales and the percentagechange in the comparative periods are set forth in the following tables:

 
| ** **                 | ** ** | **For the three months ended  September 30,** | ** **           | ** ** | ** ** |
|----------------------------|------------|------------------------------------------------------------------------|----------------------|------------|------------|
| **(in thousands)**    | ** ** | ** **                                                             | **2007  (Restated)** | ** ** | **2006**   | ** ** | **Percentage  Change** | ** ** |
| Buffalo                    |       | $                                                                      | 15,676               |       | $          | 4,355 |   | 260 | % |
| Cougar  (all variants)     |       | 176,865                                                                |                 | 34,357     |       | 415 | % |
| Spare  parts and logistics |       | 14,253                                                                 |                 | 3,449      |       | 313 | % |
|                       |       | $                                                                      | 206,794              |       | $          | 42,161 |   | 390 | % |
|                            |            |                                                                        |                      |            |            |  |  |  |  |  |

 

36

----

Tableof Contents

 

*Cost of sales and Gross profit*

 
| ** **              | ** ** | **For the three months ended  September 30,** | ** **           |
|-------------------------|------------|------------------------------------------------------------------------|----------------------|
| **(in thousands)** | ** ** | ** **                                                             | **2007  (Restated)** | ** ** | **2006** | ** ** |
| Cost of sales           |       | $                                                                      | 184,260              |   | $ | 34,243 |   |
| Gross margin percentage |       | 10.9                                                                   | %                    | 18.8 | % |
|                         |            |                                                                        |                      |  |  |  |  |  |

 

The gross margin decreased by 7.9 percentage points for the threemonths September 30, 2007 compared with the three months ended September 30,2006. The gross margin was impacted by 2.1 percentage points as a result ofGDLS Subcontract activity, whereby we recognized no gross profit on$33.3 million of vehicles sold that were produced by GDLS. The remainderof the decrease was primarily due to operational inefficiencies and the use ofcontract labor in the production process. We define the gross margin percentageas net sales less cost of sales divided by net sales.

 

*General and administrative expenses*

 
| ** **                   | ** ** | **For the three months ended  September 30,** | ** ** |
|------------------------------|------------|------------------------------------------------------------------------|------------|
| ** **                   | ** ** | **2007  (Restated)**                                                   | ** ** | **2006** | ** ** |
| As a percentage of net sales |       | 10.5                                                                   | %          | 15.9 | % |

 

General and administrative expenses as a percentage of net salesdecreased 5.4 percentage points for the three months ended September 30,2007 compared with the three months ended September 30, 2006. The decreasewas primarily due to leveraging selling and administrative support functionsover an increasing business base, partially offset by a liquidated damagecharge of $830 thousand. See Note 7, *Other currentliabilities*, in the accompanying unaudited condensed consolidatedfinancial statements.

 

*Research and development expenses*

 
| ** **                   | ** ** | **For the three months ended  September 30,** | ** ** |
|------------------------------|------------|------------------------------------------------------------------------|------------|
| ** **                   | ** ** | **2007  (Restated)**                                                   | ** ** | **2006** | ** ** |
| As a percentage of net sales |       | 1.1                                                                    | %          | 1.3 | % |

 

Research and development expenses increased by approximately$1.8 million primarily due to increased expenditures related to thedevelopment of the Cheetah vehicle. We also increased research and developmentspending on upgrades and variants of the Buffalo and Cougar vehicles.

 

*Other income*

 

Other income increased for the 2007 period as compared with the similarperiod in 2006 due to the interest income earned on investment of the fundsreceived from our December 2006 private placement of common stock.

 

*Interest expense*

 

Interest expense decreased for the 2007 period due to the repayment ofa short-term loan in August 2006 and the termination of an accountsreceivable factoring agreement in June 2006. Termination of theseshort-term financing arrangements was facilitated by the sale of common stockthrough private placements.

 

*Income tax benefit*

 

We recorded an income tax benefit for the 2007 period as a result ofthe increase in manufacturing costs, related decreased gross margins andoperating loss compared to the 2006 period. The effective income tax rate forthe 2007 period was approximately 18%. No income tax expense was recorded as aresult of pre-tax income for the comparable 2006 period. See Note 12, *Income taxes*, in the accompanying unaudited condensedconsolidated financial statements.

 

37

----

Tableof Contents

 

*Series D convertible preferred stock dividends and accretion*

 

There were no preferred stock dividends or accretion of preferred stockin the 2007 period since all preferred stock was converted to common stock in2006.

 

*Net income (loss) available to common shareholders*

 
| ** **                                               | ** ** | **For the three months ended  September 30,** | ** **           |
|----------------------------------------------------------|------------|------------------------------------------------------------------------|----------------------|
| **(in thousands, except per share)** | ** ** | ** **                                                             | **2007  (Restated)** | ** ** | **2006** | ** ** |
| Net income (loss) available to common  shareholders      |       | $                                                                      | (799                 | ) | $ | 240 |   |
| Diluted earnings (loss) per common share                 |       | $                                                                      | (0.01                | ) | $ | 0.00 |   |
|                                                          |            |                                                                        |                      |  |  |  |  |  |

 

We incurred a net loss available to common shareholders for the 2007period compared to net income available to common shareholders for thecomparable period in 2006 due to decreased gross margins partially offset bydecreased interest expense and decreased preferred stock dividends andaccretion.

 

***Nine Months Ended September 30, 2007, asRestated***

 

*Comparison of Results of Operations for the Nine Months Ended September 30,2007 and 2006*

 

*Units sold*

 

The increase in vehicles sold in the comparative periods is primarilydue to the vehicles sold pursuant to the MRAP program. The vehicles sold undersuch program, which started shipping in the first quarter of 2007, representapproximately 72% of the vehicles sold in the nine months ended September 30,2007.

 

*Net sales*

 

The increase in net sales for the comparative periods is attributableto an increase in volume of vehicle deliveries, spare parts, and logisticsservices (field service representatives and technical publications). The mix ofvehicles delivered and spares parts and logistics sales and the percentagechange in the comparative periods are set forth in the following tables:

 
| ** **                | ** ** | **For the nine months ended  September 30,** | ** **           | ** ** | ** ** |
|---------------------------|------------|-----------------------------------------------------------------------|----------------------|------------|------------|
| **(in thousands)**   | ** ** | ** **                                                            | **2007  (Restated)** | ** ** | **2006**   | ** ** | **Percentage  Change** | ** ** |
| Buffalo                   |       | $                                                                     | 38,491               |       | $          | 15,405 |   | 150 | % |
| Cougar (all variants)     |       | 361,801                                                               |                 | 104,527    |       | 246 | % |
| Spare parts and logistics |       | 49,986                                                                |                 | 13,106     |       | 281 | % |
|                      |       | $                                                                     | 450,278              |       | $          | 133,038 |   | 238 | % |
|                           |            |                                                                       |                      |            |            |  |  |  |  |  |

 

*Cost of sales and Gross profit*

 
| ** **              | ** ** | **For the nine months ended  September 30,** | ** **                   |
|-------------------------|------------|-----------------------------------------------------------------------|------------------------------|
| **(in thousands)** | ** ** | ** **                                                            | **2007  (As restated)** | ** ** | **2006** | ** ** |
| Cost of sales           |       | $                                                                     | 387,475                      |   | $ | 108,325 |   |
| Gross margin percentage |       | 13.9                                                                  | %                            | 18.6 | % |
|                         |            |                                                                       |                              |  |  |  |  |  |

 

Gross margins decreased by 4.7 percentage points for the nine monthsended September 30, 2007 compared with the nine months ended September 30,2006. The gross margin was impacted by 1.2 percentage points as a resultof GDLS Subcontract activity, whereby we recognized no gross profit on$33.3 million of vehicles sold that

 

38

----

Tableof Contents

 

wereproduced by GDLS. The remainder of the decrease was primarily due tooperational inefficiencies and the use of contract labor in the productionprocess. We define the gross margin percentage as net sales less cost of salesdivided by net sales.

 

*General and administrative expenses*

 
| ** **                   | ** ** | **For the nine months  ended September 30,** | ** ** |
|------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                   | ** ** | **2007  (Restated)**                                                  | ** ** | **2006** | ** ** |
| As a percentage of net sales |       | 12.5                                                                  | %          | 15.3 | % |

 

General and administrative expenses as a percentage of net salesdecreased 2.8 percentage points for the nine months ended September 30,2007 compared with the nine months ended September 30, 2006. The decreasewas primarily due to leveraging selling and administrative support functionsover an increasing business base, partially offset by a liquidated damagecharge of $7.5 million. See Note 7, *Othercurrent liabilities*, in the accompanying unaudited condensedconsolidated financial statements.

 

*Research and development expenses*

 
| ** **                   | ** ** | **For the nine months  ended September 30,** | ** ** |
|------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                   | ** ** | **2007  (Restated)**                                                  | ** ** | **2006** | ** ** |
| As a percentage of net sales |       | 2.4                                                                   | %          | 1.4 | % |

 

Research and development expenses increased by approximately$9.0 million primarily due to increased expenditures related to thedevelopment of the Cheetah vehicle.

 

*Other income*

 

Other income increased for the 2007 period as compared with the similarperiod in 2006 due to the interest income earned on investment of the fundsreceived from our December 2006 private placement of common stock.

 

*Interest expense*

 

Interest expense decreased for the 2007 period due to the repayment ofa short-term loan in August 2006 and the termination of an accountsreceivable factoring agreement in June 2006. Termination of these short-termfinancing arrangements was facilitated by the sale of common stock throughprivate placements.

 

*Income tax benefit*

 

We recorded an income tax benefit for the 2007 period as a result ofour pre-tax loss. The effective income tax rate for the 2007 period was approximately18%. No income tax expense was recorded as a result of pre-tax income for thecomparable 2006 period. See Note 12, *Income taxes*,in the accompanying unaudited condensed consolidated financial statements.

 

*Series D convertible preferred stock dividends and accretion*

 

There were no preferred stock dividends or accretion of preferred stockin the 2007 period since all preferred stock was converted to common stock in2006.

 

39

----

Tableof Contents

 

*Net income (loss) available to common shareholders*

 
| ** **                                                   | ** ** | **For the nine months ended  September 30,** | ** **           |
|--------------------------------------------------------------|------------|-----------------------------------------------------------------------|----------------------|
| **(in thousands, except per share****)** | ** ** | ** **                                                            | **2007  (Restated)** | ** ** | **2006** | ** ** |
| Net income (loss) available to common  shareholders          |       | $                                                                     | (616                 | ) | $ | (750 | ) |
| Diluted earnings per common share                            |       | $                                                                     | (0.01                | ) | $ | (0.02 | ) |
|                                                              |            |                                                                       |                      |  |  |  |  |  |

 

We realized a smaller net loss available to common shareholders for the2007 period compared to the comparable period in 2006 due to decreased interestexpense and decreased preferred stock dividends and accretion, partially offsetby lower gross margins.

 

**Liquidity and Capital Resources**

 

Our liquidity and available capital resources are impacted byoperating, financing and investing activities. Our principal sources ofliquidity are cash on hand and cash from operations, primarily from the U.S.government.

 

*Sources and Uses of Cash*

 

Our primary sources of funding are cash flows from operations and fromfinancing activities. Our funds were used primarily to fund working capitalrequirements and to make capital expenditures. The following chart shows thecash flows provided by or used in operating, investing, and financingactivities for the nine months ended September 30, 2007 and 2006 (inthousands):

 

| ** **                                        | ** ** | **For the nine months  ended September 30,** | ** ** |
|---------------------------------------------------|------------|------------------------------------------------------------------|------------|
| ** **                                        | ** ** | **2007**                                                         | ** ** | **2006** | ** ** |
| Net cash used in operating activities             |       | $                                                                | (39,887    | ) | $ | (8,338 | ) |
| Net cash used in investing activities             |       | (47,706                                                          | )          | (4,372 | ) |
| Net cash provided by financing activities         |       | 3,548                                                            |       | 38,241 |   |
| Increase (decrease) in cash and cash  equivalents |       | $                                                                | (84,045    | ) | $ | 25,531 |   |

 

At September 30, 2007 we had $72.3 million of cash and cashequivalents, a decrease from $156.3 million at the end of 2006.

 

*Cash Flow from Operating Activities*

 

Cash used in operating activities increased by $31.5 million during thenine months ended September 30, 2007 compared to the nine months ended September 30,2006. This change was primarily due to an increase in working capital usage inthe 2007 period, partially offset by an increase in advance payments oncontracts. Working capital usage increased $61.6 million (accounts receivable,inventories, and accounts payable) to support increased sale volumes.  Advance payments on contracts increased dueto the receipt of performance-based payments under the MRAP program.

 

*Cash Flow from Investing Activities*

 

As our business has grown, we have made several significantacquisitions and expanded our manufacturing capacity and infrastructure. In March 2007,we purchased the research and developmental testing facility of NEWTEC ServicesGroup, Inc., located near Edgefield, South Carolina, for$5.5 million, $5.1 million of which was in cash. In March 2007,we purchased real and personal property located in Summerville, South Carolina,for $4.1 million in cash to use as a product development and logisticservices training center.  In July 2007,we purchased land and an approximately 430,000 square foot building in Roxboro,North Carolina, for $3.5 million that we intend to use for training andsustainment purposes. Also, in July 2007, we completed construction on andplaced into service a 90,000 square foot warehouse facility at our corporateheadquarters in Ladson, South Carolina, at a cost of approximately$3.5 million in cash. During the first nine months of 2007, we beganconstruction of additional assembly lines. Construction in progress at September 30, 2007 totaled $16.8million.

 

40

----

Tableof Contents

 

*Cash Flow from Financing Activities*

 

During the nine months ended September 30, 2007, we did not issuecommon stock (except for exercised employee options) or debt to fund businessactivities. During the nine months ended September 30, 2006, we issuedcommon stock for a private placement in public equity and exercised commonstock warrants, totaling $46.0 million to fund the expansion of the businessand retired $7.5 million of short-term debt. See Note 9, *Shareholders’ equity,*in the accompanying unauditedcondensed consolidated financial statements.

 

*Current Liquidity and Capital Resources*

 

*                                               *Due to the timing of the issuance of thisamended Quarterly Report on Form 10-Q/A we have disclosed certaininformation that was included in our Annual Report on Form 10-K for theyear ended December 31, 2007, filed with the SEC on September 15,2008.

 

During the first six months of 2008, we expended approximately$9 million to complete the expansion of our manufacturing capability andcapacity and to upgrade our information technology infrastructure. We willcontinue to expend capital for research and development and businessdevelopment activities.

 

The amount of capital that we will require depends on several factors,including without limitation, the extent and timing of sales of our products,inventory costs, costs of raw material and components, labor costs, costs ofimproving our financial and accounting systems, the timing and costs associatedwith the expansion of our manufacturing, development, engineering and customersupport capabilities, the timing and cost of our product development andenhancement activities and our operating results. We currently estimate thatthe cash flow that we anticipate will be generated by our business plus the$30 million available under our line of credit and our expected renewal ofit will be sufficient to meet our presently budgeted capital expenditures andour other presently anticipated cash needs for the year ending December 31,2008. We expect that we may require additional sources of capital after thattime. We may therefore be required to obtain additional sources of capital,which may include borrowings or the issuance of debt or equity securities,including common stock, and there can be no assurance that such financing willbe available to us when we need it or, if available, that the terms of any suchfinancing will be satisfactory to us and not dilutive to our shareholders. Anyfailure to obtain necessary capital as and when required could have a materialadverse effect on our business, prospects, financial position, results ofoperations, and cash flows.

 

**Off-Balance Sheet Arrangements**

 

In accordance with the definition under SEC rules, the followingqualify as off-balance sheet arrangements:

 

·                  any obligation under certain guarantees orcontracts;

 

·                  a retained or contingent interest in assetstransferred to an unconsolidated entity or similar entity or similararrangement that serves as credit, liquidity, or market risk support to thatentity for such assets;

 

·                  any obligation under certain derivativeinstruments; and

 

·                  any obligation under a material variableinterest held by the registrant in an unconsolidated entity that providesfinancing, liquidity, market risk, or credit risk support to the registrant, orengages in leasing, hedging, or research and development services with theregistrant.

 

The following discussion addresses each of the above items for theCompany.

 

As of September 30, 2007, we do not have any obligation undercertain guarantees or contracts as defined above.

 

As of September 30, 2007, we do not have any retained orcontingent interest in assets as defined above.

 

As of September 30, 2007, we do not hold derivative financialinstruments, as defined by FASB Statement No. 133, *Accountingfor Derivative Instruments and Hedging Activities*, as amended.

 

41

----

Tableof Contents

 

As part of our ongoing business, we do not participate in transactionsthat generate relationships with unconsolidated entities or financialpartnerships, such as entities often referred to as structured finance orspecial purpose entities (“SPEs”), which would have been established for the purposeof facilitating off-balance sheet arrangements or other contractually narrow orlimited purposes. As of September 30, 2007, we were not involved in anyunconsolidated SPE transactions.

 

**Dividends**

 

We have never paid or declared any cash dividends on our common stock.We currently intend to retain earnings, if any, to finance the growth anddevelopment of our business, and we do not expect to pay any cash dividends onour common stock in the foreseeable future. Payment of future dividends, ifany, will be at the discretion of the board of directors and will depend on ourfinancial condition, results of operations, capital requirements, restrictionscontained in current or future financing instruments, and other factors theboard deems relevant.

 

**Critical Accounting Policies and Estimates**

 

Our discussion and analysis of our results of operations and liquidityand capital resources are based on our unaudited condensed consolidatedfinancial statements, which have been prepared in accordance with GAAP. Inconnection with the preparation of our unaudited condensed consolidatedfinancial statements, we are required to make assumptions and estimates aboutfuture events, and apply judgments that affect the reported amounts of assets,liabilities, revenue, expenses, and the related disclosures. We base ourassumptions, estimates and judgments on historical experience, current trendsand other factors we believe to be relevant at the time we prepared ourunaudited condensed consolidated financial statements. On a regular basis, wereview the accounting policies, assumptions, estimates and judgments to ensurethat our unaudited condensed consolidated financial statements are presentedfairly and in accordance with GAAP. However, because future events and theireffects cannot be determined with certainty, actual results could differ fromour assumptions and estimates, and such differences could be material.

 

The preparation of our unaudited condensed consolidated financialstatements in conformity with GAAP requires us to make estimates andassumptions. These estimates and assumptions affect the reported amounts ofassets and liabilities and the disclosures of contingent assets and liabilitiesas of the date of the financial statements, and the reported amounts ofrevenues and expenses during the reporting periods. Significant estimates andassumptions are used for, but are not limited to: (1) revenue recognition;(2) allowance for doubtful accounts; (3) definitization and advancepayments on contracts; (4) inventory costs and reserves; (5) assetimpairments (6) depreciable lives of assets; (7) economic lives andfair value of leased assets; (8) income tax reserves and valuationallowances; (9) fair value of stock options; (10) allocation ofdirect and indirect cost of sales; and (11) litigation reserves. Futureevents and their effects cannot be predicted with certainty, and accordingly,our accounting estimates require the exercise of judgment. The accountingestimates used in the preparation of our unaudited condensed consolidatedfinancial statements will change as new events occur, as more experience isacquired, as additional information is obtained and as our operatingenvironment changes. We evaluate and update our assumptions and estimates on anongoing basis and may employ outside experts to assist in our evaluations.Actual results could differ from the estimates we have used.

 

42

----

Table of Contents

 

Our significant accounting policies are discussed in Note 1, *Summary of Significant Accounting Policies*, to ouraccompanying unaudited condensed consolidated financial statements. We believethe following accounting policies are the most critical to aid in fullyunderstanding and evaluating our reported financial results, as they requiremanagement to make difficult, subjective or complex judgments, and to make estimatesabout the effect of matters that are inherently uncertain. We have reviewedthese critical accounting policies and related disclosures with the AuditCommittee of our board of directors.

 
| **Description**                                                                                                                                                                                                                                                                                                | ** ** | **Judgments and Uncertainties**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 | ** ** | **Effect if Actual Results  Differ from Assumptions**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **Inventories**                                                                                                                                                                                                                                                                                                | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
| We  state our inventories at the lower of cost or market value and net of the  cost of excess and obsolete items.                                                                                                                                                                                              |       | The  determination of inventory valuation reserves requires management to make  estimates and judgments on the future salability of inventories. Valuation  reserves for excess, obsolete, and slow-moving inventory are estimated by  comparing the inventory levels of individual parts to both future sales  forecasts or production requirements and historical usage rates in order to  identify inventory for which the resale value or replacement value is less  than the inventoriable cost. Other factors that management considers in  determining these reserves include whether individual inventory parts meet  current specifications and can be substituted for a part currently being sold  or used as a service part, overall market conditions, and other inventory  management initiatives. |       | Our  estimates of future product demand may prove to be inaccurate, in which case  we may have understated or overstated the provision required for excess and  obsolete inventories. In the future, if our inventories are determined to be  overvalued, we would be required to recognize such costs in our cost of sales  at the time of such determination. Likewise, if our inventories are  determined to be undervalued, we may have over-reported our costs of sales in  previous periods and would be required to recognize such additional operating  income at the time of sale. |
| **Income taxes**                                                                                                                                                                                                                                                                                               | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
| We  account for income taxes using the asset and liability method. Under this  method, deferred tax assets and liabilities are recognized for the estimated  future tax consequences attributable to differences between the financial  statement carrying values of existing assets and liabilities and their |       | A  high degree of judgment is required to determine if, and the extent to which,  valuation allowances should be recorded against deferred tax assets. Since  December 31, 2006, we have not had a valuation allowance recorded  against our deferred tax asset.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |       | Although  we believe that our approach to estimates and judgments as described herein  is reasonable, actual results could differ and we may be exposed to increases  or decreases in income taxes that could be material.                                                                                                                                                                                                                                                                                                                                                                  |

 

43

----

Table of Contents

 
| **Description**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     | ** ** | **Judgments and Uncertainties**                                                                                                                                                                                                                                                                                                                                                                                                                       | ** ** | **Effect if Actual Results  Differ from Assumptions**                                                                                                                                                                       |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| respective  tax bases. Deferred tax assets are also recorded with respect to net  operating losses and other tax attribute carryforwards. Deferred tax assets  and liabilities are measured using enacted tax rates in effect for the years  in which temporary differences are expected to be recovered or settled.  Valuation allowances are established when it is more likely than not that  deferred tax assets will not be realized. The effect on deferred tax assets  and liabilities of a change in tax rates is recognized in the income of the  period that includes the enactment date. |       | Contingent  tax liabilities are based on our assessment of the likelihood that we have  incurred a liability. Such liabilities are reviewed based on recent changes  in tax laws and regulations, including judicial rulings.                                                                                                                                                                                                                         |       |                                                                                                                                                                                                                        |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                  |       |                                                                                                                                                                                                                        |
| In  addition, we establish reserves for tax contingencies in accordance with FASB  Interpretation No. 48, *Accounting for  Uncertainty in Income Taxes*.                                                                                                                                                                                                                                                                                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                  |       |                                                                                                                                                                                                                        |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                  |       |                                                                                                                                                                                                                        |
| **Assessment of Loss Contingencies**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                            | ** ** | ** **                                                                                                                                                                                                                  |
| We  have legal and other contingencies, including product warranties, which could  result in significant losses upon the ultimate resolution of such  contingencies.                                                                                                                                                                                                                                                                                                                                                                                                                                |       | We  have provided for losses in situations where we have concluded that it is  probable that a loss has been or will be incurred and the amount of the loss  is reasonably estimable. A significant amount of judgment is involved in  determining whether a loss is probable and reasonably estimable due to the  uncertainty involved in determining the likelihood of future events and  estimating the financial statement impact of such events. |       | If  further developments or resolution of a contingent matter are not consistent  with our assumptions and judgments, we may need to recognize a significant  charge in a future period related to an existing contingency. |

 

**New Accounting Pronouncements**

 

InMay 2008, the FASB issued FASB Statement No. 162, *The Hierarchy of Generally**Accepted Accounting Principles*. FASBStatement No. 162 defines the order in which accounting principles thatare generally accepted should be followed. FASB Statement No. 162 iseffective for fiscal years beginning after November 15, 2008.  We have not yet commenced evaluating thepotential impact, if any, of the adoption of FASB Statement No. 162 on ourconsolidated financial position, results of operations, and cash flows.

 

In April 2008, the FASB issued Staff Position (“FSP”) No. FAS 142-3,*Determination of Useful Life of Intangible Assets*(FSP FAS 142-3). FSP FAS 142-3 amends the factors that should beconsidered in developing the renewal or extension assumptions used to determinethe useful life of a recognized intangible asset under FASB Statement No. 142,*Goodwill and Other Intangible Assets*.FSP FAS 142-3 also requires expanded disclosure related to thedetermination of intangible asset useful lives. FSP FAS 142-3 is effectivefor fiscal years beginning after 

 

44

----

Table of Contents

 

December 15,2008. Earlier adoption is prohibited. We have not yet commenced evaluating thepotential impact, if any, of the adoption of FSP FAS 142-3 on ourconsolidated financial position, results of operations, and cash flows.

 

In March 2008, the FASB issued FASB Statement No. 161, *Disclosures about Derivative Instruments and Hedging**Activities*, an amendment of FASB Statement No. 133, *Accounting for Derivative Instruments and Hedging Activities*.FASB Statement No. 161 changes the disclosure requirements for derivativeinstruments and hedging activities. Entities are required to provide enhanceddisclosures about (i) how and why an entity uses derivative instruments, (ii) howderivative instruments and related hedged items are accounted for under FASBStatement No. 133, *Accounting for DerivativeInstruments and Hedging Activities*, and its related interpretationsand (iii) how derivative instruments and related hedged items affect anentity’s financial position, results of operations, and cash flows. FASBStatement No. 161 is effective for financial statements issued for fiscalyears and interim periods beginning after November 15, 2008, with earlyapplication permitted. FASB Statement No. 161 permits, but does notrequire, comparative disclosures for earlier periods at initial adoption. Wehave not yet commenced evaluating the potential impact, if any, of the adoptionof FASB Statement No. 161 on our consolidated financial position, resultsof operations, cash flows or disclosures related to derivative instruments andhedging activities.

 

In December 2007, the FASB issued FASB Statement No. 141(revised 2007), *Business Combinations*, whichestablishes principles and requirements for how the acquirer in a businesscombination (i) recognizes and measures in its financial statements theidentifiable assets acquired, the liabilities assumed, and any controllinginterest, (ii) recognizes and measures the goodwill acquired in thebusiness combination or a gain from a bargain purchase, and (iii) determineswhat information to disclose to enable users of the financial statements toevaluate the nature and financial effects of the business combination. FASBStatement No. 141(R) applies to fiscal years beginning after December 15,2008. Earlier adoption is prohibited.

 

In December 2007, the FASB issued FASB Statement No. 160, *Noncontrolling Interests in Consolidated Financial Statements*,which establishes accounting and reporting standards that require (i) theownership interest in subsidiaries held by parties other than the parent to beclearly identified and presented in the consolidated balance sheet withinshareholder’s equity, but separate from the parent’s equity, (ii) theamount of consolidated net income attributable to the parent and thenoncontrolling interest to be clearly identified and presented on the face ofthe consolidated statement of operations, and (iii) changes in a parent’sownership interest while the parent retains its controlling financial interestin its subsidiary to be accounted for consistently. FASB Statement No. 160applies to fiscal years beginning after December 15, 2008. Earlieradoption is prohibited.

 

In February 2007, the FASB issued FASB Statement No. 159, *The Fair Value Option for Financial Assets and Financial Liabilities*,which provides companies with an option to report selected financial assets andliabilities at fair value. FASB Statement No. 159 establishes presentationand disclosure requirements designed to facilitate comparisons betweencompanies that choose different measurement attributes for similar types ofassets and liabilities and requires companies to provide additional informationthat will help investors and other users of financial statements to more easilyunderstand the effect of a company’s choice to use fair value on its earnings.FASB Statement No. 159 also requires entities to display the fair value ofthose assets and liabilities for which the company has chosen to use fair valueon the face of the balance sheet. FASB Statement No. 159 does noteliminate disclosure requirements included in other accounting standards,including requirements for disclosures about fair value measurements includedin FASB Statements No. 157, *Fair Value Measurements*,and No. 107, *Disclosures about Fair Value of FinancialInstruments*. FASB Statement No. 159 is effective as of the beginningof an entity’s first fiscal year beginning after November 15, 2007. Weadopted FASB Statement No. 159 and we did not elect the fair value optionfor any other financial instruments or certain other financial assets andliabilities that were not previously required to be measured at fair value.

 

In September 2006, the FASB issued FASB Statement No. 157, *Fair Value Measurements*, which defines fair value,establishes a framework for measuring fair value under GAAP and expandsdisclosures about fair value measurements. FASB Statement No. 157 appliesto other accounting pronouncements that require or permit fair valuemeasurements. The new guidance is effective for financial statements issued forfiscal years beginning after November 15, 2007, and for interim periodswithin those fiscal years. We adopted FASB Statement No. 157 on January 1,2008 and it did not have an impact on our consolidated financial position,results of operations, and cash flows.

 

45

----

Table of Contents

 

We have determined that all other recently issued accountingpronouncements will not have a material impact on our consolidated financialposition, results of operations, and cash flows, or do not apply to ouroperations.

 

46

----

Tableof Contents

 

**Item 4. Control and Procedures**

 

**Evaluation of Disclosure Controls and Procedures**

 

Disclosurecontrols and procedures are controls and other procedures that are designed toprovide reasonable assurance that the information required to be disclosed inreports filed or submitted under the United States Securities Exchange Act of1934, as amended (“Exchange Act”), is (1) recorded, processed, summarizedand reported within the time periods specified in the rules and forms ofthe SEC and (2) accumulated and communicated to management, including theprincipal executive officer and principal financial officer, as appropriate toallow timely decisions regarding required disclosure. Our disclosure controlsand procedures were designed to provide reasonable assurance of achieving theircontrol objectives.

 

Inconnection with the preparation of this amended Quarterly Report on Form 10-Q/Afor the period ended September 30, 2007, members of our new management, atthe direction (and with the participation) of our chief executive officer andinterim chief financial officer, performed an evaluation of the effectivenessof the design and operation of our disclosure controls and procedures (asdefined in Rule 13a-15(e) under the Exchange Act), as of September 30,2007. Based on that evaluation, the chief executive officer and interim chieffinancial officer, concluded that our disclosure controls and procedures werenot effective at a reasonable assurance level as of September 30, 2007,because of the material weaknesses in our internal control over financialreporting that existed during the period covered by this report.  Notwithstanding the material weaknesses thatexisted during the period covered by this report, our new management hasconcluded that our unaudited condensed consolidated financial statementsincluded in this report are fairly stated, in all material respects, inaccordance with generally accepted accounting principles in the United Statesof America (GAAP).

 

**Changes in Internal Control Over Financial Reporting**

 

OnFebruary 29, 2008, we concluded we needed to restate our previously issuedconsolidated financial statements for the third quarter of 2007 and delay thefiling of our Annual Report on Form 10-K for the year ended December 31,2007. On August 26, 2008, we concluded we needed to restate our previouslyissued consolidated financial statements for the first and second quarters of2007. We have concluded that misstatements in those previously issued financialstatements were significant enough to warrant the restatement of the first,second, and third quarters of 2007.

 

Atthe conclusion of our restatement efforts, our new management identified thefollowing material weaknesses in our internal control over financial reportingas of September 30, 2007.

 

*Financial Statements Closing Process.*  Welacked a sufficient complement of personnel with a level of financial reportingexpertise commensurate with our financial reporting requirements, whichresulted in our not maintaining effective controls over the financialstatements closing and reporting process. Specifically, we lacked sufficientresources to perform properly the quarterly and year-end consolidated financialstatement close processes, including the review of certain accountreconciliations, recognition of certain liabilities in the proper period andconsolidated financial statement preparation and disclosures. We also did notmaintain physical control over property and equipment. We also did not maintainsufficient written policies and procedures, and support, particularly withrespect to the accounting for the reserve for excess and obsolete inventory;however, this specific item only resulted in material adjustments to our costof goods sold in the fourth quarter of 2007. The other control deficiencies in this section contributed to thematerial weaknesses discussed below and resulted in restatement of ourquarterly condensed consolidated financial statements for the period ended September 30,2007.

 

*Accounting for Inventory and related accounts.*  Wedid not maintain effective controls over the completeness, accuracy, valuationand existence of our inventory, accounts payable, and related cost of salesaccounts. Specifically, our controls with respect to the accuracy of productcosting, work order closeout, accounting for cost accumulation on long-term contractsand certain inventory management processes, including obsolete and slow-movinginventory identification, and net-realizable inventory valuation were noteffective. Also, we did not maintain effective controls over the accurate andtimely recording of inventory receipts and shipments, including the recognitionof accounts payable. Furthermore, we did not maintain effective controls overthe accuracy and completeness of perpetual counts of our inventory quantities.This control deficiency contributed to the material 

 

47

----

Table of Contents

 

weaknessesdiscussed below and resulted in restatement of our quarterly unaudited condensedconsolidated financial statements for the period ended September 30, 2007.

 

*Accounting for revenue recognition.*  Wedid not maintain effective controls over the completeness and accuracy ofrevenue, accounts receivable, and advance payments on contracts. Specifically,we failed to recognize revenue in the appropriate quarter and effectivecontrols were not designed and in place to ensure that sales orders werecomplete, accurate and recorded on a timely basis. This control deficiencycontributed to the material weaknesses discussed below and resulted inrestatement of our quarterly unaudited condensed consolidated financialstatements for the period ended September 30, 2007.

 

*Accounting for income taxes.*  Wedid not maintain effective controls over the completeness, accuracy,presentation and disclosure of our accounting for income taxes, including thedetermination of income tax expense, income taxes payable and deferred incometax assets and liabilities. This control deficiency contributed to the materialweaknesses discussed below and resulted in restatement of our quarterly unauditedcondensed consolidated financial statements for the period ended September 30,2007.

 

*Inadequate monitoring of non-routine andnon-systematic transactions.*  We did not have effectivecontrols in place to monitor and accurately record non-routine andnon-systematic transactions. This primarily related to our accounting forinventory relating to terminating an agreement with a supplier in the secondquarter of 2007. This control deficiency contributed to the material weaknessesdiscussed below and resulted in restatement of our quarterly unaudited condensedconsolidated financial statements for the period ended September 30, 2007.

 

*Information Technology Controls.*  Wedid not maintain effective segregation of duties over automated and manualtransaction processes. Specifically, we did not maintain effective controlsover the granting, maintenance and monitoring of access to financial systemsand data. Certain information technology and finance department personnel hadunrestricted access to financial applications, programs and data beyond thatneeded to perform their individual job responsibilities and without anyindependent monitoring. This control deficiency affects substantially allfinancial statement accounts. This control deficiency did not result inadjustments to our unaudited condensed consolidated financial statements forthe period ended September 30, 2007.

 

There were no material changes in our internal control over financialreporting (as defined in Rule 13a-15(f) under the Exchange Act) forthe period covered by this report that materially affected, or were reasonablylikely to materially affect, our internal control over financial reporting. Wedid, however, identify the material weaknesses described above with respect toour internal controls.

 

**Remediation of Material Weaknesses**

 

We have engaged in, and are continuing to engage in, substantialefforts to improve our internal control over financial reporting and disclosurecontrols and procedures related to substantially all areas of our financialstatements and disclosures. These efforts include the following:

 

*Efforts to strengthen accounting and financedepartment through additional professional staff.*  Wehave hired a number of additional professional staff over the past severalmonths with the skills and experience needed for a public company of our sizeand complexity, including an individual with expertise in and responsibilityfor government contract compliance. We will continue to seek to strengthen ouraccounting and finance department and strive to appropriately balance theallocation of full-time staff and consultants. As previously announced, in thesecond quarter of 2008 we hired Charles Mathis as our new Executive VicePresident of Finance. The development of adequate corporate level accountingand finance oversight is still ongoing. We are still recruiting accounting andfinance personnel and do not yet have permanent resources in place sufficientto close our books without significant reliance on third-party contractors.

 

48

----

Table of Contents

 

*Use of outside consultants and advisors.*  Whilewe ultimately intend to reduce our reliance on outside consultants, for thenear term we have engaged additional outside consultants and advisors to assistmanagement in oversight and preparation of our financial statements, periodicreports filed with the SEC and related matters. We are also using outsideconsultants to function as our internal audit department and overseeing our Section 404evaluation of internal control over financial reporting, which will includeevaluating and recommending improvements in the existing internal controls atboth the corporate and business group level and establishing a mechanism tomonitor the effectiveness of internal controls on an ongoing basis. As westrengthen our accounting and finance department, we intend to transition moreof these functions to full-time staff.

 

*Increased communication internally and with outsideadvisors.*  We have increased communication by and amongsenior management, external advisors and other third parties relevant to thedisclosure process. Specifically, the chief executive officer meets daily withhis management team to review operational developments. Our board of directorsreceives timely and regular updates on issues of importance. Our chiefexecutive officer also regularly prepares a report to our board of directorshighlighting operational and financial results which is also distributed to hisexecutive team.

 

*Enhanced efforts to identify non-routinetransactions.*  We have initiated daily meetings withexecutive leadership to identify non-routine transactions and their relatedaccounting treatment at an early stage. Certain expenditure transactionsrequire approval of the interim chief financial officer. Additionally, we arein the process of assigning finance professionals within each of the operatingdepartments.

 

*Disclosure controls and procedures improvements.*  Withrespect to the preparation of periodic reports to be filed with the SEC, wehave instituted formal meetings of key personnel involved in the process anddeveloped detailed checklists and timetables with appropriate responsibilitiesand structural processes. In addition, we are utilizing a system of uniformdocument management (e.g., numbering, dating, and red-lining drafts) andimproved coordination of the drafting process with respect to our earningsreleases and periodic reports.

 

Management will consider the design and operating effectiveness ofthese actions and will make additional changes it determines appropriate.

 

The effectiveness of Force Protection’s or any system of disclosurecontrols and procedures and internal control over financial reporting issubject to certain limitations, including the exercise of judgment indesigning, implementing, and evaluating the controls and procedures, theassumptions used in identifying the likelihood of future events, and theinability to eliminate misconduct completely. As a result, our disclosurecontrols and procedures and internal control over financial reporting may notprevent all errors or improper acts or ensure that all material informationwill be made known to appropriate management in a timely fashion.

 

49

----

Tableof Contents

 

**PART II**

**OTHERINFORMATION**

 

**ITEM 6. Exhibits**

 

**EXHIBIT INDEX**

 
| **Number** | ** ** | **DESCRIPTION**                                                                                                                                                                                                                                                                                                                                                     |
|------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 2.1        |       | Agreement and Plan of Merger filed as  Exhibit 2.1 in the Company’s Annual Report on Form 10-K filed  September 15, 2008, is hereby incorporated by reference.                                                                                                                                                                                  |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 3.1        |       | Articles of Incorporation filed as  Exhibit 3.1 in the Company’s Annual Report on Form 10-K filed  September 15, 2008, is hereby incorporated by reference.                                                                                                                                                                                     |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 3.2        |       | First Amended and Restated By-Laws of Force  Protection, Inc., filed as Exhibit 3.1 on the Company’s Current  Report on Form 8-K filed February 26, 2008, is hereby incorporated  by reference.                                                                                                                                            |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 3.3        |       | Certificate of Amendment to Articles of  Incorporation filed as Exhibit 3.3 on the Company’s Annual Report in  Form 10-K filed September 15, 2008, is hereby incorporated by reference.                                                                                                                                                         |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 4.1        |       | Certificate of Designation for Series D  Convertible Preferred Stock, dated January 19, 2005, filed as  Exhibit 4.1 on the Company’s Current Report on Form 8-K filed  January 27, 2005, is hereby incorporated by reference.                                                                                                         |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 4.2        |       | Amended and Restated Certificate of Designation  for Series B Convertible Preferred Stock, filed as Exhibit 4.1 on  the Company’s Current Report on Form 8-K filed February 15, 2005,  is hereby incorporated by reference.                                                                                                                |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 4.3        |       | Amended and Restated Certificate of Designation  for Series C Convertible Preferred Stock, filed as Exhibit 4.2 on  the Company’s Current Report on Form 8-K filed February 15, 2005,  is hereby incorporated by reference.                                                                                                                |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 10.1       |       | First Amendment to Building No. 1 Office  Lease among Force Protection, Inc., Force Protection  Industries, Inc., and Aerospace/Defense, Inc., dated July 1,  2007, filed as Exhibit 10.9 to the Company’s Quarterly Report on  Form 10-Q filed November 13, 2007, is hereby incorporated by  reference.               |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 10.2       |       | First Amendment to Ground Lease among Force  Protection, Inc., Force Protection Industries, Inc., and  Aerospace/Defense, Inc., dated July 1, 2007, filed as  Exhibit 10.7 to the Company’s Quarterly Report on Form 10-Q filed  November 13, 2007, is hereby incorporated by reference.                                    |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 10.3       |       | Second Amendment to Building No. 3 Industrial  Lease among Force Protection, Inc., Force Protection  Industries, Inc., and Aerospace/Defense, Inc., dated July 1,  2007, filed as Exhibit 10.18 to the Company’s Quarterly Report on  Form 10-Q filed November 13, 2007, is hereby incorporated by  reference.         |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 10.4       |       | Fourth Amended and Restated Building No. 1  Industrial Lease among Force Protection, Inc., Force Protection  Industries, Inc., and Aerospace/Defense, Inc., dated July 1,  2007, filed as Exhibit 10.14 to the Company’s Quarterly Report on  Form 10-Q filed November 13, 2007, is hereby incorporated by  reference. |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 10.5       |       | Third Amendment to Building No. 2 Industrial  Lease among Force Protection, Inc., Force Protection  Industries, Inc., and Aerospace/Defense, Inc., dated July 1,  2007, filed as Exhibit 10.17 to the Company’s Quarterly Report on  Form 10-Q filed November 13, 2007, is hereby incorporated by  reference.          |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 10.6       |       | License Agreement between Force Protection  Industries, Inc. and the CSIR, dated July 6, 2007, filed as  Exhibit 10.4 to the Company’s Quarterly Report on Form 10-Q filed  November 13, 2007, is hereby incorporated by reference.                                                                                                   |
|       |       |                                                                                                                                                                                                                                                                                                                                                                |
| 10.7       |       | Loan Agreement between Force Protection, Inc.  and Wachovia Bank, National Association, dated July 20, 2007, filed as  Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q filed  August 9, 2007, is hereby incorporated by reference.                                                                                        |

 

50

----

Table of Contents

 
| 10.8   |   | Security Agreement between Force  Protection, Inc. and Wachovia Bank, National Association, dated  July 20, 2007, filed as Exhibit 10.2 to the Company’s Quarterly  Report on Form 10-Q filed August 9, 2007, is hereby incorporated by  reference.                                                    |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                 |
| 10.9   |   | Promissory Note between Force  Protection, Inc. and Wachovia Bank, National Association, dated  July 20, 2007, filed as Exhibit 10.3 to the Company’s Quarterly  Report on Form 10-Q filed August 9, 2007, is hereby incorporated by  reference.                                                       |
|   |   |                                                                                                                                                                                                                                                                                                                                 |
| 10.10  |   | Delivery Order No. 5 under Contract  M67854-07-D-5031 with the United States Marine Corps Systems Command, dated  August 10, 2007, filed as Exhibit 10.1 to the Company’s Quarterly  Report on Form 10-Q filed November 13, 2007, is hereby incorporated  by reference.                                |
|   |   |                                                                                                                                                                                                                                                                                                                                 |
| 10.11  |   | Subcontract Agreement among Force Protection  Industries, Inc., General Dynamics, Inc. and General Dynamics Land  Systems, Inc., dated September 10, 2007 filed as Exhibit 10.52  on the Company’s Annual Report on Form 10K filed September 15,  2008, is hereby incorporated by reference. |
|   |   |                                                                                                                                                                                                                                                                                                                                 |
| 10.12  |   | Modification Number One to Promissory Note between  Force Protection, Inc. and Wachovia Bank, National Association, dated  September 30, 2007, filed as Exhibit 10.5 to the Company’s Quarterly  Report on Form 10-Q filed November 13, 2007, is hereby incorporated  by reference.                    |
|   |   |                                                                                                                                                                                                                                                                                                                                 |
| 31.1   |   | Certification of the Chief Executive Officer  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.†                                                                                                                                                                                                                  |
|   |   |                                                                                                                                                                                                                                                                                                                                 |
| 31.2   |   | Certification of the Chief Financial Officer  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.†                                                                                                                                                                                                                  |
|   |   |                                                                                                                                                                                                                                                                                                                                 |
| 32.1   |   | Certification of Officers pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.†                                                                                                                                                                                |

 

----

(Exhibitsmarked with a † are filed electronically herewith.)

 

51

----

Tableof Contents

 

**SIGNATURES**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 
| ** **                     | **FORCE PROTECTION, INC.** |
|--------------------------------|----------------------------|
|                           | *(Registrant)*             |
|                           | * *                   |
| Date:  September 30, 2008 | By:                        | /s/ MICHAEL MOODY |
|                           | ** **                 | **Name:  Michael Moody****Title: Chief  Executive Officer and President   (Principal Executive Officer)** |
|                           | ** **                 | ** ** |
|                           | ** **                 | ** ** |
| Date:  September 30, 2008 | By:                        | /s/ FRANCIS E. SCHEUERELL, JR. |
|                           | ** **                 | **Name:  Francis E. Scheuerell, Jr.****Title: Interim  Chief Financial Officer****(Principal  Accounting and Financial Officer)** |

 

52

----