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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549





FORM 10-Q





(Mark One)

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

For the quarterly period ended June 30, 2009

Or



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

For the transition period from  to

Commission file number: 000-30939





ACTIVE POWER, INC.

(Exact name of registrant as specified in its charter)







|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 74-2961657                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)



|                                         |  |           
|---------------------------------------- |  | ----------
|2128 W. Braker Lane, BK12, Austin, Texas |  | 78758     
|(Address of principal executive offices) |  | (Zip Code)

(512) 836-6464

(Registrants telephone number, including area code)



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





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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File
required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or such shorter period that the registrant was required to submit and post such
files).     ̈  Yes     ̈  No

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



|                        |  |                                                  |  |                           |  |  
|----------------------- |  | ------------------------------------------------ |  | ------------------------- |  | -
|Large Accelerated Filer |  |  ̈                                                |  | Accelerated Filer         |  | x
|                        |  |                                                  | 
|Non-Accelerated Filer   |  |  ̈  (Do not check if a smaller reporting company) |  | Smaller Reporting Company |  |  ̈

Indicate by check mark whether the registrant is a Shell Company (as defined in Rule 12b-2 of the
Exchange Act).     ̈  Yes    x  No

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the
issuers classes of common stock, as of the latest practicable date.

The number of shares of common stock, par value of $0.001 per
share, outstanding at July 24, 2009 was 66,458,311.









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ACTIVE POWER, INC.

FORM 10-Q

INDEX



|                                                                                               |  |   
|---------------------------------------------------------------------------------------------- |  | --
|PART I  FINANCIAL INFORMATION                                                                 |  | 3 
|                                                                                               | 
|Item 1. Condensed Consolidated Financial Statements.                                           |  | 3 
|                                                                                               | 
|Item 2. Managements Discussion and Analysis of Financial Condition and Results of
Operations. |  | 12
|                                                                                               | 
|Item 3. Quantitative and Qualitative Disclosures about Market Risk                             |  | 21
|                                                                                               | 
|Item 4. Controls and Procedures                                                                |  | 21
|                                                                                               | 
|PART II  OTHER INFORMATION                                                                    |  | 21
|                                                                                               | 
|Item 1. Legal Proceedings                                                                      |  | 21
|                                                                                               | 
|Item 1A. Risk Factors                                                                          |  | 21
|                                                                                               | 
|Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.                           |  | 22
|                                                                                               | 
|Item 3. Defaults Upon Senior Securities.                                                       |  | 22
|                                                                                               | 
|Item 4. Submission of Matters to a Vote of Security Holders.                                   |  | 23
|                                                                                               | 
|Item 5. Other Information.                                                                     |  | 24
|                                                                                               | 
|Item 6. Exhibits.                                                                              |  | 24



2



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PART I  FINANCIAL INFORMATION



|Item 1. | Consolidated Financial Statements.
|------- | ----------------------------------

Active
Power, Inc.

Condensed Consolidated Balance Sheets

(in thousands)



|                                                                                                                                  |  |              |          |   |                  |   |          |  
|--------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | -------- | - | ---------------- | - | -------- | -
|                                                                                                                                  |  | June 30,2009 |          |   | December 31,2008 |  
|                                                                                                                                  |  | (unaudited)  |          |   |                  |  
|ASSETS                                                                                                                            |  |              |          |   |                  |   |          |  
|                                                                                                                                  |  |             
|Current assets:                                                                                                                   |  |              |          |   |                  |   |          |  
|Cash and cash equivalents                                                                                                         |  | $            | 11,300   |   |                  | $ | 10,468   |  
|Short-term investments in marketable securities                                                                                   |  |              | 403      |   |                  |   | 703      |  
|Accounts receivable, net of allowance for doubtful accounts of $379 and $413 at June 30, 2009 and December 31, 2008, respectively |  |              | 7,084    |   |                  |   | 9,450    |  
|Inventories                                                                                                                       |  |              | 7,203    |   |                  |   | 6,689    |  
|Prepaid expenses and other                                                                                                        |  |              | 371      |   |                  |   | 470      |  
|                                                                                                                                  |  |              |          |   |                  |   |          |  
|Total current assets                                                                                                              |  |              | 26,361   |   |                  |   | 27,780   |  
|Property and equipment, net                                                                                                       |  |              | 3,371    |   |                  |   | 4,492    |  
|Other assets                                                                                                                      |  |              | 408      |   |                  |   | 399      |  
|                                                                                                                                  |  |              |          |   |                  |   |          |  
|Total assets                                                                                                                      |  | $            | 30,140   |   |                  | $ | 32,671   |  
|                                                                                                                                  |  |              |          |   |                  |   |          |  
|                                                                                                                                  |  |             
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                              |  |              |          |   |                  |   |          |  
|Current liabilities:                                                                                                              |  |              |          |   |                  |   |          |  
|Accounts payable                                                                                                                  |  | $            | 2,173    |   |                  | $ | 2,414    |  
|Accrued expenses                                                                                                                  |  |              | 4,232    |   |                  |   | 5,425    |  
|Deferred revenue                                                                                                                  |  |              | 2,262    |   |                  |   | 1,490    |  
|Revolving line of credit                                                                                                          |  |              | 2,000    |   |                  |   | 2,000    |  
|                                                                                                                                  |  |              |          |   |                  |   |          |  
|Total current liabilities                                                                                                         |  |              | 10,667   |   |                  |   | 11,329   |  
|Long-term liabilities                                                                                                             |  |              | 578      |   |                  |   | 521      |  
|Stockholders equity:                                                                                                             |  |              |          |   |                  |   |          |  
|Common stock                                                                                                                      |  |              | 66       |   |                  |   | 60       |  
|Treasury stock                                                                                                                    |  |              | (59      | ) |                  |   | (59      | )
|Additional paid-in capital                                                                                                        |  |              | 264,008  |   |                  |   | 260,344  |  
|Accumulated deficit                                                                                                               |  |              | (244,676 | ) |                  |   | (238,843 | )
|Other accumulated comprehensive income                                                                                            |  |              | (444     | ) |                  |   | (681     | )
|                                                                                                                                  |  |              |          |   |                  |   |          |  
|Total stockholders equity                                                                                                        |  |              | 18,895   |   |                  |   | 20,821   |  
|                                                                                                                                  |  |              |          |   |                  |   |          |  
|Total liabilities and stockholders equity                                                                                        |  | $            | 30,140   |   |                  | $ | 32,671   |  
|                                                                                                                                  |  |              |          |   |                  |   |          |  

See accompanying notes.



3



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Active Power, Inc.

Condensed Consolidated Statements of Operations and Comprehensive Loss

(in thousands, except per
share amounts)

(Unaudited)



|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|------------------------------------------------------------------------ |  | -------------------------- | ------ | - | ------------------------ | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                                         |  | Three Months EndedJune 30, |        |   | Six Months EndedJune 30, |  
|                                                                         |  | 2009                       |        |   | 2008                     |   |        | 2009 |  |   | 2008   |  
|Product revenue                                                          |  | $                          | 5,207  |   |                          | $ | 5,592  |      |  | $ | 14,916 |   |  | $ | 11,840 |  
|Service and spares revenue                                               |  |                            | 1,423  |   |                          |   | 1,196  |      |  |   | 2,857  |   |  |   | 2,486  |  
|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Total revenue                                                            |  |                            | 6,630  |   |                          |   | 6,788  |      |  |   | 17,773 |   |  |   | 14,326 |  
|                                                                         |  |                            |        |  
|Cost of product revenue                                                  |  |                            | 4,222  |   |                          |   | 4,765  |      |  |   | 11,123 |   |  |   | 10,422 |  
|Cost of service and spares revenue                                       |  |                            | 933    |   |                          |   | 1,081  |      |  |   | 1,913  |   |  |   | 2,179  |  
|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Total cost of revenue                                                    |  |                            | 5,155  |   |                          |   | 5,846  |      |  |   | 13,036 |   |  |   | 12,601 |  
|                                                                         |  |                            |        |  
|Gross profit                                                             |  |                            | 1,475  |   |                          |   | 942    |      |  |   | 4,737  |   |  |   | 1,725  |  
|                                                                         |  |                            |        |  
|Operating expenses:                                                      |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Research and development                                                 |  |                            | 1,058  |   |                          |   | 1,304  |      |  |   | 2,159  |   |  |   | 2,706  |  
|Selling and marketing                                                    |  |                            | 2,660  |   |                          |   | 3,055  |      |  |   | 5,990  |   |  |   | 6,005  |  
|General and administrative                                               |  |                            | 1,177  |   |                          |   | 1,186  |      |  |   | 2,316  |   |  |   | 2,368  |  
|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Total operating expenses                                                 |  |                            | 4,895  |   |                          |   | 5,545  |      |  |   | 10,465 |   |  |   | 11,079 |  
|                                                                         |  |                            |        |  
|Operating loss                                                           |  |                            | (3,420 | ) |                          |   | (4,603 | )    |  |   | (5,728 | ) |  |   | (9,354 | )
|                                                                         |  |                            |        |  
|Interest income (expense), net                                           |  |                            | (18    | ) |                          |   | 91     |      |  |   | (28    | ) |  |   | 254    |  
|Other income (expense), net                                              |  |                            | (28    | ) |                          |   | 85     |      |  |   | (77    | ) |  |   | 204    |  
|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Net loss                                                                 |  | $                          | (3,466 | ) |                          | $ | (4,427 | )    |  | $ | (5,833 | ) |  | $ | (8,896 | )
|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|                                                                         |  |                            |        |  
|Net loss per share, basic & diluted                                      |  | $                          | (0.06  | ) |                          | $ | (0.07  | )    |  | $ | (0.10  | ) |  | $ | (0.15  | )
|                                                                         |  |                            |        |  
|Shares used in computing net loss per share, basic & diluted             |  |                            | 62,424 |   |                          |   | 60,208 |      |  |   | 61,349 |   |  |   | 60,190 |  
|                                                                         |  |                            |        |  
|Comprehensive loss:                                                      |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|                                                                         |  |                            |        |  
|Net loss                                                                 |  | $                          | (3,466 | ) |                          | $ | (4,427 | )    |  | $ | (5,833 | ) |  | $ | (8,896 | )
|Translation gain on subsidiaries in foreign currencies                   |  |                            | 253    |   |                          |   | 152    |      |  |   | 235    |   |  |   | 322    |  
|Change in unrealized gain (loss) on investments in marketable securities |  |                            |       |   |                          |   | (5     | )    |  |   | 2      |   |  |   | (2     | )
|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Comprehensive loss                                                       |  | $                          | (3,213 | ) |                          | $ | (4,280 | )    |  | $ | (5,596 | ) |  | $ | (8,576 | )
|                                                                         |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  

See accompanying notes.



4



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Active Power, Inc.

Condensed Consolidated Statements of Cash Flows

(in thousands)

(Unaudited)



|                                                                        |  |                          |        |   |      |   |        |  
|----------------------------------------------------------------------- |  | ------------------------ | ------ | - | ---- | - | ------ | -
|                                                                        |  | Six Months EndedJune 30, |       
|                                                                        |  | 2009                     |        |   | 2008 |  
|Operating activities                                                    |  |                          |        |   |      |   |        |  
|Net loss                                                                |  | $                        | (5,833 | ) |      | $ | (8,896 | )
|Adjustments to reconcile net loss to cash used in operating activities: |  |                          |        |   |      |   |        |  
|Depreciation expense                                                    |  |                          | 954    |   |      |   | 928    |  
|Change in allowance for doubtful accounts                               |  |                          | (34    | ) |      |   | 7      |  
|Accretion of premium/discount on marketable securities                  |  |                          | 2      |   |      |   | (48    | )
|(Gain) Loss on disposal of fixed assets                                 |  |                          | 410    |   |      |   | (61    | )
|Stock-based compensation                                                |  |                          | 671    |   |      |   | 810    |  
|Changes in operating assets and liabilities:                            |  |                          |        |   |      |   |        |  
|Accounts receivable                                                     |  |                          | 2,400  |   |      |   | (764   | )
|Inventories                                                             |  |                          | (514   | ) |      |   | 564    |  
|Prepaid expenses and other assets                                       |  |                          | 90     |   |      |   | (103   | )
|Accounts payable                                                        |  |                          | (241   | ) |      |   | 184    |  
|Accrued expenses                                                        |  |                          | (1,193 | ) |      |   | (1,112 | )
|Deferred revenue                                                        |  |                          | 772    |   |      |   | 433    |  
|Long-term liabilities                                                   |  |                          | 57     |   |      |   |       |  
|                                                                        |  |                          |        |   |      |   |        |  
|Net cash used in operating activities                                   |  |                          | (2,459 | ) |      |   | (8,058 | )
|                                                                        |  |                         
|Investing activities                                                    |  |                          |        |   |      |   |        |  
|Purchases of marketable securities                                      |  |                          |       |   |      |   | (2,032 | )
|Sales/maturities of marketable securities                               |  |                          | 300    |   |      |   | 7,172  |  
|Purchases of property and equipment                                     |  |                          | (213   | ) |      |   | (668   | )
|Sales of property and equipment                                         |  |                          |       |   |      |   | 94     |  
|                                                                        |  |                          |        |   |      |   |        |  
|Net cash provided by investing activities                               |  |                          | 87     |   |      |   | 4,566  |  
|                                                                        |  |                         
|Financing activities                                                    |  |                          |        |   |      |   |        |  
|Net proceeds from issuance of common stock                              |  |                          | 3,000  |   |      |   | 18     |  
|Purchases of treasury stock                                             |  |                          |       |   |      |   | (54    | )
|                                                                        |  |                          |        |   |      |   |        |  
|Net cash (used) provided in financing activities                        |  |                          | 3,000  |   |      |   | (36    | )
|                                                                        |  |                         
|Translation gain (loss) on subsidiaries in foreign currencies           |  |                          | 204    |   |      |   | 322    |  
|                                                                        |  |                         
|Change in cash and cash equivalents                                     |  |                          | 832    |   |      |   | (3,206 | )
|Cash and cash equivalents, beginning of period                          |  |                          | 10,468 |   |      |   | 15,504 |  
|                                                                        |  |                          |        |   |      |   |        |  
|Cash and cash equivalents, end of period                                |  | $                        | 11,300 |   |      | $ | 12,298 |  
|                                                                        |  |                          |        |   |      |   |        |  

See accompanying notes.



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Active Power, Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2009

(Unaudited)



|1. | Significant Accounting Policies
|-- | -------------------------------

Basis of
presentation

Active Power, Inc. and its subsidiaries (hereinafter referred to as we, us, Active
Power or the Company) manufacture and provide critical power quality solutions that provide business continuity and protect customers in the event of an electrical power disturbance. Our products are designed to deliver continuous
clean power, protecting customers from voltage fluctuations, such as surges and sags and frequency fluctuations, and also to provide ride-through, or temporary, power to bridge the gap between a power outage and the restoration of utility power. Our
target customers are those global enterprises requiring power insurance because they have zero tolerance for downtime in their mission critical operations. The Uninterruptible Power Supply (UPS) products we manufacture utilize green
technologies to create a renewable energy source. We sell our products globally through direct, manufacturers representative and Original Equipment Manufacturer (OEM) channels. Our current principal markets are North America, Europe, Middle
East and Africa (EMEA) and Asia.

The accompanying condensed consolidated financial statements have been prepared in accordance with U.S.
generally accepted accounting principles and include the accounts of the Company and its consolidated subsidiaries. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments
(consisting only of normal recurring items) necessary to present fairly the consolidated financial position of the Company and its consolidated results of operations and cash flows. These interim financial statements should be read in conjunction
with the financial statements and accompanying notes included in the Companys Annual Report on Form 10-K for the year ended December 31, 2008.

In preparing the accompanying condensed consolidated financial statements, the Company has reviewed, as determined necessary by the Companys management, events that have occurred after June 30, 2009, up
until the issuance of the financial statements, which occur on July 28, 2009.

Recently issued accounting standards

In September 2006, the Financial Accounting Standards Board (FASB) issued SFAS No. 157, Fair Value Measurements (FAS No. 157). FAS
No. 157 defines fair value, establishes a framework for measuring fair value and enhances disclosures about fair value measurements required under other accounting pronouncements, but does not change existing guidance as to whether or not an
instrument is carried at fair value. In February 2008, the FASB issued FSP FAS 157-2, Effective Date of FASB Statement No. 157 which delayed the implementation of the provisions of FAS No. 157 with regard to non-financial
assets and liabilities that are not carried at fair value on a recurring basis in financial statements. We have implemented FAS No. 157 for our non-financial assets and liabilities that are re-measured at fair value on a non-recurring basis as
of January 1, 2009. The adoption of FAS No. 157 for our non-financial assets and liabilities that are re-measured at fair value on a non-recurring basis did not have a material impact on our financial position or results of operations;
however, it could have an impact in future periods. In addition, we may have additional disclosure requirements in the event we complete an acquisition or incur impairment of our assets in future periods.

In April 2009, FASB issued FSP SFAS No. 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have
Significantly Decreased and Identifying Transactions That Are Not Orderly. FSP SFAS No. 157-4 provides guidelines for making fair value measurements more consistent with the principles presented in SFAS No. 157, Fair Value
Measurements. This FSP relates to determining fair values when there is no active market or where the price inputs being used represent distressed sales. It reaffirms what SFAS No. 157 states is the objective of fair value
measurementto reflect how much an asset would be sold for in an orderly transaction (as opposed to a distressed or forced transaction) at the date of the financial statements under current market conditions. Specifically, it reaffirms the need
to use judgment to ascertain if a formerly active market has become inactive and in determining fair values when markets have become inactive. The FSP is effective for the Companys annual reporting for the fiscal year 2009. The Company is
currently evaluating the impact of the implementation of FSP SFAS No. 157-4 on its consolidated financial position, results of operations and cash flows.

In December 2007, the FASB issued FAS No. 141 (Revised 2007), Business Combinations(FAS 141R) which replaces FAS No. 141, Business Combinations and FAS No. 160,
Noncontrolling Interests in Consolidated Financial Statements (FAS 160). FAS 141R establishes principles and requirements for how an acquirer recognizes and measures in



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its financial statements the identifiable assets acquired, the liabilities assumed, any noncontrolling interest in the acquiree and the goodwill acquired.
FAS 141R also establishes disclosure requirements that will enable users to evaluate the nature and financial effects of the business combination. FAS 160 clarifies the classification of noncontrolling interests in the financial statements and the
accounting for and reporting of transactions between the reporting entity and holders of such noncontrolling interests. FAS 141R and FAS 160 are effective for the Companys fiscal year 2009 and must be applied prospectively to all new
acquisitions closing on or after January 1, 2009. Upon adoption, these standards did not have a material impact on the Companys consolidated financial position and result of operations.

In April 2009, FASB issued FSP FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments,which
provides additional guidance designed to create greater clarity and consistency in accounting for and presenting impairment losses on securities. These standards are effective for periods ending after June 15, 2009. Accordingly, the Company
adopted the provisions of FSP FAS 115-2 and FAS 124-2 on March 29, 2009. The adoption of this guidance did not have a material impact on our consolidated financial position, results of operations or cash flows. However, the provisions of FSP
FAS 115-2 and FAS 124-2 result in additional disclosures with respect to the fair value of the Companys investments with unrealized losses that are not deemed to be other-than-temporarily impaired. See Note 4, Fair Value of Financial
Instruments,for these additional disclosures.

In April 2009, FASB issued FSP FAS 107-1 and APB 28-1, Interim
Disclosures about Fair Value of Financial Instruments,which amends SFAS No. 107, Disclosures about Fair Value of Financial Instruments, to require disclosures about fair value of financial instruments in interim as well
as annual financial statements. This standard is effective for periods ending after June 15, 2009. Accordingly, the Company adopted the provisions of FSP FAS 107-1 and APB 28-1 on June 30, 2009. The adoption of this guidance did not have a
material impact on our consolidated financial position, results of operations or cash flows. However, the provisions of FSP FAS 107-1 and APB 28-1 result in additional disclosures with respect to the fair value of the Companys financial
instruments. See Note 4,Fair Value of Financial Instruments, for these additional disclosures.

In May 2009, the FASB issued
SFAS No. 165, Subsequent Events(SFAS No. 165), which provides guidance to establish general standards of accounting for, and disclosures of, events that occur after the balance sheet date but before
financial statements are issued or are available to be issued. SFAS 165 is effective for interim or fiscal periods ending after June 15, 2009. Accordingly, the Company adopted the provisions of SFAS No. 165 on June 30, 2009. The
adoption of this guidance did not have a material impact on our consolidated financial position, results of operations or cash flows. The provisions of SFAS No. 165 result in additional disclosures with respect to subsequent events, as
disclosed in Basis of Presentation above.

Effective January 1, 2009, the Company adopted the provisions of FASB Staff Position
(FSP) No. EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions are Participating Securities, which clarifies that share-based payment awards that entitle their holders to receive nonforfeitable
dividends before vesting should be considered participating securities. As participating securities, these instruments should be included in the computation of earnings per share (EPS) using the two-class method under SFAS No. 128,
Earnings per Share. The adoption of this guidance did not have a material impact on the computation of net loss per share for the three and six months ended June 30, 2009 and 2008.



|2. | Supplemental Balance Sheet Information
|-- | --------------------------------------

Receivables

Accounts receivable consist of the following (in thousands):



|                                |  |              |       |   |                  |   |       |  
|------------------------------- |  | ------------ | ----- | - | ---------------- | - | ----- | -
|                                |  | June 30,2009 |       |   | December 31,2008 |  
|Trade receivables               |  | $            | 7,463 |   |                  | $ | 9,863 |  
|Allowance for doubtful accounts |  |              | (379  | ) |                  |   | (413  | )
|                                |  |              |       |   |                  |   |       |  
|                                |  | $            | 7,084 |   |                  | $ | 9,450 |  
|                                |  |              |       |   |                  |   |       |  

Inventory

We state inventories at the lower of cost or market, using the first-in-first-out-method (in thousands):



|                                   |  |              |        |   |                  |   |        |  
|---------------------------------- |  | ------------ | ------ | - | ---------------- | - | ------ | -
|                                   |  | June 30,2009 |        |   | December 31,2008 |  
|Raw materials                      |  | $            | 5,638  |   |                  | $ | 5,750  |  
|Work in process and finished goods |  |              | 4,084  |   |                  |   | 3,353  |  
|Allowances for obsolescence        |  |              | (2,519 | ) |                  |   | (2,414 | )
|                                   |  |              |        |   |                  |   |        |  
|                                   |  | $            | 7,203  |   |                  | $ | 6,689  |  
|                                   |  |              |        |   |                  |   |        |  



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Property and Equipment

Property and equipment consist of the following (in thousands):



|                                 |  |              |         |   |                  |   |         |  
|-------------------------------- |  | ------------ | ------- | - | ---------------- | - | ------- | -
|                                 |  | June 30,2009 |         |   | December 31,2008 |  
|Equipment                        |  | $            | 9,255   |   |                  | $ | 9,689   |  
|Demonstration units              |  |              | 1,069   |   |                  |   | 1,044   |  
|Computers and purchased software |  |              | 2,985   |   |                  |   | 2,924   |  
|Furniture and fixtures           |  |              | 353     |   |                  |   | 353     |  
|Leasehold improvements           |  |              | 7,269   |   |                  |   | 7,269   |  
|Construction in progress         |  |              | 99      |   |                  |   | 128     |  
|                                 |  |              |         |   |                  |   |         |  
|                                 |  |              | 21,030  |   |                  |   | 21,407  |  
|                                 |  |              |         |   |                  |   |         |  
|Accumulated depreciation         |  |              | (17,659 | ) |                  |   | (16,915 | )
|                                 |  |              |         |   |                  |   |         |  
|                                 |  | $            | 3,371   |   |                  | $ | 4,492   |  
|                                 |  |              |         |   |                  |   |         |  

Accrued Expenses

Accrued expenses consist of the following (in thousands):



|                                                 |  |              |       |                  |   |      
|------------------------------------------------ |  | ------------ | ----- | ---------------- | - | -----
|                                                 |  | June 30,2009 |       | December 31,2008
|Compensation and benefits                        |  | $            | 1,511 |                  | $ | 2,210
|Warranty liability                               |  |              | 670   |                  |   | 860  
|Property, income, state, sales and franchise tax |  |              | 991   |                  |   | 978  
|Professional fees                                |  |              | 465   |                  |   | 544  
|Other                                            |  |              | 595   |                  |   | 833  
|                                                 |  |              |       |                  |   |      
|                                                 |  | $            | 4,232 |                  | $ | 5,425
|                                                 |  |              |       |                  |   |      

Warranty Liability

Generally, the warranty period for our power quality products is 12 months from the date of commissioning or 18 months from the date of
shipment from Active Power, whichever period is shorter. We provide for the estimated cost of product warranties at the time revenue is recognized and this accrual is contained in accrued expenses on the accompanying balance sheet.

Changes in our warranty liability are presented in the following table (in thousands):



|                                               |  |   |      |  
|---------------------------------------------- |  | - | ---- | -
|Balance at December 31, 2008                   |  | $ | 948  |  
|Warranty expense                               |  |   | 153  |  
|Warranty charges incurred                      |  |   | (393 | )
|                                               |  |   |      |  
|Balance at June 30, 2009                       |  | $ | 708  |  
|                                               |  |   |      |  
|Warrant liability included in accrued expenses |  | $ | 670  |  
|Long term warranty liability                   |  |   | 38   |  
|                                               |  |   |      |  
|Balance at June 30, 2009                       |  | $ | 708  |  
|                                               |  |   |      |  



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##### Table of Contents

|3. | Net Loss Per Share
|-- | ------------------

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



|                                                               |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|-------------------------------------------------------------- |  | -------------------------- | ------ | - | ------------------------ | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                               |  | Three Months EndedJune 30, |        |   | Six Months EndedJune 30, |  
|                                                               |  | 2009                       |        |   | 2008                     |   |        | 2009 |  |   | 2008   |  
|Net loss                                                       |  | $                          | (3,466 | ) |                          | $ | (4,427 | )    |  | $ | (5,833 | ) |  | $ | (8,896 | )
|                                                               |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Basic and diluted:                                             |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Weighted-average shares of common stock outstanding            |  |                            | 62,424 |   |                          |   | 60,208 |      |  |   | 61,349 |   |  |   | 60,190 |  
|                                                               |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Shares used in computing net loss per share, basic and diluted |  |                            | 62,424 |   |                          |   | 60,208 |      |  |   | 61,349 |   |  |   | 60,190 |  
|                                                               |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|                                                               |  |                            |        |  
|Net loss per share, basic and diluted                          |  | $                          | (0.06  | ) |                          | $ | (0.07  | )    |  | $ | (0.10  | ) |  | $ | (0.15  | )
|                                                               |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  

Our calculation of diluted loss per share excludes 6,921,558 and 6,050,717 shares of common stock
issuable upon exercise of employee stock options as of June 30, 2009 and 2008, respectively, and 123,013 and 235,344 of non-vested shares issuable upon exercise of restricted stock awards as of June 30, 2009 and 2008, respectively, because
their inclusion in the calculation would be anti-dilutive. As of June 30, 2009 and 2008, there was no common stock subject to repurchase.



|4. | Fair Value of Financial Instruments
|-- | -----------------------------------

Investments in
marketable securities consist of money market funds, commercial paper and debt securities with readily determinable fair values. We account for investments that are reasonably expected to be realized in cash, sold or consumed during the year as
short-term investments. We classify investments in marketable securities as available-for-sale and all reclassifications made from unrealized gains/losses to realized gains/losses are determined based on the specific identification method. The
carrying amount of investments in marketable securities approximates fair value at June 30, 2009.

In accordance with our investment
policy and guidelines, our short-term investments are diversified among and limited to high quality securities with a minimum of investment grade ratings. We actively monitor our investment portfolio to ensure compliance with our investment
objectives to preserve capital, meet liquidity requirements and maximize return on our investments. We do not require collateral or enter into master netting arrangements to mitigate our credit risk.

SFAS 157 defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles and enhances disclosure
requirements about fair value measurements. Fair value is defined under SFAS 157 as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the
asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value under SFAS 157 must maximize the use of observable inputs and minimize the use of unobservable inputs.
The standard describes a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value which are the following:

Level 1Quoted prices in active markets for identical assets or liabilities.

Level 2Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities;
quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or
liabilities.

As of June 30, 2009, the Companys cash and cash equivalents of $11.3 million and short-term investments of
$0.4 million are all valued using quoted prices generated by market transactions involving identical assets, or Level 1 assets as defined under SFAS No. 157.



9



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##### Table of Contents

In accordance with SFAS 157, the following table represents the Companys fair value hierarchy for
its financial assets (cash equivalents and investments) measured at fair value on a recurring basis as of June 30, 2009:



|                          |  |                                                 |       |         |   |         |  |       |   |  |   |      
|------------------------- |  | ----------------------------------------------- | ----- | ------- | - | ------- |  | ----- | - |  | - | -----
|                          |  | Fair Value Measurements at Reporting Date Using
|                          |  | Level 1                                         |       | Level 2 |   | Level 3 |  | Total
|Money Market funds        |  | $                                               | 5,183 |         | $ |        |  | $     |  |  | $ | 5,183
|Corporate Notes           |  |                                                 | 403   |         |   |        |  |       |  |  |   | 403  
|                          |  |                                                 |       |         |   |         |  |       |   |  |   |      
|Total                     |  | $                                               | 5,586 |         | $ |        |  | $     |  |  | $ | 5,586
|                          |  |                                                 |       |         |   |         |  |       |   |  |   |      
|                          |  |                                                 |       |        
|Amounts included in:      |  |                                                 |       |         |   |         |  |       |   |  |   |      
|Cash and cash equivalents |  | $                                               | 5,183 |         | $ |        |  | $     |  |  | $ | 5,183
|Short-term investments    |  |                                                 | 403   |         |   |        |  |       |  |  |   | 403  
|                          |  |                                                 |       |         |   |         |  |       |   |  |   |      
|Total                     |  | $                                               | 5,586 |         | $ |        |  | $     |  |  | $ | 5,586
|                          |  |                                                 |       |         |   |         |  |       |   |  |   |      

The Company adopted the provisions of FSP FAS 107-1 and APB 28-1, Interim Disclosures
about Fair Value of Financial Instrumentson June 30, 2009, which require disclosures about the fair value of financial instruments in interim as well as annual financial statements. For cash and cash equivalents, marketable
securities, accounts receivable, and accounts payable, the carrying amount approximates fair value because of the relative short maturity of those instruments.

The Companys available-for-sale investments consist of the following (in thousands):



|                |  |               |     |                       |  |                      |   |            |  |   |    
|--------------- |  | ------------- | --- | --------------------- |  | -------------------- | - | ---------- |  | - | ---
|                |  | June 30, 2009
|Debt Security   |  | Cost          |     | GrossUnrealizedLosses |  | GrossUnrealizedGains |   | Fair Value
|Corporate Notes |  | $             | 400 |                       |  |                      | $ | 3          |  | $ | 403
|                |  |               |     |                       |  |                      |   |            |  |   |    
|Total           |  | $             | 400 |                       |  |                      | $ | 3          |  | $ | 403
|                |  |               |     |                       |  |                      |   |            |  |   |    

There are no available-for-sale investments in a continuous unrealized loss position as of
June 30, 2009,

The following summarizes the contractual underlying maturities of the Companys available-for-sale investments at
June 30, 2009 (in thousands):



|                                       |  |      |     |            |   |    
|-------------------------------------- |  | ---- | --- | ---------- | - | ---
|                                       |  | Cost |     | Fair Value
|Due in one year or less                |  | $    | 400 |            | $ | 403
|Due after one year through three years |  |      |    |            |   |   
|Due after ten years                    |  |      |    |            |   |   
|                                       |  |      |     |            |   |    
|                                       |  | $    | 400 |            | $ | 403
|                                       |  |      |     |            |   |    



|5. | Guarantees
|-- | ----------

In certain geographical regions,
particularly Europe and Africa, we are required to issue performance guarantees to our customers as a condition of sale. These guarantees usually provide financial protection to our customers in the event that we fail to fulfill our warranty
obligations. We secure these guarantees with standby letters of credit through our bank. At June 30, 2009 and December 31, 2008 we had $96 and $491, respectively, of contingent liabilities outstanding to customers that were secured with
letters of credit.

In connection with one sale made in 2008 by our subsidiary company in the United Kingdom, as a condition of sale, we
(as parent of the subsidiary) guaranteed the performance of the subsidiary pursuant to the terms and conditions of the sale contract with the UK-based technology customer. We have not recorded any liability on our balance sheet for this guarantee as
it provides that we will not have to assume any greater liability under the contract than our subsidiary company, and because we believe that our subsidiary will meet all of its performance obligations relating to the sales contract.



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|6. | Revolving Line of Credit
|-- | ------------------------

We entered into a
modified Loan and Security Agreement (the Loan Agreement) with Silicon Valley Bank (SVB) in October 2008. The Loan Agreement provides for a secured revolving line of credit in an amount of up to $6 million subject to a
borrowing base formula. Three million dollars of this credit facility is secured under a U.S. government guaranteed export-import credit facility that would add a U.S. government guarantee to the payments for these foreign shipments and make more of
our foreign shipments eligible as security for the credit facility. The remaining $3 million credit facility does not have this guarantee, and is secured by first priority lien on substantially all of our assets. Prior to this modification to add
the export-import facility, export revenues were not eligible to be included as part of the borrowing base. This may have limited our ability to utilize the revolving credit facility. All amounts borrowed under this credit facility are subject to a
borrowing base formula based on eligible receivables and inventory.

The revolving loans under the Loan Agreement are secured by a first
priority lien on substantially all of our assets, provided that such security interest is limited to no more than 65% of the outstanding capital stock held by us of each of our subsidiaries. The obligations under the Loan Agreement are further
secured by an Intellectual Property Security Agreement, pursuant to which we granted to SVB a security interest in our registered and unregistered intellectual property.

The Loan Agreement requires us to maintain a minimum liquidity ratio of unrestricted cash to the outstanding amounts under the Loan Agreement of at least 1.35 to 1. In addition, the Loan Agreement contains customary
affirmative covenants, including covenants that require, among other things, the delivery of financial statements, compliance with laws, the maintenance of insurance and the protection and registration of intellectual property rights. Further, the
Loan Agreement contains customary negative covenants, including covenants that limit or restrict our ability to, among other things, dispose of assets, change our business, change our CEO or CFO, make acquisitions, be acquired, incur indebtedness,
grant liens, make investments, make distributions, repurchase stock, and enter into certain transactions with our affiliates, in each case subject to customary exceptions for a credit facility of this size and type.

The Loan Agreement includes customary events of default that include among other things, non-payment of principal, interest or fees, violation of
covenants, the occurrence of a material adverse change, bankruptcy and insolvency events, defaults under material agreements, material judgments against us and inaccuracy of representations and warranties. The occurrence of an event of default could
result in the acceleration of any outstanding obligations under the Loan Agreement.

During the year ended December 31, 2008 we
borrowed $2.0 million under the Loan Agreement and this balance remained outstanding at June 30, 2009. Based on the borrowing base formula, we had an additional $0.8 million available for use at June 30, 2009 under the Loan Agreement.



|7. | Equity
|-- | ------

On May 29, 2009,
we entered into a Securities Purchase Agreement with an institutional investor, pursuant to which the Company sold in a private placement 6,000,000 shares of its common stock, par value $0.001 per share, at a purchase price of $0.50 per share, or
$3,000,000 before expenses, which were immaterial. Pursuant to the Securities Purchase Agreement, we agreed to use commercially reasonable efforts to prepare and file as soon as reasonably practicable a registration statement covering the
resale of the Shares issued to the Purchasers and to use commercially reasonable efforts to cause such registration statement to become automatically effective or to be declared effective as soon as reasonably practicable, and in any event no later
than 4:30 p.m. Eastern time on the two hundred and tenth (210th) day following
the closing date.



|8. | Subsequent Events
|-- | -----------------

On July 16, 2009 we filed a
Tender Offer Statement on Schedule TO with the Securities and Exchange Commission. Pursuant to the Tender Offer Statement, we have offered eligible employees holding options to purchase shares of our common stock granted under the Companys
2000 Stock Incentive Plan, whether vested or unvested, the opportunity to exchange those options with an exercise price greater than $0.95 per share and that were granted prior to July 16, 2008, for lesser number of new options upon the terms
and subject to certain conditions of the offer. The new options would have a per-share exercise price equal to the closing fair market value of a share of the Companys common stock at the end of the offer period (currently expected to be
August 13, 2009). The Companys Board of Directors and executive officers are not eligible to participate in this offer. As of June 30, 2009, there were options to purchase 2,851,000 shares of Active Power common stock outstanding and
eligible to participate in this offer by our employees.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations.
|------- | --------------------------------------------------------------------------------------

The following discussion should be read in conjunction with, and is qualified in its entirety by reference to, the financial statements and notes
thereto included in Item 1 of this Form 10-Q and the financial statements and notes thereto and our Managements Discussion and Analysis of Financial Condition and Results of Operations for the year ended December 31, 2008 included in
our 2008 Annual Report on Form 10-K. This report contains forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, that involve risks and
uncertainties. Our expectations with respect to future results of operations that may be embodied in oral and written forward-looking statements, including any forward looking statements that may be included in this report, are subject to risks and
uncertainties that must be considered when evaluating the likelihood of our realization of such expectations. Our actual results could differ materially. The words believe, expect, intend, plan,
project, will and similar phrases as they relate to us are intended to identify such forward-looking statements. In addition, please see the Risk Factors in Part 1, Item 1A of our 2008 Annual Report on Form
10-K and in Part II, Item 1A of this Form 10-Q for a discussion of items that may affect our future results.

Overview

Active Power is a manufacturer and provider of critical power solutions incorporating uninterruptible power supply (UPS) systems that provide business
continuity to enterprises requiring protection against electrical power disturbances. Our products are designed to deliver continuous clean power, protecting customers from voltage fluctuations, such as surges and sags and frequency fluctuations,
and also to provide ride-through, or temporary, power to bridge the gap between a power outage and the restoration of utility power. Our target customers are those global enterprises requiring power insurance because they have zero
tolerance for downtime in their mission critical operations. The UPS products we manufacture utilize green technology to create a renewable energy source. These products are highly reliable, are energy and space efficient, and significantly reduce
client electricity expenses. As of June 30, 2009, we have shipped more than 2,200 flywheels in UPS system installations, delivering more than 550 megawatts of power to customers in more than 40 countries around the world. We are headquartered
in Austin, Texas, with international offices in the U.K., Germany and Japan.

Our patented flywheel-based UPS systems
store kinetic energy by constantly spinning a compact steel wheel (flywheel) driven from utility power in a low friction environment. When the utility power used to spin the flywheel fluctuates or is interrupted, the flywheels
inertia causes it to continue spinning. The resulting kinetic energy of the spinning flywheel generates electricity known as bridging power for short periods, until utility power is restored or a backup electricity generator starts and
takes over generating longer-term power in the case of an extended electrical outage. We believe our flywheel products provide many competitive advantages over conventional battery-based UPS systems, including substantial space savings; higher power
densities, green energy storage, and higher power efficiencies of up to 98%. This high energy efficiency reduces operating costs and provides customers a lower total cost of ownership. We offer our flywheel products with load
capabilities from 130 kVA to 8,400 kVA. We typically target higher power applications of 200 kVA and above, largely because a majority of customers in this market segment have backup generators.Our flywheel products are marketed under
the brand name CleanSource®. Our continuous power systems are marketed under the name PowerHouse and combine our UPS system
with switchgear and a generator to provide complete short- and long-term protection in the event of a power disturbance.

We believe a
number of underlying macroeconomic trends place Active Power in a strong position to be one of the leading providers of critical power protection. These trends include:



| |  |  | the ever-increasing demands placed on the public utility infrastructure;
| | - |  | ------------------------------------------------------------------------



| |  |  | an inadequate investment in global utility infrastructure;
| | - |  | ----------------------------------------------------------



| |  |  | rising costs of energy world wide;
| | - |  | ----------------------------------



| |  |  | significant costs of downtime;
| | - |  | ------------------------------



| |  |  | a rapidly expanding need for data centers that require reliable, efficient power; and
| | - |  | -------------------------------------------------------------------------------------



| |  |  | an increasing demand for economically green solutions.
| | - |  | ------------------------------------------------------

We have evolved significantly since our founding in 1992 as an engineering business focused on research, development and invention. The technological foundation of Active Power has yielded more than 150 worldwide
patents and a highly differentiated, cost-efficient product platform. Since 2005, we have changed our business focus to successfully commercialize our technologies by building the Active Power brand, expanding our sales distribution, focusing on
product cost reduction, and building technical innovations to serve clients with mission critical power applications globally.



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We sell our products to a wide array of commercial and industrial customers and across a variety of
vertical markets, including data centers, manufacturing, technology, broadcast and communications, financial, utilities, healthcare, government and airports. We have expanded our global sales channels and direct sales force, selling in all major
geographic regions of the world, but particularly in North America, Europe and Asia.



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Results of Operations



|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|--------------------------------- |  | --------------------------- | ------ | - | --------------------- | --- | -- | ---- | - | ------ | ---------------- |  | --- | -- |  | - | ------ | - |  | ---- | --
|($ in thousands)                  |  | Three months ended June 30, |        |   | Variance2009 vs. 2008 |    
|                                  |  | 2009                        |        |   | % oftotalrevenue      |     |    | 2008 |   |        | % oftotalrevenue |  |     | $  |  |   | %      |  
|Product revenue                   |  | $                           | 5,207  |   |                       | 79  | %  |      | $ | 5,592  |                  |  | 82  | %  |  | $ | (385   | ) |  | (7   | )%
|Service and other revenue         |  |                             | 1,423  |   |                       | 21  | %  |      |   | 1,196  |                  |  | 18  | %  |  |   | 227    |   |  | 19   | % 
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Total revenue                     |  |                             | 6,630  |   |                       | 100 | %  |      |   | 6,788  |                  |  | 100 | %  |  |   | (158   | ) |  | (2   | )%
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Cost of product revenue           |  |                             | 4,222  |   |                       | 64  | %  |      |   | 4,765  |                  |  | 70  | %  |  |   | (543   | ) |  | (11  | )%
|Cost of service and other revenue |  |                             | 933    |   |                       | 14  | %  |      |   | 1,081  |                  |  | 16  | %  |  |   | (148   | ) |  | (14  | )%
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Total cost of revenue             |  |                             | 5,155  |   |                       | 78  | %  |      |   | 5,846  |                  |  | 86  | %  |  |   | (691   | ) |  | (12  | )%
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Gross profit                      |  |                             | 1,475  |   |                       | 22  | %  |      |   | 942    |                  |  | 14  | %  |  |   | 533    |   |  | 57   | % 
|Operating expenses:               |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Research and development          |  |                             | 1,058  |   |                       | 16  | %  |      |   | 1,304  |                  |  | 19  | %  |  |   | (246   | ) |  | (19  | )%
|Selling and marketing             |  |                             | 2,660  |   |                       | 40  | %  |      |   | 3,055  |                  |  | 45  | %  |  |   | (395   | ) |  | (13  | )%
|General and administrative        |  |                             | 1,177  |   |                       | 18  | %  |      |   | 1,186  |                  |  | 17  | %  |  |   | (9     | ) |  | (1   | )%
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Total operating expenses          |  |                             | 4,895  |   |                       | 74  | %  |      |   | 5,545  |                  |  | 82  | %  |  |   | (650   | ) |  | (12  | )%
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Operating loss                    |  |                             | (3,420 | ) |                       | (52 | )% |      |   | (4,603 | )                |  | (68 | )% |  |   | (1,183 | ) |  | (26  | )%
|Interest income (expense)         |  |                             | (18    | ) |                       |    |    |      |   | 91     |                  |  | 1   | %  |  |   | (109   | ) |  | (120 | )%
|Other income (expense)            |  |                             | (28    | ) |                       |    |    |      |   | 85     |                  |  | 1   | %  |  |   | (113   | ) |  | (133 | )%
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Net loss                          |  | $                           | (3,466 | ) |                       | (52 | )% |      | $ | (4,427 | )                |  | (65 | )% |  | $ | (961   | ) |  | (22  | )%
|                                  |  |                             |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   



|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|--------------------------------- |  | ------------------------- | ------ | - | --------------------- | --- | -- | ---- | - | ------ | ---------------- |  | --- | -- |  | - | ------ | - |  | ---- | --
|($ in thousands)                  |  | Six months ended June 30, |        |   | Variance2009 vs. 2008 |    
|                                  |  | 2009                      |        |   | % oftotalrevenue      |     |    | 2008 |   |        | % oftotalrevenue |  |     | $  |  |   | %      |  
|Product revenue                   |  | $                         | 14,916 |   |                       | 84  | %  |      | $ | 11,840 |                  |  | 83  | %  |  | $ | 3,076  |   |  | 26   | % 
|Service and other revenue         |  |                           | 2,857  |   |                       | 16  | %  |      |   | 2,486  |                  |  | 17  | %  |  |   | 371    |   |  | 15   | % 
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Total revenue                     |  |                           | 17,773 |   |                       | 100 | %  |      |   | 14,326 |                  |  | 100 | %  |  |   | 3,447  |   |  | 24   | % 
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Cost of product revenue           |  |                           | 11,123 |   |                       | 63  | %  |      |   | 10,422 |                  |  | 73  | %  |  |   | 701    |   |  | 7    | % 
|Cost of service and other revenue |  |                           | 1,913  |   |                       | 11  | %  |      |   | 2,179  |                  |  | 15  | %  |  |   | (266   | ) |  | (12  | )%
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Total cost of revenue             |  |                           | 13,036 |   |                       | 73  | %  |      |   | 12,601 |                  |  | 88  | %  |  |   | 435    |   |  | 3    | % 
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Gross profit                      |  |                           | 4,737  |   |                       | 27  | %  |      |   | 1,725  |                  |  | 12  | %  |  |   | 3,012  |   |  | 175  | % 
|Operating expenses:               |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Research and development          |  |                           | 2,159  |   |                       | 12  | %  |      |   | 2,706  |                  |  | 19  | %  |  |   | (547   | ) |  | (20  | )%
|Selling and marketing             |  |                           | 5,990  |   |                       | 34  | %  |      |   | 6,005  |                  |  | 42  | %  |  |   | (15    | ) |  |     |   
|General and administrative        |  |                           | 2,316  |   |                       | 13  | %  |      |   | 2,368  |                  |  | 17  | %  |  |   | (52    | ) |  | (2   | )%
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Total operating expenses          |  |                           | 10,465 |   |                       | 59  | %  |      |   | 11,079 |                  |  | 77  | %  |  |   | (614   | ) |  | (6   | )%
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Operating loss                    |  |                           | (5,728 | ) |                       | (32 | )% |      |   | (9,354 | )                |  | (65 | )% |  |   | (3,626 | ) |  | (39  | )%
|Interest income (expense)         |  |                           | (28    | ) |                       |    |    |      |   | 254    |                  |  | 2   | %  |  |   | (282   | ) |  | (111 | )%
|Other income (expense)            |  |                           | (77    | ) |                       |    |    |      |   | 204    |                  |  | 1   | %  |  |   | (281   | ) |  | (138 | )%
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   
|Net loss                          |  | $                         | (5,833 | ) |                       | (33 | )% |      | $ | (8,896 | )                |  | (62 | )% |  | $ | (3,063 | ) |  | (34  | )%
|                                  |  |                           |        |   |                       |     |    |      |   |        |                  |  |     |    |  |   |        |   |  |      |   



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Product revenue. Product revenue consists of sales of our CleanSource power quality
products, comprised of both UPS and DC product lines, and sales of Continuous Power Systems (CPS) which are comprised of our UPS systems and some combination of third-party ancillary equipment, such as engine generators and electrical and switchgear
products. The CPS products may be sold in a containerized solution that we call PowerHouse, or as separate equipment. Product revenue also includes sales of our CoolAir DC and CoolAir UPS products.

The decrease in product revenue from the second quarter of 2008 was due to lower sales volume of our UPS products, particularly in our European market.
We believe that external economic factors have caused customers to delay product purchase decisions due to uncertainty or lack of liquidity, and this has resulted in a lengthened sales cycle for our products. This lower volume also impacted all of
our distribution channels. Our UPS products represented approximately 60% of our total revenue in the second quarter of 2009, compared to 75% of total revenue in the second quarter of 2008. The average selling price during the second quarter of 2009
was $72,000 per quarter-megawatt flywheel, compared to $82,000 in the comparable period in 2008. The decrease in average selling price compared to 2008 was primarily a result of the sale of multiple units of our 1200kVA UPS product to our OEM
partner this quarter at reduced prices, due to our decision to discontinue this unique product platform, and to replace it with a functionally equivalent product based on our standard UPS product family platform.

For the six-month period ended June 30, 2009, our product revenues were 26 percent higher than the comparable period of 2008. This higher sales
volume reflects the fact that we were able to build a substantial backlog of orders in 2008 including many that shipped in the beginning of 2009, before we saw the impacts of external economic factors on our level of new orders. This increase
compared to the prior year is primarily in our North American and Asian markets and reflects stronger demand for our product technology in those markets.

During the three-month period ended June 30, 2009 we sold 55 flywheel units compared to 62 flywheel units in the comparable period of 2008. For the six month period ended June 30, 2009 we sold 174 wheels
which compares to 126 wheels sold in the comparable period of 2008. A single product, depending on its power rating, may be comprised of multiple flywheel units, so the number of wheels sold does not correlate to the number of orders received.

The frequency and timing of our larger system sales, including megawatt class UPS products, made directly by us is more unpredictable than
orders received directly from our OEM partners and the variability in the receipt of such large orders can result in material changes in period-to-period revenue. Such revenues may also occur in periods other than when originally anticipated, which
can add to the potential variability in our quarterly financial results and affect our ability to meet forecasted targets. For example, the absence of large system sales in the first and second quarters of 2009 contributed to the decrease in total
revenues from their respective immediately preceding quarters.

North American sales remained steady at 77% of our total revenue for the
three-month periods ended June 30, 2009 and 2008, and were 76% of total revenue in the first quarter of 2009. In absolute terms, our North American sales were 2% lower than the second quarter of 2008, which is consistent with the year-over-year
decrease of 2% in total revenues. For the six months ended June 30, 2009, our North American sales were 77% of total revenue, which compared to 69% of total revenue in the comparable period of 2008. In total, our North American sales increased
by 39% for the six month period ended June 30, 2009 compared to the comparable period of 2008, reflecting the overall growth in acceptance and market for our product.

Since 2005 we have been increasing the size of our direct sales organization in an effort to expand the territories in which we sell our Active Power
branded products. Most of this effort initially was focused in the EMEA market where we now have multiple Active Power sales offices and distributors who buy and resell our products. In 2007, we also opened our first Asian sales office in Tokyo.
Sales of Active Power branded products through our direct and manufacturers representative channels were 61% of our total revenues for the three-month period ended June 30, 2009, compared to 50% for the same period of 2008, and were 58%
of our total revenues for the six-month period ended June 30, 2009 compared to 53% for the same period of 2008. As direct sales typically have higher profit margins than sales through our OEM channels, we will continue to focus on our direct
sales channel to increase revenue and improve profit margins. We believe sales of our Active Power branded products to government facilities and industrial customers in regions that were not covered by our OEMs will continue to increase over time
and will continue to become a larger percentage of our total revenue. We believe that our direct sales volumes have not been impacted as much by external factors compared to our OEM channels. This is highlighted by the fact that our direct sales
increased by 37% in total for the six month period ended June 30, 2009 compared to the comparable period of 2008. This growth compares to 10% growth for our OEM channel over the same periods.

Caterpillar remains our largest OEM partner and largest overall customer and represented 38% of our revenue for the three-month period ended
June 30, 2009, compared to 50% of our revenue for the three-month period ended June 30, 2008, and 41% of our revenue for the six month period ended June 30, 2009, compared to 47% of our revenue for the six month period ended
June 30, 2008. We have had recent success with Caterpillar selling our megawatt-class UPS products along with their large engine generators, and expect total revenue from this channel to continue to increase in 2009 in absolute terms.



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Our products perform well in harsh environments where power quality or reliability is particularly poor,
which makes them a good fit for countries with a poor power infrastructure or in harsh manufacturing or process environments, or situations where reliability is paramount, such as mission-critical business applications. Therefore we have
traditionally focused our direct sales efforts on these types of customer situations. Due to the large size of some of our customer orders relative to our current total revenue levels, our quarterly total revenue trend and the proportion of sales
made directly by us can be expected to fluctuate.

Service and other revenue. Service and other revenue primarily relates to
revenue generated from both traditional (after-market) service work and from customer-specific system engineering. This includes revenue from design, installation, startup, repairs or reconfigurations of our products, and the sale of spare or
replacement parts to our OEM and end-user customers. It also includes revenue associated with the costs of travel of our service personnel and revenues or fees received upon contract deferment or cancellation.

Service and other revenue increased by 19% for the three-month period ended June 30, 2009, compared to the same prior year period. This increase is
primarily due to higher levels of service and contract work from direct product sales made in prior quarters. For some of these customers we provide a full power solution, including site preparation, installation of an entire power solution and
provision of all products required to provide a turnkey product to the end user. Where we make sales through our OEM channel, it is typical for the OEM to provide these types of services to their end-user customers. We anticipate that service and
other revenue will continue to grow with product revenue and as our installed base of product expands, because as more units are sold to customers, more installation, startup and maintenance services will be required.

For the six month period ended June 30, 2009, our service and other revenues increased by 15% when compared to the same period of 2008. This
reflects our larger installed base of customers that purchased products directly from us, a higher level of customers with maintenance contract agreements, and a higher level of business activity from higher product volumes, which includes greater
levels of installation and start up of product, as well as project opportunities.

Cost of product revenue. Cost of product
revenue includes the cost of component parts of our products or ancillary equipment that are sourced from external suppliers, personnel, equipment and other costs associated with our assembly and test operations, including costs from having
underutilized facilities, shipping costs, warranty costs, and the costs of manufacturing support functions such as logistics and quality assurance.

The cost of product revenue as a percentage of total product revenue decreased from 85% in the second quarter of 2008 to 81% in the three-month period ended June 30, 2009 due to the effects of lower product costs and from lower levels
of manufacturing overhead. We have instituted programs to reduce product and component costs where feasible, and this has resulted in a decrease in materials costs as a percentage of product revenue and helped us to mitigate the impact of
fluctuating raw commodity pricing on our total product costs. We continue to operate a manufacturing facility that has a capacity level significantly greater than our current product revenue levels. In addition, a large portion of the costs involved
in operating our manufacturing facility are fixed in nature and we incur approximately $750,000 to $1.0 million in unabsorbed overhead each quarter. We continue to work on reducing our product costs through design enhancements and modifications, and
vendor management programs. The accomplishment of material gross-margin levels is heavily dependent upon our sales channel mix and the effectiveness of our product pricing to our customers as well as the volume of flywheels manufactured. Our ability
to maintain and grow positive product gross margin will depend on multiple factors, including our ability to continue to reduce material costs, improve our sales channel mix in favor of direct sales versus OEM, increase product prices, and increase
our total revenues to a level that will allow us to improve the utilization of our manufacturing operations.

For the six months ended
June 30, 2009 the cost of product revenue decreased to 63% of total revenue, compared to 73% of total revenue for the same period of 2008. This improvement reflects the impact of increased flywheels sold, which causes improved efficiency in our
manufacturing organization and lower unabsorbed overhead costs, as well as the impact of material and overhead cost reductions.

Items that
could impact our ability to further improve our gross margin include sales product volume and mix, pricing discounts and customer incentives, currency fluctuations, and variations in our product cost and productivity.

Cost of service and other revenue. Cost of service and other revenue includes the cost of component parts that we use in service or sell as
spare parts, as well as labor and overhead costs of our service organization, including travel and related costs incurred in fulfilling our service obligations to our customers.



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The cost of service and other revenue decreased to 66% of service and other revenue in the three-month
period ended of June 30, 2009, compared to 90% in the same period of 2008, and decreased to 67% of service and other revenue in the six month period ended June 30, 2009, compared to 88% in the same period of 2008. This decrease reflects
better utilization of our service personnel, improved pricing for service, and higher margins on contract work compared to the prior period and the benefits of higher service volume to help meet the fixed costs of our service infrastructure. Many of
the costs of the service organization are fixed in nature, and higher volume of installation, startup and service work is resulting in improved efficiency and operating results for this group. We expect this trend to continue during the remainder of
2009.

Research and development. Research and development expense primarily consists of compensation and related costs of
employees engaged in research, development and engineering activities, third party consulting and product development activities, as well as an allocated portion of our occupancy costs. Overall our research and development expenses were $246,000, or
19%, lower in the second quarter of 2009 compared to the second quarter of 2008, and were $43,000, or 4%, lower than the first quarter of 2009. For the six month period ended June 30, 2009, our research and development expenses were $547,000 or
20% lower than the comparable period of 2008. These decreases from the same period in 2008 were due to headcount reductions compared to 2008 and lower project related development costs this year. The prior year expenses included higher prototype and
development costs for paralleling our megawatt-class UPS products. We believe research and development expenses in the third quarter will remain at similar levels to those recorded in the second quarter.

Selling and marketing.Selling and marketing expense primarily consists of compensation, including variable sales compensation, and related
costs, for sales and marketing personnel, and related travel, selling and marketing expenses, as well as an allocated portion of our occupancy costs and the cost of our foreign sales operations. Selling and marketing costs were $395,000, or 13%,
lower in the second quarter of 2009 compared to the amount recorded in the second quarter of 2008, and were $670,000, or 20%, lower than first quarter of 2009. The decrease from the same period in 2008 reflects decreased spending on marketing
activities in 2009, including tradeshows, as well as decreased third party manufacturing representative commissions. The decrease in our sales and marketing costs from first quarter of 2009 is due to decreased variable sales compensation associated
with the decrease in revenue from first quarter, as well as decreased spending on marketing activities. For the six month period ended June 30, 2009 our selling and marketing costs were approximately the same as the amount recorded in 2008,
despite the higher revenue levels in this same period. Our total headcount in sales and marketing in the second quarter of 2009 remained at similar levels to the prior quarter, although we have changed the composition of our sales team over the last
year as we expand our direct sales force. We believe that sales and marketing expenses will remain at similar levels in the third quarter of 2009 to those recorded in the second quarter of 2009 except for changes in variable selling expenses, based
on fluctuations in total revenue.

General and administrative. General and administrative expense is primarily comprised of
compensation and related costs for executive and administrative personnel, professional fees, and taxes, including sales, property and franchise taxes. General and administrative expenses for the second quarter of 2009 remained steady compared to
the levels of the same period in 2008 and increased by $38,000, or 3%, from the immediately preceding quarter. This increase from the three-month period ended March 31, 2009 predominantly reflects higher professional fees incurred in connection
with the private placement of securities in the second quarter and with the employee stock option exchange program that was approved by the stockholders at the 2009 Annual Meeting. Absent the impact of such expenses from the option exchange program,
we anticipate that the level of general and administrative expenses should stay at similar levels in the third quarter of 2009.

Interest income (expense).Interest income (expense) has decreased from $91,000 in the three-month period ended June 30, 2008 to ($18,000) in the three-month period ended June 30, 2009. This reflects the decrease in
our average cash and investments balance compared to the prior year as we have used our investments to fund operations, decreasing interest rates available in credit markets and interest expense paid on balances outstanding under our Loan Agreement.
Our average cash and investments balance over the three month period ending June 30, 2009 has decreased by approximately $4.7 million, or 30%, compared to the average balance over the comparable period ending June 30, 2008.

Other income (expense).Other income (expense) in the second quarter of 2009 reflects foreign exchange gains (losses) on a bank account
held in foreign currency. Other income in the second quarter of 2008 includes our sale of previously expensed equipment as well as foreign exchange gains on a bank account held in foreign currency.

Liquidity and Capital Resources

Our primary sources
of liquidity at June 30, 2009 are our cash and investments on hand, our bank credit facilities and projected cash flows from operating activities. If we meet our cash flow projections in our current business plan, we expect that we will not
require additional financing in order to continue operating and growing our business during the next twelve months. Our business plan and our assumptions around the adequacy of our liquidity are based on estimates regarding expected revenues and
future costs. However, there are scenarios in which our revenues may not meet our projections or our costs may exceed our estimates. Further, our estimates may change and future events or developments may also affect our



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estimates. Any of these factors may change our expectation of cash usage in 2009 and beyond or significantly affect our level of liquidity, which may require
us to seek additional financing or take other measures to reduce our operating costs in order to continue operating. Our cash and investments at June 30, 2009 totaled $11.7 million.

On May 29, 2009, we entered into a Securities Purchase Agreement with an institutional investor, pursuant to which the Company
sold in a private placement 6,000,000 shares of its common stock, par value $0.001 per share, at a purchase price of $0.50 per share, or $3,000,000 in the aggregate. Pursuant to the Securities Purchase Agreement, we agreed to use commercially
reasonable efforts to prepare and file as soon as reasonably practicable a registration statement covering the resale of the shares issued to the purchasers and to use commercially reasonable efforts to cause such registration statement to become
automatically effective or to be declared effective as soon as reasonably practicable, and in any event no later than 4:30 p.m. Eastern time on the two hundred and tenth (210th) day following the closing date.

Should additional funding be required, we may need to raise the required funds through borrowings or public or private sales of debt or equity securities. If we raise additional funds through the issuance of debt or
equity securities, the percentage ownership of our stockholders could be significantly diluted. If we obtain additional debt financing, a substantial portion of our operating cash flow may be dedicated to the payment of principal and interest on
such indebtedness, and the terms of the debt securities issued could impose significant restrictions on our operations. We do not know whether we will be able to secure additional funding, or funding on terms acceptable to us, to continue our
operations as planned. If financing is not available, we may be required to reduce, delay or eliminate certain activities or to license or sell to others some of our proprietary technology.

We entered into a modified Loan and Security Agreement (the Loan Agreement) with Silicon Valley Bank (SVB) in October 2008. The
Loan Agreement provides for a secured revolving line of credit in an amount of up to $6.0 million, subject to a borrowing base formula. The Loan Agreement provides for a U.S. export-import credit facility that would add a U.S. government guarantee
to the payments for these foreign shipments and make more of our foreign shipments eligible as security for the credit facility. Prior to this modification, export revenues were not eligible to be included as part of the borrowing base, which may
have limited our ability to utilize the revolving credit facility. All amounts borrowed under this facility are subject to a borrowing base formula based on eligible receivables and inventory. During the year ended December 31, 2008, we
borrowed $2.0 million under the Loan Agreement and this balance remained outstanding at June 30, 2009. Based on the borrowing base formula, we had an additional $0.8 million available for use at June 30, 2009 under the Loan Agreement.

The Loan Agreement requires us to maintain a minimum liquidity ratio of unrestricted cash to the outstanding amounts under the Loan
Agreement of at least 1.35 to 1. In addition, the Loan Agreement contains customary affirmative covenants, including covenants that require, among other things, the delivery of financial statements, compliance with laws, the maintenance of insurance
and the protection and registration of intellectual property rights. Further, the Loan Agreement contains customary negative covenants, including covenants that limit or restrict our ability to, among other things, dispose of assets, change our
business, change our CEO or CFO, make acquisitions, be acquired, incur indebtedness, grant liens, make investments, make distributions, repurchase stock, and enter into certain transactions with our affiliates, in each case subject to customary
exceptions for a credit facility of this size and type.

Revolving loans under this credit facility may be borrowed, repaid and re-borrowed
until October 5, 2010, at which time all amounts borrowed must be repaid and all outstanding letters of credit must be cash collateralized. Revolving loans bear interest at a floating per annum rate equal to the greater of (i) SVBs
prime rate plus 0.25% or (ii) 5.25%. A default interest rate shall apply during an event of default at a rate per annum equal to 5.0% above the otherwise applicable interest rate. The revolving loans are secured by a first priority lien on
substantially all of our assets, provided that such security interest is limited to no more than 65% of the outstanding capital stock of each of our subsidiaries held by us.

The Loan Agreement includes customary events of default that include among other things, non-payment of principal, interest or fees, violation of
covenants, the occurrence of a material adverse change, bankruptcy and insolvency events, defaults under material agreements, material judgments against us and inaccuracy of representations and warranties. The occurrence of an event of default could
result in the acceleration of any outstanding obligations under the Loan Agreement.

The following table summarizes the quarterly changes
in cash used in operating activities:



|                                  |  |                         |        |   |                       |   |        |   |  |   |        |   |  |     |   
|--------------------------------- |  | ----------------------- | ------ | - | --------------------- | - | ------ | - |  | - | ------ | - |  | --- | --
|($ in thousands)                  |  | Six monthsendedJune 30, |        |   | Variance2009 vs. 2008 |  
|                                  |  | 2009                    |        |   | 2008                  |   |        | $ |  |   | %      |  
|Cash used in operating activities |  | $                       | (2,459 | ) |                       | $ | (8,058 | ) |  | $ | (5,599 | ) |  | (69 | )%



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Cash used in operating activities decreased by 69% in the six month period ended June 30, 2009
compared to the same period of 2008. Approximately $3.6 million of this decrease was due to lower operating losses in our business in 2009 compared to 2008. The rest of the decrease in cash used in operating activities was due to changes in our
working capital. In 2008, we had increased investment in receivables and inventory during the first half of the year, as well as decreased amounts of deferred revenue. In the first half of 2009, due to the fact that our revenues were declining from
the immediately preceding periods, we were able to generate funds from operation by decreasing our receivables as we collected prior sales. Also due to the timing of specific customer orders, particularly in Europe, we were able to increase our
deferred revenues by $772,000 as we collected deposits and interim payments from customers to help fund the procurement and building of products. These gains were offset by an increase in inventory in the second quarter of 2009 as we manufactured
product in anticipation of orders that were subsequently delayed. We anticipate that the level of cash used in operating activities will decrease slightly in the third quarter as we continue to have fluctuations in our working capital.

The following table summarizes the quarterly changes in cash provided by investing activities:



|                                      |  |                          |    |                       |   |       |  |   |        |   |  |     |   
|------------------------------------- |  | ------------------------ | -- | --------------------- | - | ----- |  | - | ------ | - |  | --- | --
|($ in thousands)                      |  | Six months endedJune 30, |    | Variance 2009vs. 2008 |  
|                                      |  | 2009                     |    | 2008                  |   | $     |  |   | %      |  
|Cash provided by investing activities |  | $                        | 87 |                       | $ | 4,566 |  | $ | (4,479 | ) |  | (98 | )%

Investing activities primarily consist of sales and purchases of investments and purchases of
property and equipment. Fluctuations in the sale and purchase of investments generally reflect our use of these funds to finance our ongoing operations. Capital expenditures were $213,000 in the six month period ending June 30, 2009 compared to
$668,000 in the same period of 2008.

The following table summarizes the quarterly changes in cash used in financing activities:



|                                                |  |                          |       |      |                       |     |   |  |       |  |      |  
|----------------------------------------------- |  | ------------------------ | ----- | ---- | --------------------- | --- | - |  | ----- |  | ---- | -
|($ in thousands)                                |  | Six months endedJune 30, |       |      | Variance2009 vs. 2008 |    
|                                                |  | 2009                     |       | 2008 |                       |     | $ |  | %     | 
|Cash provided by (used in) financing activities |  | $                        | 3,000 |      | $                     | (36 | ) |  | 3,036 |  | 8433 | %

Funds provided by financing activities during the six months ended June 30, 2009 reflect the
sale of common stock through a private placement to an institutional investor pursuant to which we sold 6.0 million shares of common stock at $0.50 per share. The financing closed on May 29, 2009. The funds used in financing activities
during the six months ended June 30, 2008 reflect the purchase of treasury shares offset by proceeds from employee share purchases.

We believe that our cash and investments will be sufficient to fund our operations for at least the next 12 months. We have prepared multiple scenarios for anticipated revenues in 2009, both favorable and unfavorable, to reflect the high
level of uncertainty about the macroeconomic environment in which we operate our business. Our sales cycle is such that we generally have visibility 2-3 quarters in advance for future orders that allows us to predict revenues over this period of
time with some degree of confidence though the recent global economic slump has reduced our confidence factors somewhat. This window also provides us with some opportunity to adjust expenditures or take other measures to reduce our cash consumption
if we can see and anticipate a shortfall in revenue. Based on the different scenarios we modeled for 2009, we believe that we can continue to manage operations and manage our working capital with the cash and investments on hand as at June 30,
2009 without the need for a further capital raise.

As noted above, we believe our existing cash and investments at June 30, 2009 will
be sufficient to meet our cash requirements through at least the next 12 months, although we may elect to seek additional funding prior to that time. Beyond the next 12 months, our cash requirements will depend on many factors, including the rate of
sales growth, the success of our direct selling strategy, the market acceptance of our products, including in particular the PowerHouse product family, the timing and level of development funding, the rate of expansion of our sales and marketing
activities, the efficiency of our manufacturing processes, and the timing and extent of research and development projects. Although we are not a party to any agreement or letter of intent with respect to a potential acquisition or merger, we may
enter into acquisitions or strategic arrangements in the future, which could also require us to seek additional equity or debt financing.



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Recent Accounting Pronouncements

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (FAS No. 157). FAS No. 157 defines fair value,
establishes a framework for measuring fair value and enhances disclosures about fair value measurements required under other accounting pronouncements, but does not change existing guidance as to whether or not an instrument is carried at fair
value. In February 2008, the FASB issued FSP FAS 157-2, Effective Date of FASB Statement No. 157 which delayed the implementation of the provisions of FAS No. 157 with regard to non-financial assets and liabilities that are not
carried at fair value on a recurring basis in financial statements. We have implemented FAS No. 157 for our nonfinancial assets and liabilities that are remeasured at fair value on a non-recurring basis as of January 1, 2009. The adoption
of FAS No. 157 for our nonfinancial assets and liabilities that are remeasured at fair value on a non-recurring basis did not have a material impact on our financial position or results of operations; however, it could have an impact in future
periods. In addition, we may have additional disclosure requirements in the event we complete an acquisition or incur impairment of our assets in future periods.

In April 2009, FASB issued FSP SFAS No. 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not
Orderly. FSP SFAS No. 157-4 provides guidelines for making fair value measurements more consistent with the principles presented in SFAS No. 157, Fair Value Measurements. This FSP relates to determining fair values when
there is no active market or where the price inputs being used represent distressed sales. It reaffirms what SFAS No. 157 states is the objective of fair value measurementto reflect how much an asset would be sold for in an orderly
transaction (as opposed to a distressed or forced transaction) at the date of the financial statements under current market conditions. Specifically, it reaffirms the need to use judgment to ascertain if a formerly active market has become inactive
and in determining fair values when markets have become inactive. The FSP is effective for the Companys annual reporting for the fiscal year 2009. The Company is currently evaluating the impact of the implementation of FSP SFAS No. 157-4
on its consolidated financial position, results of operations and cash flows.

In December 2007, the FASB issued Statement of Financial
Accounting Standards No. 141R (revised 2007), Business Combinations, or SFAS 141(R), which establishes the acquisition method to account for business combinations. SFAS 141(R) requires the acquiring entity to recognize all of the
assets acquired and liabilities assumed in the transaction, establishes the acquisition-date fair value as the measurement objective for all assets acquired and liabilities assumed and requires the acquirer to disclose to investors and other users
all of the information they need to evaluate and understand the nature and financial effect of the business combination. These rules will be effective for transactions closing after January 1, 2009.

In April 2009, FASB issued FSP FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments,which
provides additional guidance designed to create greater clarity and consistency in accounting for and presenting impairment losses on securities. These standards are effective for periods ending after June 15, 2009. Accordingly, the Company
adopted the provisions of FSP FAS 115-2 and FAS 124-2 on March 29, 2009. The adoption of this guidance did not have a material impact on our consolidated financial position, results of operations or cash flows. However, the provisions of FSP
FAS 115-2 and FAS 124-2 result in additional disclosures with respect to the fair value of the Companys investments with unrealized losses that are not deemed to be other-than-temporarily impaired. See Note 4, Fair Value of Financial
Instruments,for these additional disclosures.

In April 2009, FASB issued FSP FAS 107-1 and APB 28-1, Interim
Disclosures about Fair Value of Financial Instruments,which amends SFAS No. 107, Disclosures about Fair Value of Financial Instruments, to require disclosures about fair value of financial instruments in interim as well
as annual financial statements. This standard is effective for periods ending after June 15, 2009. Accordingly, the Company adopted the provisions of FSP FAS 107-1 and APB 28-1 on June 30, 2009. The adoption of this guidance did not have a
material impact on our consolidated financial position, results of operations or cash flows. However, the provisions of FSP FAS 107-1 and APB 28-1 result in additional disclosures with respect to the fair value of the Companys financial
instruments. See Note 4,Fair Value of Financial Instruments, for these additional disclosures.

In May 2009, the FASB issued
SFAS No. 165, Subsequent Events(SFAS No. 165), which provides guidance to establish general standards of accounting for, and disclosures of, events that occur after the balance sheet date but before
financial statements are issued or are available to be issued. SFAS 165 is effective for interim or fiscal periods ending after June 15, 2009. Accordingly, the Company adopted the provisions of SFAS No. 165 on June 30, 2009. The
adoption of this guidance did not have a material impact on our consolidated financial position, results of operations or cash flows. However, the provisions of SFAS No. 165 result in additional disclosures with respect to subsequent events.
See Note 1.



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|Item 3. | Quantitative and Qualitative Disclosures about Market Risk
|------- | ----------------------------------------------------------

We invest our cash in a variety of financial instruments, including bank time deposits, and taxable variable rate and fixed rate obligations of corporations, municipalities, and local, state and national government entities and agencies.
These investments are denominated in U.S. dollars.

Our interest income is sensitive to changes in the general level of U.S. interest
rates, particularly since the majority of our investments are in short-term instruments. We believe that our investment policy is conservative, both in terms of the average maturity of investments that we allow and in terms of the credit quality of
the investments we hold. We estimate that a 1% decrease in market interest rates would decrease our annual interest income by approximately $0.1 million. Because of the nature of the majority of our investments, we do not believe a 1% decline in
interest rates would have a material effect on their fair value.

Our international sales have historically been made in U.S. dollars. As
we have increased sales in foreign markets and opened operations in multiple foreign countries, we have executed more transactions that are denominated in other currencies, primarily euros and British pounds. Those sales and expenses in currencies
other than U.S. dollars can result in transaction gains and losses which have not been significant to date. Currently, we do not engage in hedging activities for our international operations other than an increasing amount of sales and support
expenses being incurred in foreign currencies as a natural hedge. However, recent volatility in currencies, particularly with the pound and euro, is increasing the amount of potential translation gains and losses and we may engage in hedging
activities in the future to mitigate the risks caused by such currency volatility.

Our international business is subject to the typical
risks of any international business, including, but not limited to, the risks described in Item 1ARisk Factors in our 2008 Annual Report on Form 10-K. Accordingly, our future results could be materially harmed by the actual
occurrence of any of these or other risks.



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

Evaluation of disclosure controls and
procedures.

We performed an evaluation under the supervision and with the participation of our management, including our Chief
Executive Officer (CEO) and Chief Financial Officer (CFO), of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d -15(e) under the Securities Exchange Act of 1934. Based on
their evaluation, our management, including our CEO and CFO, concluded that our disclosure controls and procedures were effective as of June 30, 2009 (the end of the period covered by this Quarterly Report on Form 10-Q) to ensure that
information required to be disclosed by us in the reports filed or submitted by us under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms.

Changes in internal control over financial reporting.

During the three months ended June 30, 2009 there was no change in our internal control over financial reporting that occurred that has materially affected, or that we believe is reasonably likely to materially affect, our internal
control over financial reporting, as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act.

PART IIOTHER
INFORMATION



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

We are, from time to time,
subject to various legal proceedings, claims and litigation arising in the ordinary course of business. We do not believe we are party to any currently pending legal proceedings the outcome of which may have a material effect on our operations or
consolidated financial position. There can be no assurance that existing or future legal proceedings arising in the ordinary course of business or otherwise will not have a material adverse affect on our financial position, results of operations or
cash flows.



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

You should carefully consider the risks described
in Item 1A of our 2008 Annual Report on Form 10-K before making a decision to invest in our common stock or in evaluating Active Power and our business. The risks and uncertainties described in our 2008 Annual Report on Form 10-K are not the
only ones we face. Additional risks and uncertainties that we do not presently know, or that we currently view as immaterial, may also impair our business operations. This report is qualified in its entirety by these risk factors.



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The actual occurrence of any of the risks described in our 2008 Annual Report on Form 10-K could materially harm our
business, financial condition and results of operations. In that case, the trading price of our common stock could decline.

Our increased emphasis
on a direct sales model and our transaction and customer concentration may affect our ability to accurately predict the timing of revenues and to meet short-term expectations of operating results.

Our increased emphasis on a direct sales model has increased the effort and time required by us to complete sales to customers. Further, a larger portion
of our quarterly revenue is derived from relatively few large transactions with relatively few customers. For example, in the second quarter of 2009, our five largest customers contributed 58% of our revenue. Our shift to the direct sales model, or
any delay in completing these large sales transactions or reduction in the number of customers or large transactions, may result in significant fluctuations in our quarterly revenue. Further, we use anticipated revenues to establish our operating
budgets and a large portion of our expenses, particularly rent and salaries are fixed in the short term. As a result, any shortfall or delay in revenue could result in increased losses and would likely cause our operating results to be below public
expectations. The occurrence of any of these events would likely cause the market price of our common stock to decline.

Our common stock could be
delisted from the NASDAQ Global Market if our stock price continues to trade below $1.00 per share.

On August 18, 2008, we
received a Staff Deficiency Letter from The NASDAQ Stock Market LLC, or NASDAQ, notifying us that we were not in compliance with NASDAQs Marketplace Rule 4450(a)(5), or the Rule, because the closing bid price for our Common Stock had, for the
preceding 30 consecutive business days, closed below the minimum $1.00 per share requirement for continued listing. In accordance with Marketplace Rule 4450(e)(2) we were provided a period of 180 calendar days, or until February 17, 2009, to
regain compliance. On October 16, 2008, NASDAQ announced that they had suspended the enforcement of the Rule until January 19, 2009. NASDAQ subsequently extended the suspension of enforcement of the Rule in December 2008 and again in March
2009. On July 14, 2009, NASDAQ informed us that the temporary suspension of enforcement of the Rule would remain in effect until July 31, 2009. As a result, the period during which we must regain compliance has been extended to
December 2, 2009. If at any time before December 2, 2009, the bid price of our Common Stock closes at or above $1.00 per share for a minimum of 10 consecutive business days, NASDAQ will provide written notification that we have achieved
compliance with the Rule. If compliance with the Rule cannot be demonstrated by December 2, 2009, our Common Stock will be subject to delisting from The NASDAQ Global Market.

In the event that we receive notice that our common stock is being delisted from The NASDAQ Global Market, NASDAQ rules permit us to appeal any delisting
determination by the NASDAQ staff to a NASDAQ Listing Qualifications Panel. Alternatively, NASDAQ may permit us to transfer the listing of our common stock to The NASDAQ Capital Market if we satisfy the requirements for initial inclusion set forth
in Marketplace Rule 4310(c), except for the bid price requirement. Currently we believe we satisfy these requirements. If our application for transfer is approved, we would have an additional 180 calendar days to comply with the Rule in order to
remain on The NASDAQ Capital Market.

We will continue to monitor the bid price for our common stock and consider various options available
to us if our common stock does not trade at a level that is likely to regain compliance.

Delisting from The NASDAQ Global Market could
have an adverse effect on our business and on the trading of our common stock. If a delisting of our common stock from the NASDAQ Stock Market were to occur, our common stock would trade on the OTC Bulletin Board or on the pink sheets
maintained by the National Quotation Bureau, Inc. Such alternatives are generally considered to be less efficient markets, and our stock price, as well as the liquidity of our common stock, may be adversely impacted as a result.



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

None.



|Item 3. | Defaults Upon Senior Securities.
|------- | --------------------------------

None.



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

At our annual meeting of stockholders held on May 14, 2009, our stockholders voted on the following matters:



| | (1) | The election of three Class III directors to serve until our 2012 annual meeting or until their successors have been elected and qualified. The nominees of the board of directors
were elected by the following vote:
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|                     |  |                       |  |                                 
|-------------------- |  | --------------------- |  | --------------------------------
|Class II Director    |  | Shares Voted in Favor |  | Shares Voted Against or Withheld
|Ake Almgren          |  | 48,829,903            |  | 227,790                         
|James E. deVenny III |  | 48,787,449            |  | 270,244                         
|Robert S. Greenberg  |  | 48,775,789            |  | 281,904                         



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| | (2) | The approval of a one-time option exchange program for employees other than directors and executive officers. The proposal was approved by the following vote:
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------



|                      |  |                      |  |                  
|--------------------- |  | -------------------- |  | -----------------
|Shares Voted in Favor |  | Shares Voted Opposed |  | Shares Abstaining
|30,428,823            |  | 996,161              |  | 224,524          



| | (3) | The approval of the appointment of Ernst & Young LLP as independent auditors for the fiscal year ending December 31, 2009. The appointment was approved by the
following vote:
| | --- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|                      |  |                      |  |                  
|--------------------- |  | -------------------- |  | -----------------
|Shares Voted in Favor |  | Shares Voted Opposed |  | Shares Abstaining
|48,680,859            |  | 339,910              |  | 36,924           



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

None.



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

The following documents are filed as
exhibits to this report:



|      |  |                                                                                                                                                                                                                                                                                                                                                                                                                                              
|----- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|3.1*  |  | Restated Certificate of Incorporation (filed as Exhibit 3.1 to Active Powers Quarterly Report on Form 10-Q filed on July 28, 2006)                                                                                                                                                                                                                                                                                                          
|      | 
|3.2.* |  | Second Amended and Restated Bylaws (filed as Exhibit 3.2 to Active Powers Current Report on Form 8-K filed on February 2, 2007)                                                                                                                                                                                                                                                                                                             
|      | 
|3.3*  |  | Amendment to Second Amended and Restated Bylaws (filed as Exhibit 3.01 to Active Powers Current Report on Form 8-K filed December 7, 2007)                                                                                                                                                                                                                                                                                                  
|      | 
|4.1*  |  | Specimen certificate for shares of Common Stock (filed as Exhibit 4.1 to Active Powers IPO Registration Statement on Form S-l (SEC File No. 333-36946) (the IPO Registration
Statement))                                                                                                                                                                                                                                                  
|      | 
|4.2*  |  | Rights Agreement, dated as of December 13, 2001, between Active Power and Equiserve Trust N.A., which includes the form of Certificate of Designation for the Series A Junior Participating
Preferred Stock as Exhibit A, the form of Rights Certificate as Exhibit B and the Summary of Rights to Purchase Series A Preferred Stock as Exhibit C (filed as Exhibit 4.1 to Active Powers Current Report on Form 8-K dated December 13,
2001)
|      | 
|4.3*  |  | See Exhibits 3.1, 3.2 and 3.3 for provisions of the Certificate of Incorporation and Bylaws of the registrant defining the rights of holders of common stock                                                                                                                                                                                                                                                                                 
|      | 
|10.1* |  | Securities Purchase Agreement, dated as of May 29, 2009 (filed as Exhibit 10.1 to Active Powers Current Report on Form 8-K filed on June 1, 2009)                                                                                                                                                                                                                                                                                           
|      | 
|31.1  |  | Certification of Chief Executive Officer pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2003                                                                                                                                                                                                                                                                        
|      | 
|31.2  |  | Certification of Chief Financial Officer pursuant to Exchange Act Rules 13a-14(a) and 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2003                                                                                                                                                                                                                                                                      
|      | 
|32.1  |  | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2003                                                                                                                                                                                                                                                                                            
|      | 
|32.2  |  | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2003                                                                                                                                                                                                                                                                                            



|* | Incorporated by reference to the indicated filing.
|- | --------------------------------------------------



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SIGNATURES

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



ACTIVE POWER, INC.(Registrant)




|              |  |                                                                                                              
|------------- |  | -------------------------------------------------------------------------------------------------------------
|July 28, 2009 |  | /s/ James A. Clishem                                                                                         
|(Date)        |  | James A. Clishem                                                                                             
|              |  | President and Chief Executive Officer (Principal
Executive Officer)                                          
|              | 
|July 28, 2009 |  | /s/ John K. Penver                                                                                           
|(Date)        |  | John K. Penver                                                                                               
|              |  | Vice President of Finance, Chief Financial Officer and Secretary (Principal Financial and Accounting Officer)



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