**UNITEDSTATESSECURITIES AND EXCHANGECOMMISSION**

**Washington,DC 20549**

** **

**FORM 10-Q**

** **

**(Mark One)**

**ý****                         ****QUARTERLY REPORT PURSUANT TO SECTION 13OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period ended March 31, 2006**

** **

** or**

** **

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

 

**For thetransition period from                        to                        **

 

**Commissionfile number:****000-51928**

 

**CPIINTERNATIONAL, INC.**

(Exact Name of Registrant asSpecified in Its Charter)

 

**Delaware**

(State or Other Jurisdiction ofIncorporation or Organization)

 

**75-3142681**

(I.R.S. Employer Identification No.)

 

**811 Hansen Way**Palo Alto, California 94303-1110(650) 846-2900

(Address of Principal ExecutiveOffices and Telephone Number,Including Area Code)

 

Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that the registrantwas required to file such reports) and (2) has been subject to such filingrequirements for the past 90 days. Yes  o    No  ý

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the Exchange Act.(Check one): Large accelerated filer o    Acceleratedfiler  o    Non-acceleratedfiler  ý

 

Indicate by check mark whether the registrant is a shell company(as defined in Rule 12b-2 of the Exchange Act). Yes  o    No  ý

 

**APPLICABLE ONLY TO CORPORATE ISSUERS:**

** **

Indicatethe number of shares outstanding for each of the registrant’s classes of CommonStock, as of the latest practicable date: 16,030,153 shares of Common Stock,$.01 par value, at May 15, 2006.

 

 

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**CPI International, Inc.**and Subsidiaries

** **

**INDEX**

 
| **Part I:   Financial Information** |                                                                                        |
|----------------------------------------------------|---------------------------------------------------------------------------------------------|
| Item 1.                                            | Financial Statements                                                                        |   |
|                                               | Condensed Consolidated Balance Sheets                                                       | 4 |
|                                               | Condensed Consolidated Statements of Operations and Comprehensive  Income                   | 5 |
|                                               | Condensed Consolidated Statements of Cash Flows                                             | 7 |
|                                               | Notes to Condensed Consolidated Financial Statements                                        | 8 |
| Item 2.                                            | Management’s Discussion and Analysis of  Financial Condition and Results of Operations | 30 |
| Item 3.                                            | Quantitative and Qualitative Disclosures  About Market Risk                                 | 44 |
| Item 4.                                            | Controls and Procedures                                                                     | 44 |
| **Part II: Other Information**                |                                                                                        |
| Item 1.                                            | Legal Proceedings                                                                           | 46 |
| Item 1A.                                           | Risk Factors                                                                                | 46 |
| Item 2.                                            | Unregistered Sales of Equity Securities and  Use of Proceeds                                | 47 |
| Item 3.                                            | Defaults Upon Senior Securities                                                             | 48 |
| Item 4.                                            | Submission of Matters to a Vote of Security  Holders                                        | 48 |
| Item 5.                                            | Other Information                                                                           | 48 |
| Item 6.                                            | Exhibits                                                                                    | 48 |

 

2

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**CPIInternational, Inc.**and Subsidiaries

 

***Cautionary Statements Regarding Forward-LookingStatements***

 

This document contains forward-looking statements within themeaning of Section 27A of the Securities Act of 1933, as amended, and Section 21Eof the Securities Exchange Act of 1934, as amended, that relate to futureevents or our future financial performance. In some cases, readers can identifyforward-looking statements by terminology such as “may,” “will,” “should,” “expect,”“plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential” or “continue,”the negative of such terms or other comparable terminology. These statementsare only predictions. Actual events or results may differ materially.

 

Although we believe that the expectations reflected in theforward-looking statements are reasonable, we cannot guarantee future results,levels of activity, performance or achievements. Moreover, neither we nor anyother person assumes responsibility for the accuracy and completeness of theforward-looking statements. Forward-looking statements are subject to known andunknown risks and uncertainties, which could cause actual results to differmaterially from the results projected, expected or implied by theforward-looking statements. These risk factors include, without limitation,competition in our end markets; our significant amount of debt; changes orreductions in the U.S. defense budget; U.S. government contracts laws andregulations; changes in technology; the impact of unexpected costs; inabilityto obtain raw materials and components; and currency fluctuations. All writtenand oral forward-looking statements made in connection with this report thatare attributable to us or persons acting on our behalf are expressly qualifiedin their entirety by the “risk factors,” and other cautionary statementsincluded herein and in the other filings with the Securities and ExchangeCommission (“SEC”) made by CPI International, Inc. We are under no duty toupdate any of the forward-looking statements after the date of this report toconform such statements to actual results or to changes in theexpectations.

 

The information in this report is not a complete descriptionof our business or the risks and uncertainties associated with an investment inour securities. You should carefully consider the various risks and uncertaintiesthat impact our business and the other information in this report and in CPIInternational, Inc.’s other filings with the SEC before you decide toinvest in our securities or to maintain or increase your investment.

 

3

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**PART I: FINANCIAL INFORMATION**

 

**Item 1. Financial Statements**

 

**CPI International, Inc.**and Subsidiaries

 

**CONDENSED CONSOLIDATED BALANCE SHEETS(in thousands, except share and per share data – unaudited)**

 
| ** **                                                                                               | ** ** | **March 31,** | ** ** | **September 30,** | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|--------------------|------------|------------------------|------------|
| ** **                                                                                               | ** ** | **2006**           | ** ** | **2005**               | ** ** |
| **Assets**                                                                                               |       |               |       |                   |       |
| Current  Assets:                                                                                         |       |               |       |                   |       |
| Cash and  cash equivalents                                                                               |       | $                  | 7,801      |                   | $          | 26,511 |   |
| Restricted  cash                                                                                         |       | 1,127              |       | 1,287                  |       |
| Accounts  receivable, net                                                                                |       | 46,463             |       | 39,295                 |       |
| Inventories                                                                                              |       | 53,101             |       | 50,620                 |       |
| Deferred tax  assets                                                                                     |       | 11,611             |       | 12,346                 |       |
| Prepaids and  other current assets                                                                       |       | 3,470              |       | 3,981                  |       |
| Total  current assets                                                                                    |       | 123,573            |       | 134,040                |       |
| Property,  plant and equipment, net                                                                      |       | 85,995             |       | 83,624                 |       |
| Deferred  debt issue costs, net                                                                          |       | 10,339             |       | 11,061                 |       |
| Intangible  assets, net                                                                                  |       | 76,716             |       | 77,941                 |       |
| Goodwill                                                                                                 |       | 145,462            |       | 145,462                |       |
| Other  long-term assets                                                                                  |       | 3,681              |       | 2,416                  |       |
| Total assets                                                                                             |       | $                  | 445,766    |                   | $          | 454,544 |   |
|                                                                                                     |       |               |       |                   |       |
| **Liabilities  and Stockholders’ Equity**                                                           |       |               |       |                   |       |
| Current  Liabilities:                                                                                    |       |               |       |                   |       |
| Accounts  payable                                                                                        |       | $                  | 20,879     |                   | $          | 21,421 |   |
| Accrued  expenses                                                                                        |       | 25,588             |       | 27,247                 |       |
| Product  warranty                                                                                        |       | 6,418              |       | 6,359                  |       |
| Income taxes  payable                                                                                    |       | 2,951              |       | 1,546                  |       |
| Advance  payments from customers                                                                         |       | 6,866              |       | 12,067                 |       |
| Total  current liabilities                                                                               |       | 62,702             |       | 68,640                 |       |
| Deferred  income taxes                                                                                   |       | 33,596             |       | 35,556                 |       |
| Advance  payments from sale of San Carlos property                                                       |       | 13,450             |       | 13,450                 |       |
| Long-term  debt                                                                                          |       | 294,258            |       | 284,231                |       |
| Other  long-term liabilities                                                                             |       | 21                 |       | —                 |       |
| Total  liabilities                                                                                       |       | 404,027            |       | 401,877                |       |
| Commitments  and contingencies                                                                           |       |               |       |                   |       |
| Stockholders’  Equity:                                                                              |       |               |       |                   |       |
| Common stock  ($0.01 par value, 90,000,000 shares authorized; 13,078,954 shares issued and  outstanding) |       | 131                |       | 131                    |       |
| Additional  paid-in capital                                                                              |       | 17,596             |       | 34,595                 |       |
| Accumulated  other comprehensive income                                                                  |       | 1,132              |       | 1,621                  |       |
| Retained  earnings                                                                                       |       | 22,880             |       | 16,320                 |       |
| Total  stockholders’ equity                                                                         |       | 41,739             |       | 52,667                 |       |
| Total  liabilities and stockholders’ equity                                                         |       | $                  | 445,766    |                   | $          | 454,544 |   |

 

See accompanying notes to the condensedconsolidated financial statements.

 

4

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**CPIInternational, Inc.**and Subsidiaries

 

**CONDENSED CONSOLIDATEDSTATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (in thousands, except share and pershare data — unaudited)**

** **
| ** **                                             | ** ** | **Quarter Ended**       | ** ** |
|--------------------------------------------------------|------------|------------------------------|------------|
| ** **                                             | ** ** | **March 31, 2006** | ** ** | **April 1, 2005** | ** ** |
| Sales                                                  |       | $                            | 86,929     |   | $ | 84,463 |   |
| Cost of  sales                                         |       | 61,185                       |       | 55,386 |   |
| Gross profit                                           |       | 25,744                       |       | 29,077 |   |
| Operating  costs and expenses:                         |       |                         |       |   |   |
| Research and  development                              |       | 1,941                        |       | 1,858 |   |
| Selling and  marketing                                 |       | 4,680                        |       | 4,585 |   |
| General and  administrative                            |       | 4,676                        |       | 5,658 |   |
| Amortization  of acquisition-related intangible assets |       | 546                          |       | 1,486 |   |
| Net loss on  disposition of assets                     |       | 143                          |       | 192 |   |
| Total  operating costs and expenses                    |       | 11,986                       |       | 13,779 |   |
| Operating  income                                      |       | 13,758                       |       | 15,298 |   |
| Interest  expense, net                                 |       | 6,400                        |       | 4,732 |   |
| Income  before income taxes                            |       | 7,358                        |       | 10,566 |   |
| Income tax  expense                                    |       | 3,013                        |       | 4,246 |   |
| Net income                                             |       | $                            | 4,345      |   | $ | 6,320 |   |
| Other  comprehensive income, net of tax                |       |                         |       |   |   |
| Net  unrealized loss on cash flow hedges               |       | (306                         | )          | (433 | ) |
| Comprehensive  income                                  |       | $                            | 4,039      |   | $ | 5,887 |   |
|                                                   |       |                         |       |   |   |
| Net income  per share:                                 |       |                         |       |   |   |
| Basic                                                  |       | $                            | 0.33       |   | $ | 0.48 |   |
| Diluted                                                |       | $                            | 0.29       |   | $ | 0.46 |   |
| Shares used  to compute net income per share:          |       |                         |       |   |   |
| Basic                                                  |       | 13,078,954                   |       | 13,078,954 |   |
| Diluted                                                |       | 14,784,947                   |       | 13,849,673 |   |

 

See accompanying notes to the condensedconsolidated financial statements.

 

5

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**CPIInternational, Inc.**and Subsidiaries

 

**CONDENSED CONSOLIDATEDSTATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (in thousands, except share and pershare data — unaudited)**

 
| ** **                                                                                                                            | ** ** | **Six Months Ended** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                                                            | ** ** | **March 31, 2006**   | ** ** | **April 1, 2005** | ** ** |
| Sales                                                                                                                                 |       | $                              | 169,308    |   | $ | 158,196 |   |
| Cost of  sales, including $351 of amortization of acquisition-related inventory  write-up for the six months ended April 1, 2005 |       | 118,356                        |       | 105,415 |   |
| Gross profit                                                                                                                          |       | 50,952                         |       | 52,781 |   |
| Operating  costs and expenses:                                                                                                        |       |                           |       |   |   |
| Research and  development                                                                                                             |       | 3,851                          |       | 3,306 |   |
| Selling and  marketing                                                                                                                |       | 9,704                          |       | 8,653 |   |
| General and  administrative                                                                                                           |       | 11,978                         |       | 9,627 |   |
| Amortization  of acquisition-related intangible assets                                                                                |       | 1,094                          |       | 6,392 |   |
| Net loss on  disposition of assets                                                                                                    |       | 208                            |       | 248 |   |
| Total  operating costs and expenses                                                                                                   |       | 26,835                         |       | 28,226 |   |
| Operating  income                                                                                                                     |       | 24,117                         |       | 24,555 |   |
| Interest  expense, net                                                                                                                |       | 12,464                         |       | 8,812 |   |
| Income  before income taxes                                                                                                           |       | 11,653                         |       | 15,743 |   |
| Income tax  expense                                                                                                                   |       | 5,093                          |       | 6,325 |   |
| Net income                                                                                                                            |       | $                              | 6,560      |   | $ | 9,418 |   |
| Other  comprehensive income, net of tax                                                                                               |       |                           |       |   |   |
| Net  unrealized (loss) gain on cash flow hedges                                                                                       |       | (489                           | )          | 383 |   |
| Comprehensive  income                                                                                                                 |       | $                              | 6,071      |   | $ | 9,801 |   |
|                                                                                                                                  |       |                           |       |   |   |
| Net income  per share:                                                                                                                |       |                           |       |   |   |
| Basic                                                                                                                                 |       | $                              | 0.50       |   | $ | 0.72 |   |
| Diluted                                                                                                                               |       | $                              | 0.44       |   | $ | 0.68 |   |
| Shares used  to compute net income per share:                                                                                         |       |                           |       |   |   |
| Basic                                                                                                                                 |       | 13,078,954                     |       | 13,078,954 |   |
| Diluted                                                                                                                               |       | 14,776,514                     |       | 13,788,835 |   |

 

See accompanying notes to the condensedconsolidated financial statements.

 

6

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**CPIInternational, Inc.**and Subsidiaries

 

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands — unaudited)**

 
| ** **                                                 | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                 | ** ** | **March 31,**             | ** ** | **April 1,** | ** ** |
| ** **                                                 | ** ** | **2006**                       | ** ** | **2005** | ** ** |
| **Operating  Activities**                                  |       |                           |       |   |   |
| Net cash  (used in) provided by operating activities       |       | $                              | (4,515     | ) | $ | 4,875 |   |
| **Investing  Activities**                                  |       |                           |       |   |   |
| Deferred  expenses relating to sale of San Carlos property |       | (4                             | )          | (203 | ) |
| Purchase of  Econco, net of cash acquired                  |       | —                         |       | (18,685 | ) |
| Capital  expenditures                                      |       | (5,817                         | )          | (4,428 | ) |
| Net cash  used in investing activities                     |       | (5,821                         | )          | (23,316 | ) |
| **Financing  Activities**                                  |       |                           |       |   |   |
| Proceeds  from issuance of floating rate senior notes      |       | —                         |       | 79,200 |   |
| Payments for  debt issue costs                             |       | —                         |       | (3,375 | ) |
| Proceeds  from (repayments on) senior term loan            |       | 10,000                         |       | (9,550 | ) |
| Special cash  dividends                                    |       | (17,000                        | )          | (75,809 | ) |
| Payment of  IPO financing costs                            |       | (1,374                         | )          | — |   |
| Repayments  on capital leases                              |       | —                         |       | (20 | ) |
| Net cash  used in financing activities                     |       | (8,374                         | )          | (9,554 | ) |
| **Net  Decrease in Cash and Cash Equivalents**             |       | (18,710                        | )          | (27,995 | ) |
| Cash and  cash equivalents at beginning of period          |       | 26,511                         |       | 40,476 |   |
| Cash and  cash equivalents at end of period                |       | $                              | 7,801      |   | $ | 12,481 |   |
|                                                       |       |                           |       |   |   |
| **Supplemental  Disclosures of Cash Flow Information**     |       |                           |       |   |   |
| Cash paid  for interest                                    |       | $                              | 12,378     |   | $ | 7,066 |   |
| Cash paid  for taxes, net of refunds                       |       | $                              | 4,607      |   | $ | 7,699 |   |

 

See accompanying notes to the condensedconsolidated financial statements.

 

7

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**CPIInternational, Inc.**and Subsidiaries

 

NOTES TOCONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

(All tabular dollar amounts inthousands except per share amounts)

(unaudited)

 

**1.      Basis ofPresentation**

 

Unless thecontext otherwise requires, (1) “CPI International” means CPIInternational, Inc. (formerly known as CPI Holdco, Inc.), (2) “Predecessor”means Communications & Power Industries Holding Corporation, thepredecessor to CPI International, (3) “CPI” means Communications &Power Industries, Inc. and (4) “Merger” means the January 23,2004 merger pursuant to which CPI International acquired the Predecessor. CPIis a direct subsidiary of CPI International. CPI International is a holdingcompany with no operations of its own. The terms “we,” “us,” “our” and the “Company”refer to CPI International, or the Predecessor, as applicable, and its directand indirect subsidiaries on a consolidated basis.

 

Theaccompanying condensed consolidated financial statements represent theconsolidated results and financial position of CPI International, a Delawarecorporation, which is controlled by affiliates of The Cypress Group L.L.C. (“Cypress”).CPI International, through its wholly owned subsidiary, CPI, develops,manufactures, and distributes microwave and power grid Vacuum Electron Devices(“VEDs”), microwave amplifiers, modulators and various other power supplyequipment and devices. The Company has two reportable segments, VED and satcomequipment. Effective January 17, 2006, the Company changed its name fromCPI Holdco, Inc. to CPI International, Inc.

 

Theaccompanying condensed consolidated financial statements have been prepared inaccordance with accounting principles generally accepted in the United Statesof America and include the accounts of the Company and its consolidatedsubsidiaries. In the opinion of management, the accompanying unauditedcondensed consolidated financial statements contain all adjustments necessaryto present fairly the consolidated financial position of the Company and itsconsolidated results of operations and cash flows.

 

The Company’sfiscal year is the 52 or 53-week period ending on the Friday nearest September 30.Fiscal year 2006 comprises the 52-week period ending September 29, 2006,and fiscal year 2005 comprised the 52-week period ended September 30,2005. All period references are to the Company’s fiscal periods unlessotherwise indicated. These interim financial statements should be read inconjunction with the consolidated financial statements and accompanying notesincluded in the Company’s Annual Report on Form 10-K for the year ended September 30,2005. Certain amounts in prior years’ condensed consolidated financial statementshave been reclassified to conform to the fiscal 2006 presentation. Netoperating results have not been affected by these reclassifications.

 

On April 7,2006, the Company effected a 3.059-to-1 stock split of its outstanding sharesof common stock as of such date. All share and per share amounts in theaccompanying condensed financial statements and accompanying notes have beenretroactively restated to reflect the stock split.

 

As morefully described in Note 13, “Subsequent Events”, on April 27, 2006, theCompany priced the initial public offering of its common stock. On May 3,2006, the initial public offering of the Company’s common stock was completedand we used the net proceeds from our initial public offering to repay $45.0million of the Term Loan, as described below.

 

**2.**                 SupplementalBalance Sheet Information

 

**Accounts receivable:**   Accountsreceivable are stated net of allowances for doubtful accounts of $0.7 millionat both March 31, 2006 and September 30, 2005.

 

8

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**Inventories:** Thefollowing table provides details of inventories, net of reserves:

 
| ** **               | ** ** | **March 31,** | ** ** | **September 30,** | ** ** |
|--------------------------|------------|--------------------|------------|------------------------|------------|
| ** **               | ** ** | **2006**           | ** ** | **2005**               | ** ** |
| Raw  materials and parts |       | $                  | 36,472     |                   | $          | 29,627 |   |
| Work in  process         |       | 11,454             |       | 12,540                 |       |
| Finished  goods          |       | 5,175              |       | 8,453                  |       |
| Inventories              |       | $                  | 53,101     |                   | $          | 50,620 |   |

 

**Reserve for excess, slow moving and obsolete inventory:**

 
| ** **                                     | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------|------------|--------------------------------|------------|
| ** **                                     | ** ** | **March 31,**             | ** ** | **April 1,** | ** ** |
| ** **                                     | ** ** | **2006**                       | ** ** | **2005** | ** ** |
| Beginning  balance                             |       | $                              | 8,655      |   | $ | 8,981 |   |
| Econco  acquisition                            |       | —                         |       | 729 |   |
| Inventory  provision, charged to cost of sales |       | 473                            |       | 378 |   |
| Inventory  write-offs                          |       | (151                           | )          | (295 | ) |
| Ending  balance                                |       | $                              | 8,977      |   | $ | 9,793 |   |

 

**Reserve for loss contracts and cost in excess of market inventory:**

 
| ** **                                                                                     | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                     | ** ** | **March 31,**             | ** ** | **April 1,** | ** ** |
| ** **                                                                                     | ** ** | **2006**                       | ** ** | **2005** | ** ** |
| Beginning balance                                                                              |       | $                              | 1,430      |   | $ | 2,845 |   |
| Provision  for loss contracts and cost in excess of market inventory charged to cost of  sales |       | 652                            |       | 596 |   |
| Reserved  inventory sold or otherwise disposed of                                              |       | (629                           | )          | (1,452 | ) |
| Ending  balance                                                                                |       | $                              | 1,453      |   | $ | 1,989 |   |

 

**Intangible assets:**

 
| ** **                                         | ** ** | ** ** | ** ** | **Accumulated**  | ** ** | ** ** | ** ** |
|----------------------------------------------------|------------|------------|------------|------------------|------------|------------|------------|
| **March 31, 2006**                       | ** ** | **Cost**   | ** ** | **Amortization** | ** ** | **Net**    | ** ** |
| VED core  technology                               |       | $          | 30,700     |             | $          | (1,353     | )          | $ | 29,347 |   |
| VED  application technology                        |       | 19,800     |       | (1,735           | )          | 18,065     |       |
| X-ray  generator and satcom application technology |       | 8,000      |       | (1,171           | )          | 6,829      |       |
| Customer  backlog                                  |       | 17,450     |       | (17,450          | )          | —     |       |
| Land lease                                         |       | 11,810     |       | (575             | )          | 11,235     |       |
| Tradename                                          |       | 5,800      |       | —           |       | 5,800      |       |
| Customer  list and programs                        |       | 5,700      |       | (337             | )          | 5,363      |       |
| Noncompete  agreement                              |       | 110        |       | (33              | )          | 77         |       |
| Net  identifiable intangible assets                |       | $          | 99,370     |             | $          | (22,654    | )          | $ | 76,716 |   |

 

9

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| ** **                                         | ** ** | ** ** | ** ** | **Accumulated**  | ** ** | ** ** | ** ** |
|----------------------------------------------------|------------|------------|------------|------------------|------------|------------|------------|
| **September 30, 2005**                   | ** ** | **Cost**   | ** ** | **Amortization** | ** ** | **Net**    | ** ** |
| VED core  technology                               |       | $          | 30,700     |             | $          | (1,048     | )          | $ | 29,652 |   |
| VED  application technology                        |       | 19,800     |       | (1,340           | )          | 18,460     |       |
| X-ray generator  and satcom application technology |       | 8,000      |       | (902             | )          | 7,098      |       |
| Customer  backlog                                  |       | 17,450     |       | (17,450          | )          | —     |       |
| Land lease                                         |       | 11,810     |       | (444             | )          | 11,366     |       |
| Tradename                                          |       | 5,800      |       | —           |       | 5,800      |       |
| Customer  list and programs                        |       | 5,700      |       | (224             | )          | 5,476      |       |
| Noncompete  agreement                              |       | 110        |       | (21              | )          | 89         |       |
| Net  identifiable intangible assets                |       | $          | 99,370     |             | $          | (21,429    | )          | $ | 77,941 |   |

 

Theestimated future amortization expense of purchased intangible assets as of March 31,2006 was as follows:

 
| **Fiscal Year**         | ** ** | **Amount** | ** ** |
|------------------------------|------------|------------|------------|
| 2006  (remaining six months) |       | $          | 1,226      |   |
| 2007                         |       | 2,451      |       |
| 2008                         |       | 2,451      |       |
| 2009                         |       | 2,432      |       |
| 2010                         |       | 2,429      |       |
| Thereafter                   |       | 59,927     |       |
| Total                        |       | $          | 70,916     |   |

 

**Goodwill:**   Asof March 31, 2006 and September 30, 2005 the Company had $145.5million of goodwill, $131.6 million of which has been allocated to the VEDsegment and $13.9 million of which has been allocated to the satcom equipmentsegment. There were no changes in the carrying amount of goodwill for the sixmonths ended March 31, 2006.

 

**Product warranty:**

 
| ** **                     | ** ** | **Quarter Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------|------------|------------------------|------------|--------------------------------|------------|
| ** **                     | ** ** | **March 31,**     | ** ** | **April 1,**              | ** ** | **March 31,** | ** ** | **April 1,** | ** ** |
| ** **                     | ** ** | **2006**               | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| Beginning  accrued warranty    |       | $                      | 6,190      |                           | $          | 6,064 |   | $ | 6,359 |   | $ | 6,074 |   |
| Amount  acquired from Econco   |       | —                 |       | —                         |       | — |   | 112 |   |
| Accruals for  product warranty |       | 1,690                  |       | 1,337                          |       | 2,738 |   | 1,956 |   |
| Cost of  warranty claims       |       | (1,462                 | )          | (1,735                         | )          | (2,679 | ) | (2,476 | ) |
| Ending  balance                |       | $                      | 6,418      |                           | $          | 5,666 |   | $ | 6,418 |   | $ | 5,666 |   |

 

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**3. Long-Term Debt**

 

Long-termdebt comprises the following:

 
| ** **                                                                                            | ** ** | **March 31,** | ** ** | **September 30,** | ** ** |
|-------------------------------------------------------------------------------------------------------|------------|--------------------|------------|------------------------|------------|
| ** **                                                                                            | ** ** | **2006**           | ** ** | **2005**               | ** ** |
| Term loan,  expiring 2010                                                                             |       | $                  | 90,000     |                   | $          | 80,000 |   |
| 8% Senior  subordinated notes due 2012                                                                |       | 125,000            |       | 125,000                |       |
| Floating  rate senior notes due 2015, net of amortized issue discount of $742 and $769,  respectively |       | 79,258             |       | 79,231                 |       |
|                                                                                                  |       | $                  | 294,258    |                   | 284,231    |   |
|                                                                                                       |            |                    |            |                        |            |  |  |

 

**Senior credit facility and term loan of CPI:**   In connection with the Merger, CPI entered into a$130.0 million credit agreement, which was amended and restated on November 29,2004, and further amended on February 16, 2005, April 13, 2005, and December 15,2005 (the “Senior Credit Facility”). The Senior Credit Facility consists of a$40.0 million revolving commitment, with a sub-facility of $15.0 million forletters of credit and $5.0 million for swingline loans (“Revolver”), whichexpires on January 23, 2010, and a $90.0 million term loan (“Term Loan”),which expires on July 23, 2010. As of March 31, 2006 the Company hadno outstanding borrowings under the Revolver and $90.0 million outstandingunder the Term Loan. There are no scheduled principal payments due on the TermLoan during the 2006 fiscal year because of the optional Term Loan prepaymentsmade by the Company in fiscal year 2005. Upon specified conditions, CPI may seekcommitments for a new class of term loans, not to exceed $65.0 million.The Senior Credit Facility is guaranteed by CPI International and all of CPI’sdomestic subsidiaries and is secured by substantially all of their assets.

 

On December 15,2005, CPI International and CPI entered into Amendment No. 3 (the “Amendment”),to the Senior Credit Facility. The Amendment increased the commitments underthe Term Loan by $10.0 million, and CPI borrowed an additional $10.0 millionthereunder. In addition, among other things, the Amendment (1) permittedCPI to pay a dividend (not to exceed $20.0 million) to CPI International tofund a dividend by CPI International to its stockholders, (2) amended thedefinition of Excess Cash Flow in the Senior Credit Facility to decrease ExcessCash Flow for CPI’s fiscal year 2006 by the excess of the amount of thedividend described in clause (1) over the gross proceeds of the $10.0million additional borrowing, and (3) permitted CPI or CPI Internationalto use up to $70.0 million of the proceeds of the first equity issuance by CPIInternational to repurchase or redeem its Floating Rate Senior Notes (the “FRNotes”) or CPI’s 8% Senior Subordinated Notes due 2012 (the “8% Notes”).

 

Anyborrowings under the Revolver would currently bear interest at a rate equal to,at CPI’s option, LIBOR plus 2.75% per annum, or the Alternate Base Rate (“ABR”)plus 1.75% per annum. Available borrowings under the Revolver are reduced byany amounts secured through letters of credit; at March 31, 2006, we hadletters of credit commitments for $4.2 million. The Term Loan borrowingscurrently bear interest at a rate equal to, at CPI’s option, LIBOR plus 2.25%per annum or the ABR plus 1.25% per annum, payable quarterly. The ABR is thegreater of (a) the Prime Rate and (b) the Federal Funds Rate plus0.50%. In addition to customary fronting and administrative fees under theSenior Credit Facility, CPI pays letter of credit participation fees equal tothe applicable Revolver LIBOR margin per annum on the average daily amount ofthe letter of credit exposure, and a commitment fee of 0.50% per annum on theaverage daily unused amount of revolving commitment. As of March 31, 2006 (1) theTerm Loan borrowing consisted of one tranche of $50.0 million and one trancheof $40.0 million with interest payable on April 18, 2006, at 7.01% perannum and (2) a Revolving commitment of $4.2 million for letter of creditexposure,

 

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with letter of credit participation fees and fronting feespayable quarterly at a combined interest rate of 3.0% per annum.

 

The SeniorCredit Facility requires 1.0% of the original Term Loan amount to be repaidannually in quarterly installments of 0.25% beginning June 30, 2004 andcontinuing for five years, with the remainder due in equal quarterlyinstallments thereafter. CPI is required to prepay its outstanding loans, subjectto certain exceptions and limitations, with net cash proceeds received fromcertain events, including, without limitation (1) all such proceedsreceived from certain asset sales by CPI International, CPI or any of CPI’ssubsidiaries; (2) all such proceeds received from issuances of debt (otherthan certain specified permitted debt) or preferred stock by CPI International,CPI or any of CPI’s subsidiaries, (3) all such proceeds paid to CPIInternational, CPI or any of CPI’s subsidiaries from casualty and condemnationevents in excess of amounts applied to replace, restore or reinvest in anyproperties for which proceeds were paid within a specified period and (4) 50%of such proceeds received from issuances of common equity by, or equitycontributions to, CPI International, except in the case of the first equityissuance whereby CPI or CPI International are permitted to use up to $70.0million of the proceeds to repurchase or redeem the 8% Notes or the FR Notes.

 

CPI is alsorequired to make an annual prepayment within 90 days after the end of eachfiscal year based on a calculation of Excess Cash Flow (“ECF”), as defined inthe Senior Credit Facility, multiplied by a factor of 25%, 50% or 75% dependingon the leverage ratio at the end of the fiscal year, less optional prepaymentsmade during the fiscal year. On December 30, 2004, CPI made an ECF paymentof $3.9 million. The ECF payment was applied pro rata, in accordance with theprovisions of the Senior Credit Facility, against the remaining scheduled installmentsof Term Loan principal due up to, but not including, the September 30,2009 scheduled principal installment.

 

CPI canmake optional prepayments on the outstanding loans at any time without premiumor penalty, except for customary “breakage” costs with respect to LIBOR loans.On March 31, 2005, CPI made an optional prepayment of $5.7 million, inaddition to the quarterly scheduled Term Loan amortization payment. Theoptional prepayment was applied pro rata, in accordance with the provisions ofthe Senior Credit Facility, against the remaining scheduled installments ofTerm Loan principal due up to June 30, 2009, with the balance applied tothe September 30, 2009 installment.

 

The SeniorCredit Facility contains a number of covenants that, among other things,restrict, subject to certain exceptions, the ability of CPI International, CPIand CPI’s domestic subsidiaries to: sell assets; engage in mergers andacquisitions; pay dividends and distributions or repurchase their capitalstock; incur additional indebtedness or issue equity interests; makeinvestments and loans; create liens or further negative pledges on assets;engage in certain transactions with affiliates; enter into sale and leasebacktransactions; amend agreements or make prepayments relating to subordinatedindebtedness; and amend or waive provisions of charter documents in a mannermaterially adverse to the lenders. CPI and CPI’s subsidiaries must comply with:a minimum interest coverage ratio; a maximum total leverage ratio; a minimum fixedcharge coverage ratio; and a maximum capital expenditures limitation, eachcalculated on a consolidated basis for CPI and CPI’s subsidiaries. CPIInternational must also comply with a minimum interest coverage ratio, aminimum fixed charge coverage ratio and a maximum leverage ratio, eachcalculated on a consolidated basis for CPI International and its subsidiaries.As of March 31, 2006, CPI and CPI International were in compliance withall Senior Credit Facility financial covenants.

 

Subject incertain cases to applicable notice provisions and grace periods, events ofdefault under the Senior Credit Facility include, among other things: failureto make payments when due; breaches of representations and warranties in thedocuments governing the Senior Credit Facility; non-compliance by CPIInternational, CPI and/or CPI’s subsidiaries with certain covenants; failure byCPI International, CPI

 

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and/or CPI’s subsidiaries to pay certain other indebtednessor to observe any other covenants or agreements that would allow accelerationof such indebtedness, collectively in excess of $5.0 million at any time;events of bankruptcy or insolvency of CPI International, CPI and/or CPI’ssubsidiaries; certain uninsured and unstayed judgments of $5.0 million or moreagainst CPI International; impairment of the security interests in thecollateral or the guarantees under the Senior Credit Facility; and a change incontrol, as defined in the documents governing the Senior Credit Facility.

 

**8% Senior subordinated notes of CPI:**   Inconnection with the Merger on January 23, 2004, CPI issued $125.0 millionin aggregate principal amount of its 8% Notes. The proceeds of the 8% Noteswere used to redeem the Predecessor’s outstanding indebtedness and pay part ofthe Merger consideration. The 8% Notes have no sinking fund requirements.

 

The 8%Notes bear interest at the rate of 8.0% per year, payable on February 1and August 1 of each year. The 8% Notes will mature on February 1,2012. The 8% Notes are unsecured obligations, jointly and severally guaranteedby CPI International and each of CPI’s domestic subsidiaries. The payment ofall obligations relating to the 8% Notes are subordinated in right of paymentto the prior payment in full in cash or cash equivalents of all senior debt (asdefined in the indenture governing the 8% Notes) of CPI, including debt underthe Senior Credit Facility. Each guarantee of the 8% Notes is and will besubordinated to guarantor senior debt (as defined in the indenture governingthe 8% Notes) on the same basis as the 8% Notes are subordinated to CPI’ssenior debt.

 

At any time or from time to time on or after February 1,2008, CPI, at its option, may redeem the 8% Notes, in whole or in part, atthe redemption prices (expressed as percentages of principal amount) set forthbelow, together with accrued and unpaid interest thereon, if any, to theredemption date, if redeemed during the 12-month period beginning on February 1of the years indicated below:

 
| **Year**             | ** ** | **Optional  Redemption  Price** | ** ** |
|----------------------|------------|---------------------------------|------------|
| 2008                 |       | 104                             | %          |
| 2009                 |       | 102                             | %          |
| 2010 and  thereafter |       | 100                             | %          |

 

At any time or from time to time prior to February 1,2007, and subject to certain conditions, CPI may redeem up to 35% of theaggregate principal amount of the 8% Notes at a redemption price equal to 108%of the principal amount of the 8% Notes to be redeemed, plus accrued and unpaidinterest to the date of redemption, with the net cash proceeds of one or morequalified equity offerings. At any time on or prior to February 1, 2008,the 8% Notes may also be redeemed or purchased (by CPI or any otherperson) in whole but not in part, at CPI’s option, upon the occurrence of achange of control (as defined in the indenture governing the 8% Notes) at aprice equal to 100% of the principal amount of the 8% Notes, plus a “make-whole”premium (as defined in the indenture governing the 8% Notes) to the redemptionprice on February 1, 2008, and accrued and unpaid interest, if any, to,the date of redemption or purchase.

 

Upon achange of control, CPI may be required to purchase all or any part ofthe 8% Notes for a cash price equal to 101% of the principal amount, plusaccrued and unpaid interest thereon, if any, to the date of purchase.

 

Theindenture governing the 8% Notes contains a number of covenants that, amongother things, restrict, subject to certain exceptions, the ability of CPI andits restricted subsidiaries (as defined in the indenture governing the 8%Notes) to incur additional indebtedness, sell assets, consolidate or merge withor into other companies, pay dividends or repurchase or redeem capital stock orsubordinated indebtedness,

 

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make certain investments, issue capital stock of theirsubsidiaries, incur liens and enter into certain types of transactions withtheir affiliates.

 

Events ofdefault under the indenture governing the 8% Notes include: failure to makepayments on the 8% Notes when due; failure to comply with covenants in theindenture governing the 8% Notes; a default under certain other indebtedness ofCPI or any of its restricted subsidiaries that is caused by a failure to makepayments on such indebtedness or that results in the acceleration of thematurity of such indebtedness; the existence of certain final judgments ororders against CPI or any of the restricted subsidiaries; and the occurrence ofcertain insolvency or bankruptcy events.

 

**Floating rate senior notes of CPI International:**   On February 22, 2005, CPI International issued$80.0 million in principal amount of its FR Notes. The FR Notes were issued ata 1% discount. The proceeds from the issuance of FR Notes were used to make adistribution to stockholders of CPI International of approximately $75.8million and to pay fees and expenses of approximately $3.5 million associatedwith the issuance of FR Notes. The FR Notes have no sinking fund requirements.

 

The FRNotes require interest payments at an annual interest rate, reset at thebeginning of each semi-annual period, equal to the then six-month LIBOR plus5.75%, payable semiannually on February 1 and August 1 of each year.The interest rate on the semi-annual interest payment due August 1, 2006is approximately 10.56% per annum. CPI International may, at its option, electto pay interest through the issuance of additional FR Notes for any interestpayment date on or after August 1, 2006 and on or before February 1,2010. If CPI International elects to pay interest through the issuance ofadditional FR Notes, the annual interest rate on the FR Notes will increase byan additional 1% step-up, with the step-up increasing by an additional 1% foreach interest payment made through the issuance of additional FR Notes (up to amaximum of 4%). The FR Notes will mature on February 1, 2015.

 

The FRNotes are general unsecured obligations of CPI International. The FR Notes arenot guaranteed by any of CPI International’s subsidiaries and are structurallysubordinated to all existing and future indebtedness and other liabilities ofCPI International’s subsidiaries. The FR Notes are senior in right of paymentto CPI International’s existing and future indebtedness that is expresslysubordinated to the FR Notes.

 

Because CPIInternational is a holding company with no operations of its own, CPIInternational relies on distributions from CPI to satisfy its obligations underthe FR Notes. The Senior Credit Facility and the indenture governing the 8%Notes restrict CPI’s ability to make distributions to CPI International. TheSenior Credit Facility prohibits CPI from making distributions to CPIInternational unless there is no default under the Senior Credit Facility andCPI International and CPI satisfy certain leverage ratios. The indenturegoverning the 8% Notes prohibits CPI from making distributions to CPI Internationalunless, among other things, there is no default under the indenture and theamount of the proposed dividend plus all previous Restricted Payments (asdefined in the indenture governing the 8% Notes) does not exceed a specifiedamount.

 

At any timeor from time to time prior to February 1, 2007, CPI International, at itsoption, may redeem the FR Notes in whole or in part at a “make whole”premium, plus accrued and unpaid interest to the date of redemption. At anytime or from time to time on or after February 1, 2007, CPI International,at its option, may redeem the Notes in whole or in part at theredemption prices (expressed as percentages of principal amount) set forthbelow, together with accrued and unpaid interest thereon, if any, to the redemptiondate, if redeemed during the 12-month period beginning on February 1 ofthe years indicated below:

 

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| **Year**             | ** ** | **Optional  Redemption** | ** ** |
|----------------------|------------|--------------------------|------------|
| 2007                 |       | 103                      | %          |
| 2008                 |       | 102                      | %          |
| 2009                 |       | 101                      | %          |
| 2010 and  thereafter |       | 100                      | %          |

 

At any time or from time to time prior to February 1,2007, and subject to certain conditions, CPI International, at its option, may redeemup to 35% of the aggregate principal amount of the FR Notes at a redemptionprice equal to 100% of the principal amount of the FR Notes to be redeemed,plus a premium equal to the interest rate per annum on the FR Notes applicableon the date on which the notice of redemption is given, plus accrued and unpaidinterest to the date of redemption, with the net cash proceeds of one or morequalified equity offerings.

 

Upon achange of control, as defined in the indenture governing the FR Notes, CPIInternational may be required to purchase all or any part of theoutstanding FR Notes for a cash price equal to 101% of the principal amount,plus accrued and unpaid interest thereon, if any, to the date of purchase.

 

Theindenture governing the FR Notes contains certain covenants that, among otherthings, limit the ability of CPI International and its restricted subsidiaries(as defined in the indenture governing the FR Notes) to incur additionalindebtedness, sell assets, consolidate or merge with or into other companies,pay dividends or repurchase or redeem capital stock or subordinatedindebtedness, make certain investments, issue capital stock of theirsubsidiaries, incur liens and enter into certain types of transactions withtheir affiliates.

 

Events ofdefault under the indenture governing the FR Notes include: failure to makepayments on the FR Notes when due; failure to comply with covenants in theindenture governing the FR Notes; a default under certain other indebtedness ofCPI International or any of its restricted subsidiaries that is caused by afailure to make payments on such indebtedness or that results in the accelerationof the maturity of such indebtedness; the existence of certain final judgmentsor orders against CPI International or any of the restricted subsidiaries; andthe occurrence of certain insolvency or bankruptcy events.

 

**Debt maturities:**   Asof March 31, 2006, maturities on long-term debt were as follows (inthousands):

 
| **Fiscal Year** | ** ** | **Amount** | ** ** |
|----------------------|------------|------------|------------|
| 2006                 |       | $          | —     |   |
| 2007                 |       | —     |       |
| 2008                 |       | —     |       |
| 2009                 |       | 18,825     |       |
| 2010                 |       | 71,175     |       |
| Thereafter           |       | 205,000    |       |
| Total                |       | $          | 295,000    |   |

 

**4. Derivative Financial Instruments**

 

The Companyuses forward exchange contracts to hedge the foreign currency exposureassociated with forecasted manufacturing costs in Canada.

 

The Company’sforeign currency forward contracts are designated as a cash flow hedge and areconsidered “highly effective”, as defined by Statement of Financial AccountingStandards (“SFAS”) No. 133, “Accounting for Derivative Instruments andHedging Activities.” The unrealized gains and losses from

 

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foreign exchange forward contracts are included in “Accumulatedother comprehensive income” in the Condensed Consolidated Balance Sheets, andthe Company anticipates recognizing the entire unrealized gain of $0.2 millionin operating earnings by June 30, 2006. Realized gains and losses fromforeign currency exchange contracts are recognized in Cost of sales and Generaland administrative in the Condensed Consolidated Statements of Operations andComprehensive Income. Net income includes forward currency gains of $0.6million and $0.4 million for the quarters ended March 31, 2006 and April 1,2005, respectively, and $1.0 million and $0.6 million for the six month periodsended March 31, 2006 and April 1, 2005, respectively.

 

In April 2005,the Company entered into an $80.0 million interest rate swap contract (“theSwap”) to receive variable rate 6-month LIBOR interest and pay 4.15% fixed rateinterest, which when combined with the 5.75% margin, results in a fixed rate of9.9% on the FR Notes through January 31, 2008. The Swap interest paymentsare made semi-annually, beginning with the first payment on February 1,2006. The Swap matures on January 31, 2008. The Swap is designated as acash flow hedge under SFAS No. 133, and the gain or loss from changes infair value is expected to be highly effective at offsetting the gain or lossfrom changes in fair value of the FR Notes attributable to changes in interestrates over the contract period. As of March 31, 2006, the Company had acollateral deposit of $0.5 million for the Swap, which is included as Otherlong-term assets in the accompanying Condensed Consolidated Balance Sheets. Theamount of collateral fluctuates based on the fair value of the Swap. Theunrealized gains and losses from the Swap are included in “Accumulated othercomprehensive income” in the Condensed Consolidated Balance Sheets. At March 31,2006, the fair value of the Swap was $1.5 million and the unrealized gain wasapproximately $0.9 million, net of related tax expense.

 

**5. Share-Based Compensation**

 

At thebeginning of fiscal year 2006, the Company adopted SFAS No. 123R (“Share-BasedPayments”) (“SFAS No. 123R”), and Staff Accounting Bulletin No. 107, “Share-BasedPayment,” for its existing stock option plans under the prospective method.Previously, the Company applied the intrinsic value-based method of accountingprescribed by Accounting Principles Board (“APB”) Opinion No. 25, “Accountingfor Stock Issued to Employees,” and related interpretations. Under theintrinsic value-based method, compensation expense was recorded only if themarket price of the stock exceeded the stock option exercise price at themeasurement date. Because the Company’s stock was not publicly traded prior tothe adoption of SFAS No. 123R and there was no quoted market price for itscommon stock, the Company computed an estimated market price of its stock basedon valuation techniques for determining the fair value of closely held stock.The exercise prices of all stock options issued by the Company were at, orabove, the estimated market price of the underlying stock at the date ofissuance. The Company will continue to account for stock option awardsoutstanding at September 30, 2005 using the intrinsic value-based methodof measuring equity share options.

 

There wasno share-based compensation cost in the first six months of fiscal year 2006since the Company has not granted any new stock option awards during thisperiod and there was no unrecognized compensation cost relating to awardsoutstanding at September 30, 2005.  The application of SFAS No. 123R had noimpact on the Company’s cash position. The Company charges stock-basedcompensation expense against income under the caption “General andadministrative” in the Condensed Consolidated Statements of Operations andComprehensive Income because the majority of holders of stock options are inadministrative functions.

 

At March 31,2005, the Company had two stock plans: the 2004 Stock Incentive Plan (“the 2004Plan”) and the 2000 Stock Option Plan (“the 2000 Plan”). In April 2006, inconnection with its initial public

 

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offering of common stock, the Company adopted the 2006 Equityand Performance Incentive Plan (the “2006 Plan”) and the 2006 Employee StockPurchase Plan.

 

Optionsunder the 2004 Plan vest at a rate of 20% to 25% per year and expire 10 yearsafter the grant date. All stock option grants under the 2004 Plan werenon-qualified stock options and were issued at exercise prices equal to orgreater than the estimated market price of the Company’s common stock at optiongrant date. The Company has ceased making new grants under the 2004 Plan.

 

The 2000Plan was established by the Predecessor, and no further options are availablefor issuance thereunder. In accordance with the terms of the stock optionagreements, the unvested stock options outstanding under the Predecessor’s 2000Plan became fully vested at the Merger closing date. The 2000 Plan optionholders were offered the opportunity to either roll over their stock optionsinto options to purchase common stock of CPI International (“Rollover Options”)or exercise their stock options. Management elected to rollover options topurchase 912,613 shares of common stock at prices ranging from $0.20 to $0.74per share. The Rollover Options are otherwise subject to the terms of the 2000Plan, and, among other things, have a ten year expiration period and aresubject to transferability restrictions and continued employment.

 

The 2006 Plan provides for an aggregate of up to 1,400,000shares of our common stock to be available for awards, plus the number ofshares subject to awards granted under our 2004 Stock Incentive Plan and our2000 Stock Option Plan that are forfeited, expire or are cancelled after theeffective date of the 2006 Plan. All of the Company’s employees (includingofficers), directors, and consultants are eligible for awards under the 2006Plan. The 2006 Plan is administered by the compensation committee of the boardof directors and awards may consist of options, stock appreciation rights,restricted stock, other stock unit awards, performance awards, dividendequivalents or any combination of the foregoing. The exercise price for stockoptions generally cannot be less than 100% of the fair market value of ourshares on the date of grant. In April 2006, the compensation committeedelegated authority to the Chief Executive Officer to grant options to purchaseup to an aggregate 25,000 shares of common stock to employees, other thanemployees who are executive officers. On April 27, 2006, we issued optionsto purchase 297,500 shares of our common stock, at an exercise price of $18.00per share.

 

The 2006 Employee Stock Purchase Plan permits eligibleemployees to purchase our stock at a discounted price. An aggregate of 760,000shares of our common stock is reserved for issuance under this plan. The stockpurchase plan is administered by the compensation committee of the board ofdirectors. Employees participating in the plan may purchase stock fortheir accounts according to a price formula set by the Compensation Committee,as administrator, before the applicable offering period, which cannot exceed 24months. The price per share will equal a fixed percentage (which may notbe lower than 85%) of the fair market value of a share of our common stock onthe last day of the purchase period in the offering, or the lower of (1) afixed percentage (not to be less than 85%) of the fair market value of a shareof our common stock on the date of commencement of participation in theoffering and (2) a fixed percentage (not to be less than 85%) of the fairmarket value of a share of our common stock on the date of purchase.

 

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A summaryof the status of the Company’s stock option activity for the six months ending March 31,2006, is presented below:

 
| ** **                          | ** ** | **Options**            | ** ** | ** **      | ** ** | **Weighted-**             | ** ** |
|-------------------------------------|------------|------------------------|------------|-----------------|------------|---------------------------|------------|
| ** **                          | ** ** | **Available for** | ** ** | **Options**     | ** ** | **Average Exercise** | ** ** |
| ** **                          | ** ** | **Grant**              | ** ** | **Outstanding** | ** ** | **Price**                 | ** ** |
| Outstanding  at beginning of period |       | 188,330                |       | 2,895,432       |       | $                         | 3.13       |   |
| Granted                             |       | —                 |       | —          |       | —                    |       |
| Forfeited                           |       | 90                     |       | (90             | )          | $                         | 3.13       |   |
| Exercised                           |       | —                 |       | —          |       | —                    |       |
| Outstanding  at end of period       |       | 188,420                |       | 2,895,342       |       | $                         | 3.13       |   |

 

Thefollowing table summarizes information about stock options outstanding at March 31,2006:

 
| ** **   | ** ** | ** **                     | ** ** | ** **                | ** ** | ** ** | ** ** | **Weighted-Average** | ** ** |
|--------------|------------|--------------------------------|------------|---------------------------|------------|------------|------------|----------------------|------------|
| ** **   | ** ** | ** **                     | ** ** | ** **                | ** ** | ** ** | ** ** | **Remaining**        | ** ** |
| **Exercise** | ** ** | **Number of Shares** | ** ** | **Contractual Life** | ** ** |
| **Price**    | ** ** | **Vested**                     | ** ** | **Unvested**              | ** ** | **Total**  | ** ** | **(in years)**  | ** ** |
| $            | 0.20       |                           | 704,701    |                      | —     |       | 704,701    |                 | 6.92       |   |
| $            | 0.74       |                           | 199,740    |                      | —     |       | 199,740    |                 | 4.34       |   |
| $            | 1.08       |                           | 8,079      |                      | —     |       | 8,079      |                 | 7.83       |   |
| $            | 4.32       |                           | 1,373,107  |                      | 524,647    |       | 1,897,754  |                 | 7.99       |   |
| $            | 6.61       |                           | 54,480     |                      | —     |       | 54,480     |                 | 8.50       |   |
| $            | 6.98       |                           | 19,118     |                      | 11,470     |       | 30,588     |                 | 8.95       |   |
|         |       | 2,359,225                      |       | 536,117                   |       | 2,895,342  |       | 7.50                 |       |

 

At March 31,2006, the intrinsic value of vested and unvested stock options based on theestimated fair value of CPI International’s common stock was $35.7 million and$7.3 million, respectively.

 

**6. Income Taxes**

 

Income taxexpense for the first six months of fiscal year 2006 includes a $315,000 chargeattributable to the fourth quarter of fiscal year 2005, consisting of $505,000to correct the overstatement of tax benefits recorded in the fourth quarter offiscal year 2005 for stock-based compensation expense that is not deductiblefor income tax purposes in a foreign tax jurisdiction, offset by reversal of a$190,000 tax contingency reserve. The effective tax rates were approximately44% and 40% for the first six months of fiscal years 2006 and 2005,respectively. Without the correction to the overstatement of tax benefits, theCompany’s effective tax rate for the first six months of fiscal year 2006 wouldhave been approximately 41%.

 

**7. Net Income per share**

 

Basic netincome per share is computed using the weighted-average number of common sharesoutstanding during the period. Diluted net income per share is computed usingthe weighted-average number of common and dilutive potential common equivalentshares outstanding during the period. Potential common equivalent sharesconsist of common stock issuable upon exercise of stock options using thetreasury stock method.

 

18

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Thefollowing table is a reconciliation of the shares used to calculate basic anddiluted net income per share:

 
| ** **                                   | ** ** | **Quarter Ended** | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------|------------|------------------------|------------|--------------------------------|------------|
| ** **                                   | ** ** | **March 31,**     | ** ** | **April 1,**              | ** ** | **March 31,** | ** ** | **April 1,** | ** ** |
| ** **                                   | ** ** | **2006**               | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| Basic  weighted average shares oustanding    |       | 13,078,954             |       | 13,078,954                     |       | 13,078,954 |   | 13,078,954 |   |
| Dilutive  stock options                      |       | 1,705,993              |       | 770,719                        |       | 1,697,560 |   | 709,881 |   |
| Diluted  weighted average shares outstanding |       | 14,784,947             |       | 13,849,673                     |       | 14,776,514 |   | 13,788,835 |   |

 

The Company excludes stock options from thecomputation of diluted weighted average shares outstanding if the exerciseprice of the option is greater than the average market price of the sharesbecause the inclusion of these options would be antidilutive to earnings pershare. Accordingly, options to purchase 58,784 shares, at a weighted averageexercise price of $6.63, were excluded from the computation of diluted weightedaverage shares outstanding for the quarter ended April 1, 2005 and optionsto purchase 56,632 shares, at a weighted average exercise price of $6.62, wereexcluded from the computation of diluted weighted average shares outstandingfor the first six months of fiscal year 2005. For the second quarter and thefirst six months of fiscal year 2006, all stock options are dilutive.

 

**8. Segments and Related Information**

 

Inaccordance with SFAS No. 131, the Company has six divisions that meet thecriteria of an operating segment, and the Company has two reportable segments:VED and satcom equipment. Amounts not reported as VED or satcom equipment arereported as other. The CEO evaluates performance and allocates resources toeach of these divisions based on the Company’s principal performance measure,earnings before interest, income taxes, depreciation and amortization (“EBITDA”).

 

Summarizedfinancial information concerning the Company’s reportable segments is shown inthe following table:

 
| ** **                        | ** ** | **Quarter Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------|------------|------------------------|------------|--------------------------------|------------|
| ** **                        | ** ** | **March 31,**     | ** ** | **April 1,**              | ** ** | **March 31,** | ** ** | **April 1,** | ** ** |
| ** **                        | ** ** | **2006**               | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| Revenues  from external customers |       |                   |       |                           |       |   |   |   |   |
| VEDs                              |       | $                      | 69,597     |                           | $          | 68,675 |   | $ | 132,793 |   | $ | 130,943 |   |
| Satcom  equipment                 |       | 17,332                 |       | 15,788                         |       | 36,515 |   | 27,253 |   |
| Total                             |       | $                      | 86,929     |                           | $          | 84,463 |   | $ | 169,308 |   | $ | 158,196 |   |
| Intersegment  product transfers   |       |                   |       |                           |       |   |   |   |   |
| VEDs                              |       | $                      | 6,476      |                           | $          | 7,032 |   | $ | 12,684 |   | $ | 12,784 |   |
| Satcom  equipment                 |       | 2                      |       | 11                             |       | 2 |   | 13 |   |
| Total                             |       | $                      | 6,478      |                           | $          | 7,043 |   | $ | 12,686 |   | $ | 12,797 |   |

 
| ** **        | ** ** | **Quarter Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------|------------|------------------------|------------|--------------------------------|------------|
| ** **        | ** ** | **March 31,**     | ** ** | **April 1,**              | ** ** | **March 31,** | ** ** | **April 1,** | ** ** |
| ** **        | ** ** | **2006**               | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| EBITDA            |       |                   |       |                           |       |   |   |   |   |
| VEDs              |       | $                      | 17,396     |                           | $          | 19,345 |   | $ | 33,461 |   | $ | 35,887 |   |
| Satcom  equipment |       | 1,961                  |       | 2,411                          |       | 4,852 |   | 3,789 |   |
| Other             |       | (3,304                 | )          | (3,308                         | )          | (9,745 | ) | (5,752 | ) |
| Total             |       | $                      | 16,053     |                           | $          | 18,448 |   | $ | 28,568 |   | $ | 33,924 |   |

 

The “Other”category for EBITDA consists primarily of corporate operating expenses andinternational subsidiary sales expenses. Corporate operating expenses includeheadquarters general and administrative

 

19

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expenses, stock-based compensation expenses, managementbonuses, and purchase accounting charges related to the Merger and Econcoacquisition and certain other non-operating expenses. Intersegment producttransfers are recorded at cost. The “Other” category of EBITDA for the sixmonths ended March 31, 2006 includes a $3.25 million special bonus toemployees and directors, and manufacturing disruption and move related expensesof $2.5 million associated with the relocation of the San Carlos, Californiamanufacturing division to Palo Alto, California. On December 15, 2005, CPI’sBoard of Directors approved a payment of $3.25 million in special bonuses toCPI employees and directors (other than directors who are employees oraffiliates of Cypress), to reward them for the increase in Company value.

 

For thereasons listed below, we believe that GAAP-based financial information forhighly leveraged businesses such as ours should be supplemented by EBITDA sothat investors better understand our financial performance in connection withtheir analysis of our business:

 

•                    EBITDA is a component of the measures used by our board ofdirectors and management team to evaluate our operating performance;

 

•                    the Senior Credit Facility contains covenants that require usto maintain certain interest expense coverage and leverage ratios that containEBITDA as a component, and our management team uses EBITDA to monitorcompliance with such covenants;

 

•                    EBITDA is a component of the measures used by our managementteam to make day-to-day operating decisions;

 

•                    EBITDA facilitates comparisons between our operating resultsand those of competitors with different capital structures and therefore is acomponent of the measures used by the management to facilitate internalcomparisons to competitors’ results and our industry in general; and

 

•                    the payment of management bonuses is contingent upon, amongother things, the satisfaction by us of certain targets that contain EBITDA asa component.

 

Othercompanies may define EBITDA differently and, as a result, our measure ofEBITDA may not be directly comparable to EBITDA of other companies.Although we use EBITDA as a financial measure to assess the performance of ourbusiness, the use of EBITDA is limited because it does not include certainmaterial costs, such as interest and taxes, necessary to operate our business.When analyzing our performance, EBITDA should be considered in addition to, andnot as a substitute for, net income (loss), cash flows from operatingactivities or other statements of operations or statements of cash flows dataprepared in accordance with GAAP. The following table reconciles net income toEBITDA:

 
| ** **                     | ** ** | **Quarter ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------|------------|------------------------|------------|--------------------------------|------------|
| ** **                     | ** ** | **March 31,**     | ** ** | **April 1,**              | ** ** | **March 31,** | ** ** | **April 1,** | ** ** |
| ** **                     | ** ** | **2006**               | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| Net income                     |       | $                      | 4,345      |                           | $          | 6,320 |   | $ | 6,560 |   | $ | 9,418 |   |
| Depreciation  and amortization |       | 2,295                  |       | 3,150                          |       | 4,451 |   | 9,369 |   |
| Interest  expense, net         |       | 6,400                  |       | 4,732                          |       | 12,464 |   | 8,812 |   |
| Income tax  expense            |       | 3,013                  |       | 4,246                          |       | 5,093 |   | 6,325 |   |
| EBITDA                         |       | $                      | 16,053     |                           | $          | 18,448 |   | $ | 28,568 |   | $ | 33,924 |   |

 

20

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Geographicsales by customer location were as follows:

 
| ** **             | ** ** | **Quarter Ended** | ** ** | **Six Months Ended** | ** ** |
|------------------------|------------|------------------------|------------|--------------------------------|------------|
| ** **             | ** ** | **March 31,**     | ** ** | **April 1,**              | ** ** | **March 31,** | ** ** | **April 1,** | ** ** |
| ** **             | ** ** | **2006**               | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| United  States         |       | $                      | 57,207     |                           | $          | 55,845 |   | $ | 108,207 |   | $ | 106,478 |   |
| All foreign  countries |       | 29,722                 |       | 28,618                         |       | 61,101 |   | 51,718 |   |
| Total sales            |       | $                      | 86,929     |                           | $          | 84,463 |   | $ | 169,308 |   | $ | 158,196 |   |

 

The UnitedStates Government is the only customer that accounted for 10% or more of theCompany’s consolidated sales. Direct sales to the United States Government were$15.2 million, and $16.0 million of the Company’s consolidated sales for thequarters ended March 31, 2006 and April 1, 2005, respectively. Salesto this customer were $27.8 million and $29.6 million for the six month periodsending March 31, 2006 and April 1, 2005, respectively.

 

**9. San Carlos Sale Agreement**

 

The Companyhas entered into an agreement to sell the land and close its facilities locatedin San Carlos, California. The purchase price is $23.8 million. Under the saleagreement, the buyer has paid the Company a $13.0 million deposit on thepurchase price, which the Company used to fund the capital expenditures andcosts of moving its San Carlos operations to its Palo Alto facility and to anew location in the Palo Alto area. The $13.0 million deposit is nonrefundableunless the Company breaches the sale agreement. The San Carlos facility haspreexisting soil and groundwater contamination that has been the subject ofsome remediation and is expected to undergo additional remediation by thepurchaser after the sale closes. In connection with the sale agreement, theCompany entered into an agreement regarding environmental conditions at theproperty and was named as an additional insured on a pollution liabilityinsurance policy obtained by the purchaser that is intended to fund theremediation of the contamination of the San Carlos property to permit hospitaland other “unrestricted” uses under the direction of the applicableenvironmental regulatory agency.

 

The closingof the sale is subject to a number of conditions, including the requirementthat the Company vacate its facilities and obtain regulatory closure of certainpermitted equipment located on the property. Although there can be no assurancethat the sale of the San Carlos property will occur, the Company expects toclose the sale of the property in fiscal year 2007.

 

Pursuant tothe stock sale agreement by and between Varian Associates, Inc., thepredecessor of Varian Medical Systems, Inc. (“Varian”), and the Companydated June 9, 1995, as amended, the Company agreed to certain developmentrestrictions affecting the San Carlos property. In connection with the SanCarlos property sale agreement, Varian agreed to waive certain of thedevelopment restrictions on the San Carlos property in the event that the salecloses, subject to certain conditions, and further agreed to pay the Company$1.0 million, of which $0.5 million was paid in the fourth quarter of fiscalyear 2004. The payments from Varian are being accounted for as part of thesale of the property, with the aggregate sales price, including the $23.8million from the buyer, totaling $24.8 million. In addition, the Company hasagreed to relieve Varian of certain of its indemnity obligations to the Companyfor certain environmental liabilities related to the San Carlos propertyrelating to periods prior to August 1995 and to reimburse Varian forcertain potential environmental costs related to the San Carlos property thatare not covered by insurance. The Company and Varian have also agreed tocertain use restrictions and environmental cost-sharing provisions related tothe Company’s property in Beverly, Massachusetts, and the Company hasrelinquished its right to redevelop that property for residential or similaruse.

 

As of March 31,2006, the San Carlos land and building was classified as held for use inproperty, plant and equipment and the advance payments from the sale of theproperty, aggregating $13.5 million, are

 

21

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classified as a long-term liability in the accompanyingCondensed Consolidated Balance Sheets. As of March 31, 2006, the Companyhad deferred expenses of $0.7 million relating to the sale of the San Carlosproperty and classified these amounts as Other long-term assets in theaccompanying Condensed Consolidated Balance Sheets. The San Carlos land andbuilding had a net book value of $23.5 million as of March 31, 2006 andthe building continues to be depreciated over its remaining useful life. Basedon current projections of costs, the Company does not expect to recognize aloss on the sale of the San Carlos property.

 

**10. Econco Acquisition**

 

On October 8,2004, the Company purchased all of the outstanding stock of Econco BroadcastService, Inc. (“Econco”) of Woodland, California for cash consideration ofapproximately $18.3 million. The preliminary Econco purchase price estimate of$18.7 million was finalized and adjusted in our financial results in the thirdquarter of fiscal year 2005. Econco is a provider of remanufactured high-powermicrowave devices, allowing broadcasters and other users of these criticalproducts to extend the life of their devices at a cost that is lower thanbuying a new device.

 

The Econcoacquisition was accounted for using the purchase method of accounting asrequired by Financial Accounting Standards Board (“FASB”) Statement No. 141,“Business Combinations.”  Accordingly, the assets and liabilities ofEconco were adjusted to their fair values, and the excess of the purchase priceover the fair value of the assets acquired was recorded as goodwill. Theallocation of the purchase price to specific assets and liabilities was based,in part, upon internal estimates of cash flow and recoverability.

 

Thefollowing table summarizes the final allocation of fair value of the Econcoassets acquired and liabilities assumed at October 8, 2004:

 
| Net current  assets             |   | $     | 2,049  |   |
|---------------------------------|--------|-------|--------|--------|
| Property,  plant and equipment  |   | 3,239 |   |
| Identifiable  intangible assets |   | 7,210 |   |
| Goodwill                        |   | 5,848 |   |
| Total                           |   | $     | 18,346 |   |

 

Net currentassets include $0.4 million for the revaluation of inventory. The followingtable presents details of the purchased intangible assets acquired:

 
| ** **                  | ** ** | **Weighted-**           | ** ** | ** ** | ** ** |
|-----------------------------|------------|-------------------------|------------|------------|------------|
| ** **                  | ** ** | **Average Useful** | ** ** | ** ** | ** ** |
| ** **                  | ** ** | **Life**                | ** ** | **Amount** | ** ** |
| Non-compete  agreement      |       | 5 years                 |       | $          | 110        |   |
| Tradename                   |       | indefinite              |       | 1,400      |       |
| Customer  list and programs |       | 25 years                |       | 5,700      |       |
| Total                       |       |                    |       | $          | 7,210      |   |

 

**11. Special Cash Dividends**

 

In December 2005,the Board of Directors declared and paid a special cash dividend tostockholders of $17 million. This dividend was paid using (a) the $10million in net proceeds obtained from the additional borrowing under the SeniorCredit Facility in connection with the December 2005 amendment thereto,and (b) available cash. The cash dividend was made on the basis of thestockholders’ relative ownership of CPI International’s outstanding commonstock.

 

22

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In February 2005,the Board of Directors declared and paid a special cash distribution tostockholders of approximately $75.8 million. The special cash distribution wasmade on the basis of the stockholders’ relative ownership of CPI International’soutstanding common stock and was paid using the net proceeds from the offeringof $80 million aggregate principal amount of the FR Notes.

 

**12. Recent Accounting Pronouncements**

 

In November 2004,the FASB issued SFAS No. 151, “Inventory Costs — an amendment of ARB No. 43,Chapter 4”, which is the result of the FASB’s project to reduce differencesbetween U.S. and international accounting standards. SFAS No. 151 requiresidle facility costs, abnormal freight, handling costs, and amounts of wastedmaterials (spoilage) to be treated as current-period costs. Under this concept,if the costs associated with the actual level of spoilage or production defectsare greater than the costs associated with the range of normal spoilage ordefects, then the difference would be charged to current-period expense, andnot included in inventory costs. The Company adopted SFAS No. 151 in thebeginning of fiscal year 2006 and its adoption did not have a significantimpact on the Company’s results of operations or financial condition.

 

In March 2005,the FASB issued Interpretation No. 47, “Accounting for Conditional AssetRetirement Obligations,” which clarifies that an entity is required torecognize a liability for the fair value of a conditional asset retirementobligation if the fair value can be reasonably estimated even thoughuncertainty exists about the timing and (or) method of settlement. The Companyis required to adopt Interpretation No. 47 by the end of fiscal year 2006.The Company does not expect the implementation of Interpretation No. 47 tohave a significant impact on its results of operations or financial condition.

 

In May 2005,the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections.”SFAS No. 154 replaces APB Opinion No. 20, “Accounting Changes,” andSFAS No. 3, “Reporting Accounting Changes in Interim Financial Statement,”and changes the requirements for the accounting for and reporting of a changein accounting principle. The Company is required to adopt SFAS No. 154 foraccounting changes and error corrections in fiscal year 2007. The Company’sresults of operations and financial condition will only be impacted by SFAS No. 154if it implements changes in accounting principle that are addressed by thestandard or correct accounting errors in future periods.

 

InFebruary 2006, the FASB issued SFAS No. 155, “Accounting for CertainHybrid Financial Instruments.” SFAS No. 155 permits fair valueremeasurement for any hybrid financial instrument that contains an embeddedderivative that otherwise would require bifurcation. As of March 31, 2006,the Company did not have any hybrid financial instruments subject to the fairvalue election under SFAS No. 155. The Company is required to adopt SFAS No. 155at the beginning of fiscal year 2007.

 

In March 2006,the FASB issued SFAS No. 156, “Accounting for Servicing of FinancialAssets—an amendment to FASB Statement No. 140.” SFAS No. 156 amendsFASB Statement No. 140 “Accounting for Transfers and Servicing ofFinancial Assets,” with respect to the accounting for separately recognizedservicing assets and servicing liabilities. The Company is required to adoptSFAS No. 156 at the beginning of fiscal year 2007 and as of March 31,2006, the Company did not have any servicing assets or servicing liabilities.

 

**13. Subsequent Events**

 

On April 7,2006, the Company effected a 3.059-to-1 stock split of its outstanding sharesof common stock as of such date. All share and per share amounts in theaccompanying condensed financial statements and accompanying notes have beenretroactively restated to reflect the stock split.

 

23

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On April 27, 2006, theCompany priced the initial public offering of its common stock. On May 3,2006, the initial public offering of the Company’s common stock was completed. TheCompany sold 2,941,200 shares and the selling stockholders sold 4,117,670shares, at an initial public offering price to the public of $18 per share,resulting in total proceeds to the Company of approximately $47.2 million, netof estimated underwriters’ discounts and commissions and approximately $2.0million to pay fees and expenses associated with this offering and relatedtransaction costs. The underwriters for the initial public offering have theoption to purchase up to an additional 1,058,831 shares of the Company’s commonstock (the “over-allotment”), of which 441,180 shares would be offered by theCompany and 617,651 shares would be offered by the selling stockholders. Theunderwriters have until May 27, 2006 to exercise the over-allotment, andas of May 15, 2006, the option has not been exercised by the underwriters.

 

We used thenet proceeds from our initial public offering to repay $45.0 million of theTerm Loan under the Senior Credit Facility on May 3, 2006.

 

**14. Supplemental Guarantors Condensed Consolidating FinancialInformation (Unaudited)**

 

On January 23,2004, CPI issued $125.0 million of 8% Notes that are guaranteed by CPIInternational and all of CPI’s domestic subsidiaries. Separate financialstatements of the guarantors are not presented because (i) the guarantorsare wholly-owned and have fully and unconditionally guaranteed the 8% Notes ona joint and several basis, and (ii) the Company’s management hasdetermined that such separate financial statements are not material toinvestors. Instead, presented below are the consolidating condensed financialstatements of: (a) the parent, CPI International, (b) the issuer,CPI, (c) the guarantor subsidiaries, the Company’s domestic subsidiaries (d) thenon-guarantor subsidiaries, (e) the consolidating elimination entries, and(f) the consolidated total. The accompanying condensed consolidatingfinancial statements should be read in connection with the condensedconsolidated financial statements of the Company.

 

Investmentsin subsidiaries are accounted for on the equity method. The principalelimination entries eliminate investments in subsidiaries, intercompanybalances, intercompany transactions and intercompany sales.

 

24

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**CONDENSEDCONSOLIDATING BALANCE SHEETAs of March 31, 2006**(inthousands — unaudited)

 
| ** **                                         | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                         | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| ** **                                         |       |       |       |       |       |             |       |              |       |              |       |             |       |
| **Assets**                                         |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Cash and  cash equivalents                         |       | $          | 2          |       | 5,898      |             | 266        |              | 1,635      |              | —     |             | 7,801      |   |
| Restricted  cash                                   |       | —     |       | —     |       | 1,023            |       | 104               |       | —            |       | 1,127            |       |
| Accounts  receivable, net                          |       | —     |       | 24,822     |       | 8,197            |       | 13,444            |       | —            |       | 46,463           |       |
| Inventories                                        |       | —     |       | 34,972     |       | 1,667            |       | 17,373            |       | (911              | )          | 53,101           |       |
| Deferred tax  assets                               |       | —     |       | 11,569     |       | 7                |       | 35                |       | —            |       | 11,611           |       |
| Prepaid and  other current assets                  |       | 722        |       | 1,207      |       | 276              |       | 1,265             |       | —            |       | 3,470            |       |
| Intercompany  receivable                           |       | —     |       | 30,398     |       | —           |       | —            |       | (30,398           | )          | —           |       |
| Total  current assets                              |       | 724        |       | 108,866    |       | 11,436           |       | 33,856            |       | (31,309           | )          | 123,573          |       |
| Property,  plant and equipment, net                |       | —     |       | 74,499     |       | 3,088            |       | 8,408             |       | —            |       | 85,995           |       |
| Deferred  debt issue costs, net                    |       | 3,212      |       | 7,127      |       | —           |       | —            |       | —            |       | 10,339           |       |
| Intangible  assets, net                            |       | —     |       | 60,701     |       | 6,840            |       | 9,175             |       | —            |       | 76,716           |       |
| Goodwill                                           |       | —     |       | 92,041     |       | 5,848            |       | 47,573            |       | —            |       | 145,462          |       |
| Other  long-term assets                            |       | 2,614      |       | 1,067      |       | —           |       | —            |       | —            |       | 3,681            |       |
| Intercompany  notes receivable                     |       | —     |       | 1,035      |       | —           |       | —            |       | (1,035            | )          | —           |       |
| Investment  in subsidiaries                        |       | 146,401    |       | 54,303     |       | —           |       | —            |       | (200,704          | )          | —           |       |
| Total assets                                       |       | $          | 152,951    |       | 399,639    |             | 27,212     |              | 99,012     |              | (233,048   | )                | 445,766    |   |
| ** **                                         |       |       |       |       |       |             |       |              |       |              |       |             |       |
| **Liabilities  and Stockholders’ Equity**     |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Accounts  payable                                  |       | $          | —     |       | 12,211     |             | 403        |              | 8,265      |              | —     |             | 20,879     |   |
| Accrued  expenses                                  |       | 1,645      |       | 18,737     |       | 903              |       | 4,303             |       | —            |       | 25,588           |       |
| Product  warranty                                  |       | —     |       | 3,847      |       | 192              |       | 2,379             |       | —            |       | 6,418            |       |
| Income taxes  payable                              |       | —     |       | 1,198      |       | 96               |       | 1,657             |       | —            |       | 2,951            |       |
| Advance  payments from customers                   |       | —     |       | 3,342      |       | 666              |       | 2,858             |       | —            |       | 6,866            |       |
| Intercompany  payable                              |       | 28,708     |       | —     |       | 492              |       | 1,198             |       | (30,398           | )          | —           |       |
| Total  current liabilities                         |       | 30,353     |       | 39,335     |       | 2,752            |       | 20,660            |       | (30,398           | )          | 62,702           |       |
| Deferred  income taxes                             |       | 585        |       | 25,924     |       | —           |       | 7,087             |       | —            |       | 33,596           |       |
| Intercompany  notes payable                        |       | —     |       | —     |       | —           |       | 1,035             |       | (1,035            | )          | —           |       |
| Advance  payments from sale of San Carlos property |       | —     |       | 13,450     |       | —           |       | —            |       | —            |       | 13,450           |       |
| Long-term  debt                                    |       | 79,258     |       | 215,000    |       | —           |       | —            |       | —            |       | 294,258          |       |
| Other  long-term liabilities                       |       | —     |       | 21         |       | —           |       | —            |       | —            |       | 21               |       |
| Total  liabilities                                 |       | 110,196    |       | 293,730    |       | 2,752            |       | 28,782            |       | (31,433           | )          | 404,027          |       |
| Common stock                                       |       | 131        |       | —     |       | —           |       | —            |       | —            |       | 131              |       |
| Parent  investment                                 |       | —     |       | 75,861     |       | 22,228           |       | 57,216            |       | (155,305          | )          | —           |       |
| Additional  paid-in capital                        |       | 17,596     |       | —     |       | —           |       | —            |       | —            |       | 17,596           |       |
| Accumulated  other comprehensive income            |       | 1,132      |       | 254        |       | —           |       | 254               |       | (508              | )          | 1,132            |       |
| Retained  earnings                                 |       | 23,896     |       | 29,794     |       | 2,232            |       | 12,760            |       | (45,802           | )          | 22,880           |       |
| Total  stockholders’ equity                   |       | 42,755     |       | 105,909    |       | 24,460           |       | 70,230            |       | (201,615          | )          | 41,739           |       |
| Total  liabilities and stockholders’ equity   |       | $          | 152,951    |       | 399,639    |             | 27,212     |              | 99,012     |              | (233,048   | )                | 445,766    |   |

 

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**CONDENSED CONSOLIDATING BALANCE SHEETAs of September 30, 2005**(in thousands —unaudited)

** **
| ** **                                         | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                         | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| ** **                                         |       |       |       |       |       |             |       |              |       |              |       |             |       |
| **Assets**                                         |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Cash and  cash equivalents                         |       | $          | 33         |       | 25,528     |             | 323        |              | 627        |              | —     |             | 26,511     |   |
| Restricted  cash                                   |       | —     |       | —     |       | 1,180            |       | 107               |       | —            |       | 1,287            |       |
| Accounts  receivable, net                          |       | —     |       | 21,982     |       | 5,531            |       | 11,782            |       | —            |       | 39,295           |       |
| Inventories                                        |       | —     |       | 33,746     |       | 2,135            |       | 15,755            |       | (1,016            | )          | 50,620           |       |
| Deferred tax  assets                               |       | —     |       | 12,339     |       | 7                |       | —            |       | —            |       | 12,346           |       |
| Prepaid and  other current assets                  |       | 165        |       | 3,930      |       | 127              |       | 791               |       | (1,032            | )          | 3,981            |       |
| Intercompany  receivable                           |       | —     |       | 17,849     |       | 2,278            |       | 8,064             |       | (28,191           | )          | —           |       |
| Total  current assets                              |       | 198        |       | 115,374    |       | 11,581           |       | 37,126            |       | (30,239           | )          | 134,040          |       |
| Property,  plant and equipment, net                |       | —     |       | 72,462     |       | 3,166            |       | 7,996             |       | —            |       | 83,624           |       |
| Deferred  debt issue costs, net                    |       | 3,326      |       | 7,735      |       | —           |       | —            |       | —            |       | 11,061           |       |
| Intangible  assets, net                            |       | —     |       | 61,500     |       | 6,965            |       | 9,476             |       | —            |       | 77,941           |       |
| Goodwill                                           |       | —     |       | 92,041     |       | 5,848            |       | 47,573            |       | —            |       | 145,462          |       |
| Other  long-term assets                            |       | 1,515      |       | 901        |       | —           |       | —            |       | —            |       | 2,416            |       |
| Intercompany  notes receivable                     |       | —     |       | 7,635      |       | —           |       | —            |       | (7,635            | )          | —           |       |
| Investment  in subsidiaries                        |       | 157,658    |       | 49,587     |       | —           |       | —            |       | (207,245          | )          | —           |       |
| Total assets                                       |       | $          | 162,697    |       | 407,235    |             | 27,560     |              | 102,171    |              | (245,119   | )                | 454,544    |   |
| ** **                                         |       |       |       |       |       |             |       |              |       |              |       |             |       |
| **Liabilities  and Stockholders’ Equity**     |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Accounts  payable                                  |       | $          | —     |       | 13,223     |             | 368        |              | 7,830      |              | —     |             | 21,421     |   |
| Accrued  expenses                                  |       | 1,320      |       | 21,610     |       | 1,078            |       | 3,239             |       | —            |       | 27,247           |       |
| Product  warranty                                  |       | —     |       | 3,698      |       | 164              |       | 2,497             |       | —            |       | 6,359            |       |
| Income taxes  payable                              |       | —     |       | —     |       | 11               |       | 2,567             |       | (1,032            | )          | 1,546            |       |
| Advance  payments from customers                   |       | —     |       | 4,744      |       | 1,834            |       | 5,489             |       | —            |       | 12,067           |       |
| Intercompany  payable                              |       | 28,191     |       | —     |       | —           |       | —            |       | (28,191           | )          | —           |       |
| Total  current liabilities                         |       | 29,511     |       | 43,275     |       | 3,455            |       | 21,622            |       | (29,223           | )          | 68,640           |       |
| Deferred  income taxes                             |       | 272        |       | 28,240     |       | —           |       | 7,044             |       | —            |       | 35,556           |       |
| Intercompany  notes payable                        |       | —     |       | —     |       | —           |       | 7,635             |       | (7,635            | )          | —           |       |
| Advance  payments from sale of San Carlos property |       | —     |       | 13,450     |       | —           |       | —            |       | —            |       | 13,450           |       |
| Long-term  debt                                    |       | 79,231     |       | 205,000    |       | —           |       | —            |       | —            |       | 284,231          |       |
| Total  liabilities                                 |       | 109,014    |       | 289,965    |       | 3,455            |       | 36,301            |       | (36,858           | )          | 401,877          |       |
| Common stock                                       |       | 131        |       | —     |       | —           |       | —            |       | —            |       | 131              |       |
| Parent  investment                                 |       | —     |       | 95,179     |       | 22,228           |       | 57,216            |       | (174,623          | )          | —           |       |
| Additional  paid-in capital                        |       | 34,595     |       | —     |       | —           |       | —            |       | —            |       | 34,595           |       |
| Accumulated  other comprehensive income            |       | 1,621      |       | 1,213      |       | —           |       | 360               |       | (1,573            | )          | 1,621            |       |
| Retained  earnings                                 |       | 17,336     |       | 20,878     |       | 1,877            |       | 8,294             |       | (32,065           | )          | 16,320           |       |
| Total  stockholders’ equity                   |       | 53,683     |       | 117,270    |       | 24,105           |       | 65,870            |       | (208,261          | )          | 52,667           |       |
| Total  liabilities and stockholders’ equity   |       | $          | 162,697    |       | 407,235    |             | 27,560     |              | 102,171    |              | (245,119   | )                | 454,544    |   |

 

26

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**CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS For the Quarter Ended March 31,2006**(in thousands —unaudited)

** **
| ** **                                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|-------------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                                                    | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| Sales                                                                         |       | $          | —     |       | 56,580     |             | 16,101     |              | 34,148     |              | (19,900    | )                | 86,929     |   |
| Cost of  sales                                                                |       | —     |       | 42,238     |       | 13,241           |       | 25,797            |       | (20,091           | )          | 61,185           |       |
| Gross profit                                                                  |       | —     |       | 14,342     |       | 2,860            |       | 8,351             |       | 191               |       | 25,744           |       |
| Operating  costs and expenses:                                                |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Research and  development                                                     |       | —     |       | 842        |       | —           |       | 1,099             |       | —            |       | 1,941            |       |
| Selling and  marketing                                                        |       | —     |       | 1,933      |       | 974              |       | 1,773             |       | —            |       | 4,680            |       |
| General and  administrative                                                   |       | —     |       | 1,784      |       | 435              |       | 2,457             |       | —            |       | 4,676            |       |
| Amortization  of acquisition-related intangible assets                        |       | —     |       | 334        |       | 62               |       | 150               |       | —            |       | 546              |       |
| Net loss on  disposition of assets                                            |       | —     |       | 143        |       | —           |       | —            |       | —            |       | 143              |       |
| Total  operating costs and expenses                                           |       | —     |       | 5,036      |       | 1,471            |       | 5,479             |       | —            |       | 11,986           |       |
| Operating  income                                                             |       | —     |       | 9,306      |       | 1,389            |       | 2,872             |       | 191               |       | 13,758           |       |
| Interest  expense (income), net                                               |       | 2,052      |       | 4,339      |       | (4               | )          | 13                |       | —            |       | 6,400            |       |
| (Loss)  income before income tax expense and equity in income of subsidiaries |       | (2,052     | )          | 4,967      |       | 1,393            |       | 2,859             |       | 191               |       | 7,358            |       |
| Income tax  (benefit) expense                                                 |       | (821       | )          | 2,539      |       | 390              |       | 905               |       | —            |       | 3,013            |       |
| Equity in  income of subsidiaries                                             |       | 5,576      |       | 2,957      |       | —           |       | —            |       | (8,533            | )          | —           |       |
| Net income                                                                    |       | $          | 4,345      |       | 5,385      |             | 1,003      |              | 1,954      |              | (8,342     | )                | 4,345      |   |

 

**CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS For the Quarter Ended April 1, 2005**(in thousands —unaudited)

 
| ** **                                                                  | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                                                  | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| Sales                                                                       |       | $          | —     |       | 59,433     |             | 11,682     |              | 30,708     |              | (17,360    | )                | 84,463     |   |
| Cost of  sales                                                              |       | —     |       | 41,672     |       | 9,575            |       | 21,499            |       | (17,360           | )          | 55,386           |       |
| Gross profit                                                                |       | —     |       | 17,761     |       | 2,107            |       | 9,209             |       | —            |       | 29,077           |       |
| Operating costs  and expenses:                                              |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Research and  development                                                   |       | —     |       | 773        |       | —           |       | 1,085             |       | —            |       | 1,858            |       |
| Selling and  marketing                                                      |       | —     |       | 1,973      |       | 814              |       | 1,798             |       | —            |       | 4,585            |       |
| General and  administrative                                                 |       | —     |       | 3,267      |       | 567              |       | 1,824             |       | —            |       | 5,658            |       |
| Amortization  of acquisition-related intangible assets                      |       | —     |       | 1,175      |       | 62               |       | 249               |       | —            |       | 1,486            |       |
| Net loss on  disposition of assets                                          |       | —     |       | 192        |       | —           |       | —            |       | —            |       | 192              |       |
| Total  operating costs and expenses                                         |       | —     |       | 7,380      |       | 1,443            |       | 4,956             |       | —            |       | 13,779           |       |
| Operating  income                                                           |       | —     |       | 10,381     |       | 664              |       | 4,253             |       | —            |       | 15,298           |       |
| Interest  expense (income), net                                             |       | 811        |       | 3,674      |       | (10              | )          | 257               |       | —            |       | 4,732            |       |
| (Loss)  income before income tax expense and equity in loss of subsidiaries |       | (811       | )          | 6,707      |       | 674              |       | 3,996             |       | —            |       | 10,566           |       |
| Income tax  (benefit) expense                                               |       | (324       | )          | 3,025      |       | 229              |       | 1,316             |       | —            |       | 4,246            |       |
| Equity in  income of subsidiaries                                           |       | 6,807      |       | 3,125      |       | —           |       | —            |       | (9,932            | )          | —           |       |
| Net income                                                                  |       | $          | 6,320      |       | 6,807      |             | 445        |              | 2,680      |              | (9,932     | )                | 6,320      |   |

 

27

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**CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS For the Six Months Ended March 31,2006**(in thousands —unaudited)

 
| ** **                                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|-------------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                                                    | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| Sales                                                                         |       | $          | —     |       | 108,583    |             | 29,042     |              | 68,956     |              | (37,273    | )                | 169,308    |   |
| Cost of  sales                                                                |       | —     |       | 80,526     |       | 23,942           |       | 51,266            |       | (37,378           | )          | 118,356          |       |
| Gross profit                                                                  |       | —     |       | 28,057     |       | 5,100            |       | 17,690            |       | 105               |       | 50,952           |       |
| Operating  costs and expenses:                                                |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Research and  development                                                     |       | —     |       | 1,686      |       | —           |       | 2,165             |       | —            |       | 3,851            |       |
| Selling and  marketing                                                        |       | —     |       | 4,098      |       | 1,843            |       | 3,763             |       | —            |       | 9,704            |       |
| General and  administrative                                                   |       | —     |       | 6,570      |       | 734              |       | 4,674             |       | —            |       | 11,978           |       |
| Amortization  of acquisition-related intangible assets                        |       | —     |       | 668        |       | 125              |       | 301               |       | —            |       | 1,094            |       |
| Net loss on  disposition of assets                                            |       | —     |       | 172        |       | —           |       | 36                |       | —            |       | 208              |       |
| Total  operating costs and expenses                                           |       | —     |       | 13,194     |       | 2,702            |       | 10,939            |       | —            |       | 26,835           |       |
| Operating  income                                                             |       | —     |       | 14,863     |       | 2,398            |       | 6,751             |       | 105               |       | 24,117           |       |
| Interest  expense (income), net                                               |       | 4,100      |       | 8,346      |       | (9               | )          | 27                |       | —            |       | 12,464           |       |
| (Loss)  income before income tax expense and equity in income of subsidiaries |       | (4,100     | )          | 6,517      |       | 2,407            |       | 6,724             |       | 105               |       | 11,653           |       |
| Income tax  (benefit) expense                                                 |       | (1,640     | )          | 3,779      |       | 696              |       | 2,258             |       | —            |       | 5,093            |       |
| Equity in  income of subsidiaries                                             |       | 9,020      |       | 6,177      |       | —           |       | —            |       | (15,197           | )          | —           |       |
| Net income                                                                    |       | $          | 6,560      |       | 8,915      |             | 1,711      |              | 4,466      |              | (15,092    | )                | 6,560      |   |

 

**CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS For the Six Months Ended April 1,2005**(in thousands —unaudited)

 
| ** **                                                                  | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                                                  | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| Sales                                                                       |       | $          | —     |       | 113,566    |             | 21,255     |              | 55,818     |              | (32,443    | )                | 158,196    |   |
| Cost of  sales                                                              |       | —     |       | 79,791     |       | 17,644           |       | 40,423            |       | (32,443           | )          | 105,415          |       |
| Gross profit                                                                |       | —     |       | 33,775     |       | 3,611            |       | 15,395            |       | —            |       | 52,781           |       |
| Operating  costs and expenses:                                              |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Research and  development                                                   |       | —     |       | 1,191      |       | —           |       | 2,115             |       | —            |       | 3,306            |       |
| Selling and  marketing                                                      |       | —     |       | 3,695      |       | 1,646            |       | 3,312             |       | —            |       | 8,653            |       |
| General and  administrative                                                 |       | —     |       | 6,044      |       | 837              |       | 2,746             |       | —            |       | 9,627            |       |
| Amortization  of acquisition-related intangible assets                      |       | —     |       | 5,417      |       | 120              |       | 855               |       | —            |       | 6,392            |       |
| Net loss on  disposition of assets                                          |       | —     |       | 248        |       | —           |       | —            |       | —            |       | 248              |       |
| Total  operating costs and expenses                                         |       | —     |       | 16,595     |       | 2,603            |       | 9,028             |       | —            |       | 28,226           |       |
| Operating  income                                                           |       | —     |       | 17,180     |       | 1,008            |       | 6,367             |       | —            |       | 24,555           |       |
| Interest  expense (income), net                                             |       | 811        |       | 7,444      |       | (15              | )          | 572               |       | —            |       | 8,812            |       |
| (Loss)  income before income tax expense and equity in loss of subsidiaries |       | (811       | )          | 9,736      |       | 1,023            |       | 5,795             |       | —            |       | 15,743           |       |
| Income tax  (benefit) expense                                               |       | (324       | )          | 4,331      |       | 305              |       | 2,013             |       | —            |       | 6,325            |       |
| Equity in  income of subsidiaries                                           |       | 9,905      |       | 4,500      |       | —           |       | —            |       | (14,405           | )          | —           |       |
| Net income                                                                  |       | $          | 9,418      |       | 9,905      |             | 718        |              | 3,782      |              | (14,405    | )                | 9,418      |   |

 

28

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**CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWSFor the Six Months Ended March 31, 2006**(in thousands —unaudited)

** **
| ** **                                                 | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|------------------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                                 | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| **Operating  Activities**                                  |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Net cash  (used in) provided by operating activities       |       | $          | (2,116     | )          | (4,158     | )                | 22         |              | 1,737      |              | —     |             | (4,515     | ) |
| **Investing  Activities**                                  |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Deferred  expenses relating to sale of San Carlos Property |       | —     |       | (4         | )          | —           |       | —            |       | —            |       | (4               | )          |
| Capital  expenditures                                      |       | —     |       | (5,009     | )          | (79              | )          | (729              | )          | —            |       | (5,817           | )          |
| Net cash  used in investing activities                     |       | —     |       | (5,013     | )          | (79              | )          | (729              | )          | —            |       | (5,821           | )          |
| **Financing  Activities**                                  |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Proceeds  from senior term loan                            |       | —     |       | 10,000     |       | —           |       | —            |       | —            |       | 10,000           |       |
| Special cash  dividends                                    |       | (17,000    | )          | —     |       | —           |       | —            |       | —            |       | (17,000          | )          |
| Payment of  IPO financing costs                            |       | (1,374     | )          | —     |       | —           |       | —            |       | —            |       | (1,374           | )          |
| Intercompany  dividends                                    |       | 20,459     |       | (20,459    | )          | —           |       | —            |       | —            |       | —           |       |
| Net cash  provided by (used in) financing activities       |       | 2,085      |       | (10,459    | )          | —           |       | —            |       | —            |       | (8,374           | )          |
| **Net  (Decrease) Increase in Cash and Cash Equivalents**  |       | (31        | )          | (19,630    | )          | (57              | )          | 1,008             |       | —            |       | (18,710          | )          |
| Cash and  cash equivalents at beginning of period          |       | 33         |       | 25,528     |       | 323              |       | 627               |       | —            |       | 26,511           |       |
| Cash and  cash equivalents at end of period                |       | $          | 2          |       | 5,898      |             | 266        |              | 1,635      |              | —     |             | 7,801      |   |

 

**CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWSFor the Six Months Ended April 1, 2005**(in thousands —unaudited)

 
| ** **                                                 | ** ** | ** ** | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-Guarantor** | ** ** | **Consolidating** | ** ** | **Consolidated** | ** ** |
|------------------------------------------------------------|------------|------------|------------|------------|------------|------------------|------------|-------------------|------------|-------------------|------------|------------------|------------|
| ** **                                                 | ** ** | **Parent** | ** ** | **Issuer** | ** ** | **Subsidiaries** | ** ** | **Subsidiaries**  | ** ** | **Eliminations**  | ** ** | **Total**        | ** ** |
| **Operating  Activities**                                  |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Net cash  provided by (used in) operating activities       |       | $          | 227        |       | 5,198      |             | 258        |              | (808       | )                 | —     |             | 4,875      |   |
| **Investing  Activities**                                  |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Deferred  expenses relating to sale of San Carlos property |       | —     |       | (203       | )          | —           |       | —            |       | —            |       | (203             | )          |
| Purchase of  Econco, net of cash acquired                  |       | —     |       | (18,685    | )          | —           |       | —            |       | —            |       | (18,685          | )          |
| Capital  expenditures                                      |       | —     |       | (4,092     | )          | (73              | )          | (263              | )          | —            |       | (4,428           | )          |
| Net cash  used in investing activities                     |       | —     |       | (22,980    | )          | (73              | )          | (263              | )          | —            |       | (23,316          | )          |
| **Financing  Activities**                                  |       |       |       |       |       |             |       |              |       |              |       |             |       |
| Proceeds  from issuance of floating rate senior notes      |       | 79,200     |       | —     |       | —           |       | —            |       | —            |       | 79,200           |       |
| Payments for  debt issue costs                             |       | (3,375     | )          | —     |       | —           |       | —            |       | —            |       | (3,375           | )          |
| Repayments  on senior term loan                            |       | —     |       | (9,550     | )          | —           |       | —            |       | —            |       | (9,550           | )          |
| Special cash  dividends                                    |       | (75,809    | )          | —     |       | —           |       | —            |       | —            |       | (75,809          | )          |
| Repayments  on capital leases                              |       | —     |       | —     |       | (20              | )          | —            |       | —            |       | (20              | )          |
| Net cash  provided by financing activities                 |       | 16         |       | (9,550     | )          | (20              | )          | —            |       | —            |       | (9,554           | )          |
| **Net  (Decrease) Increase in Cash and Cash Equivalents**  |       | 243        |       | (27,332    | )          | 165              |       | (1,071            | )          | —            |       | (27,995          | )          |
| Cash and  cash equivalents at beginning of period          |       | —     |       | 38,131     |       | 113              |       | 2,232             |       | —            |       | 40,476           |       |
| Cash and  cash equivalents at end of period                |       | $          | 243        |       | 10,799     |             | 278        |              | 1,161      |              | —     |             | 12,481     |   |

 

29

----

 

**Item 2. Management’s Discussion and Analysis ofFinancial Condition and Results of Operations**

 

*Our fiscal years are the 52- or 53-week periods that end on the Fridaynearest September 30. Fiscal year 2006 comprises the 52-week period endingSeptember 29, 2006 and fiscal year 2005 comprised the 52-week period endedSeptember 30, 2005. The following discussion should be read in conjunctionwith the accompanying condensed consolidated financial statements, and thenotes thereto, of CPI International, Inc.*

 

**Overview**

 

CPI International, Inc.,headquartered in Palo Alto, California, is the parent company ofCommunications & Power Industries, Inc., a leading provider ofmicrowave, radio frequency, power and control solutions for critical defense,communications, medical, scientific and other applications. Communications &Power Industries, Inc. develops, manufactures and distributes productsused to generate, amplify and transmit high-power/high-frequency microwave andradio frequency signals and/or provide power and control for variousapplications. End-use applications of these systems include the transmission ofradar signals for navigation and location; transmission of deception signalsfor electronic countermeasures; transmission and amplification of voice, dataand video signals for broadcasting, Internet and other types of communications;providing power and control for medical diagnostic imaging; generatingmicrowave energy for radiation therapy in the treatment of cancer and forvarious industrial and scientific applications.

 

Unless thecontext otherwise requires, (1) “CPI International” means CPIInternational, Inc., (2) “Predecessor” means Communications &Power Industries Holding Corporation, the predecessor to CPI International, (3) “CPI”means Communications & Power Industries, Inc. and (4) “Merger”means the January 23, 2004 merger pursuant to which CPI Internationalacquired the Predecessor. CPI is a direct subsidiary of CPI International. CPIInternational is a holding company with no operations of its own. The terms “we,”“us,” “our” and the “Company” refer to CPI International, or the Predecessor,as applicable, and its direct and indirect subsidiaries on a consolidatedbasis.

 

On May 3,2006, we completed the initial public offering of our Common Stock, pursuant towhich we sold 2,941,200 shares and the selling stockholders sold 4,117,670shares, at an initial offering price to the public of $18 per share. Foradditional information about the initial public offering of our common stocksee “—Liquidity and Capital Resources.”

 

**Econco Acquisition**

 

On October 8,2004, we purchased all of the outstanding stock of Econco Broadcast Service, Inc.of Woodland, California for cash consideration of approximately $18.3 million.Econco is a provider of remanufactured high-power microwave devices, allowingbroadcasters and other users of these critical products to extend the life oftheir devices at a cost that is lower than buying a new device.

 

**Orders**

 

Ourcustomer sales contracts are recorded as orders when we accept written customerpurchase orders or contracts. Customer purchase orders with an undefineddelivery schedule, or blanket purchase orders, are not reported as orders untilthe delivery date is determined. Our government sales contracts are notreported as orders until we have been notified that the contract has beenfunded. Total orders for a fiscal period represent the total dollar amount ofcustomer orders recorded by us during the fiscal period, reduced by the dollaramount of any order cancellations or terminations during the fiscal period.

 

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Our ordersby market for the first six months of fiscal years 2006 and 2005 are summarizedas follows (dollars in millions):

 
| ** **          | ** ** | **Six Months Ended** | ** ** | ** **                  | ** ** | ** ** | ** ** |
|---------------------|------------|--------------------------------|------------|-----------------------------|------------|------------|------------|
| ** **          | ** ** | **March 31, 2006**   | ** ** | **April 1, 2005** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **          | ** ** | ** **                     | ** ** | **Percentage**              | ** ** | ** ** | ** ** | **Percentage** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **          | ** ** | ** **                     | ** ** | **of Total**           | ** ** | ** ** | ** ** | **of Total** | ** ** | **Increase (Decrease)** | ** ** |
| ** **          | ** ** | **Amount**                     | ** ** | **Orders**                  | ** ** | **Amount** | ** ** | **Orders** | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| Radar               |       | $                              | 64.3       |                        | 37         | %          | $          | 53.4 |   | 30 | % | $ | 10.9 |   | 20 | % |
| Electronic  Warfare |       | 9.7                            |       | 6                           | %          | 15.4       |       | 9 | % | (5.7 | ) | (37 | )% |
| Medical             |       | 33.7                           |       | 20                          | %          | 32.3       |       | 18 | % | 1.4 |   | 4 | % |
| Communications      |       | 52.1                           |       | 30                          | %          | 59.0       |       | 34 | % | (6.9 | ) | (12 | )% |
| Industrial          |       | 9.7                            |       | 6                           | %          | 12.9       |       | 7 | % | (3.2 | ) | (25 | )% |
| Scientific          |       | 2.6                            |       | 1                           | %          | 3.9        |       | 2 | % | (1.3 | ) | (33 | )% |
| Total orders        |       | $                              | 172.1      |                        | 100        | %          | $          | 176.9 |   | 100 | % | $ | (4.8 | ) | (3 | )% |

 

Explanationsfor the order increase or decrease by market for the first six months of fiscalyear 2006 compared to the first six months of fiscal year 2005 are as follows:

 

•                    **Radar:**   Theincrease in radar orders was due to both increased order levels and the timingof order receipts for several programs. The increase in order levels includesincreases for products that are used on the Aegis SPY-1D program, the TPQ-37Firefinder Artillery Locating Radar program and various foreign militaryprograms.

 

•                    **Electronic Warfare:**   Thedecrease in electronic warfare orders was primarily due to the timing of orderlevels on certain programs that did not repeat in the first six months offiscal year 2006. In the first six months of fiscal year 2005, we recorded a$3.4 million two-year delivery order for the ALQ-187 Electronic CountermeasureSystem program. While this order is not expected to repeat in the currentfiscal year, we are expecting follow-on orders at lower levels for this programwithin the next six to twelve months. Lower orders of approximately $1.1million for the MK-234 NULKA shipboard decoy program during first six months offiscal year 2006 were due to the timing of an order release that is expected inthe second half of fiscal year 2006.

 

•                    **Medical:**    There wasa $4.5 million increase in orders for x-ray generators in the first six monthsof fiscal year 2006 compared to the first six months of fiscal year 2005, whichwas partially offset by the $3.3 million reduction in orders for our Eimacdivision due to its relocation as discussed below. The increase in medicalorders was primarily due to the continued strong growth in orders for x-raygenerators, control systems, and power supply products used in x-ray imagingsystems. The growth in the medical imaging orders is primarily due to newproduct introductions, new customers and increases in product penetration withexisting customers.

 

•                    **Communications:**   The decrease in communications orders was primarily attributable to the timingof order receipts. The relocation of the Eimac facility caused an orderacceleration of approximately $2.5 million in the first six months of fiscalyear 2005 and a corresponding decrease of approximately $2.5 million in thefirst six months of fiscal year 2006. In addition, a $3.1 million internationalorder for vacuum electron device (“VED”) products was recorded in the first sixmonths of fiscal year 2005 and did not repeat in the first six months of fiscalyear 2006. Orders for satellite communication amplifiers were $29.4 million forthe first six months of fiscal year 2006 and are consistent with orders of$28.6 million for the first six months of fiscal year 2005.

 

•                    **Industrial:**   Thedecrease in industrial orders was primarily attributable to the $2.9 millionreduction in order receipts at our Eimac division due to its relocation andlower demand for power supplies from semiconductor equipment companies.

 

•                    **Scientific:**   Orders inthe scientific market, our smallest market, are historically one-time projectsand can fluctuate significantly from period to period.

 

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As notedabove, the relocation of our Eimac division from our San Carlos, Californiafacility to our Palo Alto, California and Mountain View, California facilitiesimpacted our orders for the first six months of fiscal year 2006 as compared tothe first six months of fiscal year 2005. The relocation process began duringfiscal year 2005 and is expected to be completed by the end of fiscal year 2006.During the first six months of fiscal year 2005, in anticipation of plannedmanufacturing disruptions due to the relocation, customers accelerated theplacement of orders with our Eimac division. The acceleration of orders duringfiscal year 2005, and the related acceleration of product shipments, caused areduction of customers’ demand requirements during the first six months offiscal year 2006. Total orders for our Eimac division for all end markets of$17.2 million for the first six months of fiscal year 2006 were $13.4 millionlower than the $30.6 million of total orders for the division for the first sixmonths of fiscal year 2005. During the three fiscal years before the relocationbegan (fiscal years 2002 through 2004), semi-annual total orders at our Eimacdivision averaged approximately $21.6 million. Total orders for our Eimacdivision for the first six months of fiscal year 2005 were $9.0 million higherthan the average order rate prior to beginning the relocation, and total ordersfor the Eimac division for the first six months of fiscal year 2006 were $4.4million lower than the average order rate prior to beginning the relocation.

 

Incomingorder levels fluctuate significantly on a quarterly or annual basis, and aparticular quarter or year’s order rate may not be indicative of futureorder levels. In addition, our sales are highly dependent upon manufacturingscheduling and performance and, accordingly, it is not possible to accuratelypredict when orders will be recognized as sales.

 

**Backlog**

 

As of March 31,2006, we had an order backlog of $197.7 million compared to an order backlog of$200.0 million as of April 1, 2005. Backlog represents the cumulativebalance, at a given point in time, of recorded customer sales orders that havenot yet been shipped or recognized as sales. Backlog is increased when an orderis received, and backlog is decreased when we recognize sales. We believebacklog and orders information is helpful to investors because this informationmay be indicative of future sales results. Although backlog consists offirm orders for which goods and services are yet to be provided, customers can,and sometimes do, terminate or modify these orders. However, historically theamount of modifications and terminations has not been material compared tototal contract volume.

 

**Results of Operations**

 

We deriveour revenue primarily from the sale of products that are used to generate,amplify and transmit high-power/high-frequency microwave and radio frequencysignals and/or provide power and control for various applications. Our productsgenerally have selling prices ranging from $2,000 to $100,000, with certainlimited products priced up to $1,000,000.

 

Cost ofgoods sold generally includes costs for raw materials, manufacturing costs,including allocation of overhead and other indirect costs, charges for reservesfor excess and obsolete inventory, warranty claims and losses on fixed pricecontracts. Operating expenses generally consist of research and development,selling and marketing and general and administrative expenses.

 

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***Quarter Ended March 31, 2006 Compared toQuarter Ended April 1, 2005***

 

Thefollowing table sets forth our historical results of operations for each of theperiods indicated (dollars in millions):

 
| ** **                                       | ** ** | **Quarter Ended**       | ** ** |
|--------------------------------------------------|------------|------------------------------|------------|
| ** **                                       | ** ** | **March 31, 2006** | ** ** | **April 1, 2005** | ** ** |
| ** **                                       | ** ** | ** **                   | ** ** | **Percentage** | ** ** | ** ** | ** ** | **Percentage of** | ** ** |
| ** **                                       | ** ** | **Amount**                   | ** ** | **of Sales** | ** ** | **Amount** | ** ** | **Sales** | ** ** |
| Sales                                            |       | $                            | 86.9       |   | 100.0 | % | $ | 84.5 |   | 100.0 | % |
| Cost of  sales                                   |       | 61.2                         |       | 70.4 |   | 55.4 |   | 65.6 |   |
| Gross profit                                     |       | 25.7                         |       | 29.6 |   | 29.1 |   | 34.4 |   |
| Research and  development                        |       | 1.9                          |       | 2.2 |   | 1.9 |   | 2.2 |   |
| Selling and  marketing                           |       | 4.7                          |       | 5.4 |   | 4.6 |   | 5.4 |   |
| General and  administrative                      |       | 4.7                          |       | 5.4 |   | 5.7 |   | 6.7 |   |
| Amortization  of acquisition-related intangibles |       | 0.5                          |       | 0.6 |   | 1.5 |   | 1.8 |   |
| Net loss on  disposition of assets               |       | 0.1                          |       | 0.1 |   | 0.2 |   | 0.2 |   |
| Operating  income                                |       | 13.8                         |       | 15.9 |   | 15.3 |   | 18.1 |   |
| Interest  expense, net                           |       | 6.4                          |       | 7.4 |   | 4.7 |   | 5.6 |   |
| Income  before taxes                             |       | 7.4                          |       | 8.5 |   | 10.6 |   | 12.5 |   |
| Income tax  expense                              |       | 3.0                          |       | 3.5 |   | 4.2 |   | 5.0 |   |
| Net income                                       |       | $                            | 4.3        |   | 5.0 | % | 6.3 |   | 7.5 | % |
| Other Data:                                      |       |                         |       |   |   |   |   |   |   |
| EBITDA (a)                                       |       | $                            | 16.1       |   | 18.5 | % | $ | 18.4 |   | 21.8 | % |

 

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(a)             EBITDA represents earnings before provision for income taxes,net interest expense and depreciation and amortization. For the reasons listedbelow, we believe that GAAP-based financial information for highly leveragedbusinesses such as ours should be supplemented by EBITDA so that investorsbetter understand our financial performance in connection with their analysisof our business:

 

•                    EBITDAis a component of the measures used by our board of directors and managementteam to evaluate our operating performance;

 

•                    theSenior Credit Facility (defined below) contains covenants that require us tomaintain certain interest expense coverage and leverage ratios that containEBITDA as a component, and our management team uses EBITDA to monitorcompliance with such covenants;

 

•                    EBITDAis a component of the measures used by our management team to make day-to-dayoperating decisions;

 

•                    EBITDAfacilitates comparisons between our operating results and those of competitorswith different capital structures and therefore is a component of the measuresused by the management to facilitate internal comparisons to competitors’results and our industry in general; and

 

•                    thepayment of management bonuses is contingent upon, among other things, thesatisfaction by us of certain targets that contain EBITDA as a component.

 

Othercompanies may define EBITDA differently and, as a result, our measure ofEBITDA may not be directly comparable to EBITDA of other companies.Although we use EBITDA as a financial measure to assess the performance of ourbusiness, the use of EBITDA is limited because it does not include certainmaterial costs, such as interest and taxes, necessary to operate our business.When analyzing our performance, EBITDA should be considered in addition to, andnot as a substitute for, net income (loss), cash flows from operating activitiesor other statements of operations or statements of cash flows data prepared inaccordance with GAAP.

 

For a reconciliation of EBITDA to Net Income, see Note 8 ofthe Notes to Condensed Consolidated Financial Statements.

 

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**Sales:**   The following tablecompares total sales by market for the second quarter of fiscal years 2006 and2005 (dollars in millions):

 
| ** **          | ** ** | **Quarter Ended**       | ** ** | ** **                  | ** ** | ** ** | ** ** |
|---------------------|------------|------------------------------|------------|-----------------------------|------------|------------|------------|
| ** **          | ** ** | **March 31, 2006** | ** ** | **April 1, 2005** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **          | ** ** | ** **                   | ** ** | **Percentage**              | ** ** | ** ** | ** ** | **Percentage** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **          | ** ** | ** **                   | ** ** | **of Total**           | ** ** | ** ** | ** ** | **of Total** | ** ** | **Increase (Decrease)** | ** ** |
| ** **          | ** ** | **Amount**                   | ** ** | **Sales**                   | ** ** | **Amount** | ** ** | **Sales** | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| Radar               |       | $                            | 30.3       |                        | 35         | %          | $          | 28.5 |   | 34 | % | $ | 1.8 |   | 6 | % |
| Electronic  Warfare |       | 7.3                          |       | 8                           | %          | 6.9        |       | 8 | % | 0.4 |   | 6 | % |
| Medical             |       | 14.1                         |       | 16                          | %          | 13.9       |       | 16 | % | 0.2 |   | 1 | % |
| Communications      |       | 28.6                         |       | 33                          | %          | 26.4       |       | 31 | % | 2.2 |   | 8 | % |
| Industrial          |       | 5.3                          |       | 6                           | %          | 6.4        |       | 8 | % | (1.1 | ) | (17 | )% |
| Scientific          |       | 1.3                          |       | 2                           | %          | 2.4        |       | 3 | % | (1.1 | ) | (46 | )% |
| Total sales         |       | $                            | 86.9       |                        | 100        | %          | $          | 84.5 |   | 100 | % | $ | 2.4 |   | 3 | % |

 

Sales forthe second quarter of fiscal year 2006 of $86.9 million were $2.4 million, or3%, higher than the comparable period of fiscal year 2005. The radar marketsales increase was primarily due to increased shipments of products for variousU.S. government and foreign military programs. The sales increase in themedical market was principally due to an approximately 15 percent increase insales of the company’s medical imaging and radiation therapy products from$11.0 million in the second quarter of 2005 to $12.6 million in the most recentquarter, partially offset by a $1.2 million reduction in product sales from thecompany’s Eimac division due to the facility consolidation. The communicationssales increase was due to increased shipments of amplifiers for direct-to-homebroadcast and other satellite communication applications, partially offset by $2.1million of lower shipments by our Eimac division due to its relocation. Thedecrease in industrial sales was primarily due to the $1.4 million reduction inshipments by our Eimac division due to its relocation. The decrease inscientific sales was primarily due to the product deliveries on programs for aEuropean laboratory and the Spallation Neutron Source at Oakridge NationalLaboratory in the second quarter of fiscal year 2005 that did not repeat in thesecond quarter of fiscal year 2006.

 

As noted above,the relocation of our Eimac division from our San Carlos, California facilityto our Palo Alto, California and Mountain View, California facilities impactedour sales for the second quarter of fiscal year 2006 as compared to the secondquarter of fiscal year 2005. The relocation process began during fiscal year2005 and is expected to be completed by the end of fiscal year 2006. Our Eimacdivision has experienced manufacturing disruptions stemming from thedecommissioning of custom production equipment in San Carlos and the requiredreconfiguration, installation and testing of equipment prior to productionreadiness in Palo Alto. In addition, product shipments were accelerated duringfiscal year 2005 in anticipation of the relocation, which caused a reduction incustomer demand requirements in the second quarter of fiscal year 2006. TotalEimac division sales for all end markets of $7.0 million for the second quarterof fiscal year 2006 were $4.8 million, or 41%, lower than total Eimac divisionsales of $11.8 million for the second quarter of fiscal year 2005. Prior tobeginning the relocation of our Eimac division, quarterly sales at our Eimacdivision averaged approximately $10.8 million for fiscal years 2002 through2004.

 

**Gross Profit:****Gross profit of $25.7million, or 29.6% of sales, for the second quarter of fiscal year 2006 was $3.4million lower than the prior year’s level of $29.1 million, or 34.4% of sales.The decrease in gross profit was primarily due to the relocation of our Eimacdivision, which negatively impacted gross margins by $2.3 million during thesecond quarter of fiscal year 2006 as compared to fiscal year 2005; othercontributing factors included the shipment of products with higher profitmargins in the second quarter of fiscal year 2005, start-up costs for newsatcom products in fiscal year 2006, and the impact of the weaker U.S. dollaras compared to the Canadian dollar in fiscal year 2006. After the relocation ofour Eimac division is complete, we expect to realize operational savings fromthe consolidation of production facilities in Palo Alto, California, which webelieve will improve our gross profit percentage.

 

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Our satcom operation hasdeveloped numerous new products over the past several years. A successfulintroduction of these new products has resulted in a gradual shift in ourbacklog to newer products. As we began to ramp up production of these newproducts in the second quarter of fiscal year 2006, we incurred start-upmanufacturing costs which contributed to lower margins in the second quarter offiscal year 2006 as compared to the second quarter of fiscal year 2005.

 

**Research and Development:****Research and developmentexpenses were $1.9 million, or 2.2% of sales, for the second quarter of bothfiscal year 2005 and 2006. Total spending on research and development,including company-sponsored amounts charged to research and development, andcustomer-sponsored amounts charged to cost of sales, decreased from $3.6 million,or 4.3% of sales, in the second quarter of fiscal year 2005 to $3.3 million, or3.8% of sales, in the second quarter of fiscal year 2006.

 

**Selling and Marketing:**  Sellingand marketing expenses of $4.7 million, or 5.4% of sales, for the secondquarter of fiscal year 2006 increased slightly from $4.6 million, or 5.4% ofsales, for the second quarter of fiscal year 2005. The increase in selling andmarketing expenses in the second quarter of fiscal year 2006 was primarily dueto additional selling costs to support the growth of our business.

 

**General and Administrative:****General andadministrative expenses of $4.7 million, or 5.4% of sales, for the secondquarter of the fiscal year 2006 were $1.0 million lower than the $5.7 million,or 6.7% of sales, for the second quarter of fiscal year 2005. The secondquarter of fiscal year 2005 included $0.4 million for stock-based compensationexpense, higher unfavorable foreign currency losses, and higher managementincentive expense. The second quarter of fiscal years 2006 and 2005 eachincluded $0.3 million of moving expenses related to the relocation of our Eimacdivision.

 

**Amortization of Acquisition-Related Intangibles: **Amortizationof acquisition-related intangibles of $0.5 million for the second quarter ofthe fiscal year 2006 was $1.0 million lower than the second quarter of fiscalyear 2005. Amortization of acquisition-related intangibles consists of purchaseaccounting charges, primarily for customer backlog and other intangible assets.The second quarter of fiscal year 2005 included $0.9 million for theamortization of customer backlog, which was fully amortized in January 2005.Acquisition-related intangible assets will continue to be amortized overperiods of up to 50 years.

 

**Interest Expense, net:**Interestexpense, net of $6.4 million, or 7.4% of sales, for the second quarter offiscal year 2006 was $1.7 million higher than the $4.7 million, or 5.6% ofsales, for the second quarter of fiscal year 2005. The increase in interestexpense in the second quarter of fiscal year 2006 was primarily due toadditional interest expense for our $80 million floating rate senior notesissued on February 22, 2005 and higher interest rates on our variable rateTerm Loan.

 

**Income Tax Expense:**We recordedincome tax expense of $3.0 million for the second quarter of fiscal year 2006and $4.2 million for the second quarter of 2005. The effective tax rates wereapproximately 41% and 40% for the second quarter of fiscal years 2006 and 2005,respectively.

 

**Net Income:****Net income of $4.3 millionfor the second quarter of fiscal year 2006 was $2.0 million lower than thesecond quarter of fiscal year 2005 primarily due to the relocation of our Eimacdivision and higher interest expense related to higher debt levels and higherinterest rates on our variable rate debt; other contributing factors includedthe shipment of products with higher profit margins in the second quarter offiscal year 2005, start-up manufacturing costs for new satcom products infiscal year 2006, and the impact of the weaker U.S. dollar as compared to theCanadian dollar in fiscal year 2006. This was partially offset by loweramortization of acquisition-related intangibles and lower general andadministrative expenses in the second quarter of fiscal year 2006.

 

**EBITDA:******EBITDA for the secondquarter of fiscal year 2006 was $16.1 million, a decrease of $2.3 millioncompared to $18.4 million for the second quarter of fiscal year 2005. Thedecrease in EBITDA from the second quarter of fiscal year 2005 to the secondquarter of 2006 was primarily due to the relocation of our Eimac division;other contributing factors included the shipment of products with higher profitmargins

 

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in the second quarter of fiscalyear 2005, start-up manufacturing costs for new satcom products in fiscal year2006, and the impact of the weaker U.S. dollar as compared to the Canadiandollar in fiscal year 2006.

 

***Six Months Ended March 31, 2006 Compared toSix Months Ended April 1, 2005***

** **

Thefollowing table sets forth our historical results of operations for each of theperiods indicated (dollars in millions):

 
| ** **                                       | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------------|------------|--------------------------------|------------|
| ** **                                       | ** ** | **March 31, 2006**   | ** ** | **April 1, 2005** | ** ** |
| ** **                                       | ** ** | ** **                     | ** ** | **Percentage** | ** ** | ** ** | ** ** | **Percentage of** | ** ** |
| ** **                                       | ** ** | **Amount**                     | ** ** | **of Sales** | ** ** | **Amount** | ** ** | **Sales** | ** ** |
| Sales                                            |       | $                              | 169.3      |   | 100.0 | % | $ | 158.2 |   | 100.0 | % |
| Cost of  sales (a)                               |       | 118.4                          |       | 69.9 |   | 105.4 |   | 66.6 |   |
| Gross profit                                     |       | 51.0                           |       | 30.1 |   | 52.8 |   | 33.4 |   |
| Research and  development                        |       | 3.9                            |       | 2.3 |   | 3.3 |   | 2.1 |   |
| Selling and  marketing (a)                       |       | 9.7                            |       | 5.7 |   | 8.7 |   | 5.5 |   |
| General and  administrative (a)                  |       | 12.0                           |       | 7.1 |   | 9.6 |   | 6.1 |   |
| Amortization  of acquisition-related intangibles |       | 1.1                            |       | 0.6 |   | 6.4 |   | 4.0 |   |
| Net loss on  disposition of assets               |       | 0.2                            |       | 0.1 |   | 0.2 |   | 0.1 |   |
| Operating  income                                |       | 24.1                           |       | 14.2 |   | 24.6 |   | 15.5 |   |
| Interest  expense, net                           |       | 12.5                           |       | 7.4 |   | 8.8 |   | 5.6 |   |
| Income  before taxes                             |       | 11.7                           |       | 6.9 |   | 15.7 |   | 9.9 |   |
| Income tax  expense                              |       | 5.1                            |       | 3.0 |   | 6.3 |   | 4.0 |   |
| Net income                                       |       | $                              | 6.6        |   | 3.9 | % | 9.4 |   | 5.9 | % |
| Other Data:                                      |       |                           |       |   |   |   |   |   |   |
| EBITDA (b)                                       |       | $                              | 28.6       |   | 16.9 | % | $ | 33.9 |   | 21.4 | % |

 

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(a)             Fiscal year 2006 includes a special bonus expense (see “SpecialBonus” below) of $3.25 million, allocated as follows: $0.3 million for cost ofsales, $0.2 million for selling and marketing and $2.75 million for general andadministrative.

 

(b)            EBITDA represents earnings before provision for income taxes,net interest expense and depreciation and amortization. For the reasons listedbelow, we believe that GAAP-based financial information for highly leveragedbusinesses such as ours should be supplemented by EBITDA so that investorsbetter understand our financial performance in connection with their analysisof our business:

 

•                    EBITDAis a component of the measures used by our board of directors and managementteam to evaluate our operating performance;

 

•                    theSenior Credit Facility contains covenants that require us to maintain certaininterest expense coverage and leverage ratios that contain EBITDA as acomponent, and our management team uses EBITDA to monitor compliance with suchcovenants;

 

•                    EBITDAis a component of the measures used by our management team to make day-to-dayoperating decisions;

 

•                    EBITDAfacilitates comparisons between our operating results and those of competitorswith different capital structures and therefore is a component of the measuresused by the management to facilitate internal comparisons to competitors’results and our industry in general; and

 

•                    thepayment of management bonuses is contingent upon, among other things, thesatisfaction by us of certain targets that contain EBITDA as a component.

 

Othercompanies may define EBITDA differently and, as a result, our measure ofEBITDA may not be directly comparable to EBITDA of other companies.Although we use EBITDA as a financial measure to assess the performance of ourbusiness, the use of EBITDA is limited because it does not include certainmaterial costs, such as interest and taxes, necessary to operate our business.When analyzing our performance, EBITDA should be considered in addition to, andnot as a substitute for, net income (loss), cash flows from operating activitiesor other statements of operations or statements of cash flows data prepared inaccordance with GAAP.

 

For a reconciliation of EBITDA to Net Income, see Note 8 ofthe Notes to Condensed Consolidated Financial Statements.

 

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**Sales:**   The following tablecompares total sales by market for the six-months ended March 31, 2006 tothe six-months ended April 1, 2005 (dollars in millions):

 
| ** **          | ** ** | **Six Months Ended** | ** ** | ** **                  | ** ** | ** ** | ** ** |
|---------------------|------------|--------------------------------|------------|-----------------------------|------------|------------|------------|
| ** **          | ** ** | **March 31, 2006**   | ** ** | **April 1, 2005** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **          | ** ** | ** **                     | ** ** | **Percentage**              | ** ** | ** ** | ** ** | **Percentage** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **          | ** ** | ** **                     | ** ** | **of Total**           | ** ** | ** ** | ** ** | **of Total** | ** ** | **Increase (Decrease)** | ** ** |
| ** **          | ** ** | **Amount**                     | ** ** | **Sales**                   | ** ** | **Amount** | ** ** | **Sales** | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| Radar               |       | $                              | 58.0       |                        | 34         | %          | $          | 55.5 |   | 35 | % | $ | 2.5 |   | 5 | % |
| Electronic  Warfare |       | 13.0                           |       | 8                           | %          | 12.8       |       | 8 | % | 0.2 |   | 2 | % |
| Medical             |       | 27.3                           |       | 16                          | %          | 25.7       |       | 16 | % | 1.6 |   | 6 | % |
| Communications      |       | 58.7                           |       | 35                          | %          | 47.4       |       | 30 | % | 11.3 |   | 24 | % |
| Industrial          |       | 9.7                            |       | 6                           | %          | 11.9       |       | 8 | % | (2.2 | ) | (18 | )% |
| Scientific          |       | 2.6                            |       | 1                           | %          | 4.9        |       | 3 | % | (2.3 | ) | (47 | )% |
| Total sales         |       | $                              | 169.3      |                        | 100        | %          | $          | 158.2 |   | 100 | % | $ | 11.1 |   | 7 | % |

 

Sales for the first sixmonths of fiscal year 2006 of $169.3 million were $11.1 million, or 7%, higherthan the comparable period of fiscal year 2005. The radar market sales increasewas primarily due to increased shipments of products for various U.S.government and foreign military programs. The medical market sales increase wasdue to continued growth for our medical imaging and cancer therapy products,partially offset by lower shipments of $2.4 million by our Eimac division dueto its relocation. The communications sales increase was due to increasedshipments of amplifiers for direct-to-home broadcast and other satellitecommunication applications, partially offset by lower shipments of $3.3 millionby our Eimac division due to its relocation. The decrease in industrial saleswas primarily due to lower shipments of $2.0 million by our Eimac division dueto its relocation. The decrease in scientific sales was primarily due to theproduct deliveries on programs for a European laboratory and the SpallationNeutron Source at Oakridge National Laboratory in the first six months offiscal year 2005 that did not repeat in the first six months of fiscal year2006.

 

As noted above, therelocation of our Eimac division from our San Carlos, California facility toour Palo Alto, California and Mountain View, California facilities impacted oursales for the first six months of fiscal year 2006 as compared to the first sixmonths of fiscal year 2005. The relocation process began during fiscal year2005 and is expected to be completed by the end of fiscal year 2006.  Our Eimac division has experiencedmanufacturing disruptions stemming from the decommissioning of our customproduction equipment in San Carlos and the required reconfiguration,installation and testing of equipment prior to production readiness in PaloAlto. In addition, product shipments were accelerated during fiscal year 2005in anticipation of the relocation, which caused a reduction in customer demandrequirements in the first six months of fiscal year 2006. Total Eimac divisionsales for all end markets of $14.6 million for the first six months of fiscalyear 2006 were $7.7 million, or 35%, lower than sales of $22.3 million for thefirst six months of fiscal year 2005. Prior to beginning the relocation of ourEimac division, total semi-annual sales at our Eimac division averagedapproximately $21.7 million for fiscal years 2002 through 2004.

 

**Gross Profit:****Gross profit of $51.0million, or 30.1% of sales, for the first six months of fiscal year 2006 was$1.8 million lower than the prior year’s level of $52.8 million, or 33.4% ofsales. The decrease in gross profit was primarily due to the relocation of ourEimac division, which negatively impacted gross margins by $3.8 million duringthe first six months of fiscal year 2006 as compared to fiscal year 2005, andto a lesser degree the impact of the weaker U.S. dollar as compared to theCanadian dollar in fiscal year 2005, partially offset by higher sales in thefirst six months of fiscal year 2006. After the relocation of our Eimacdivision is complete, we expect to realize operational savings from theconsolidation of production facilities in Palo Alto, California, which webelieve will improve our gross profit percentage.

 

**Research and Development:**Researchand development expenses of $3.9 million, or 2.3% of sales, for the first sixmonths of fiscal year 2006 were $0.6 million higher than the first six monthsof fiscal year 2005. The increase in research and development expense for thefirst six months of fiscal year 2006 compared to the first six months of fiscalyear 2005 was due to additional engineering efforts being charged

 

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to company-sponsored research anddevelopment projects rather than to customer-funded research and developmentprograms. Customer-funded research and development efforts are recorded as costof sales in the statement of operations. Total spending on research anddevelopment, including company-sponsored amounts charged to research anddevelopment and customer-sponsored amounts charged to cost of sales, increasedfrom $6.4 million, or 4.0% of sales, in the first six months of fiscal year2005 to $7.0 million, or 4.1% of sales, in the first six months of fiscal year2006.

 

**Selling and Marketing:**Selling andmarketing expenses of $9.7 million, or 5.7% of sales, for the first six monthsof fiscal year 2006 increased from $8.7 million, or 5.5% of sales, for thefirst six months of fiscal year 2005. The increase in selling and marketingexpenses in the first six months of fiscal year 2006 was primarily due toadditional selling costs to support the growth of our business and $0.2 millionfor the special bonus, described below.

 

**General and Administrative:**General andadministrative expenses of $12.0 million, or 7.1% of sales, for the first sixmonths of the fiscal year 2006 were $2.4 million higher than the $9.6 million,or 6.1% of sales, for the first six months of fiscal year 2005. The first sixmonths of fiscal year 2006 included $2.7 million for the special bonus,described below, and $0.6 million of moving expenses related to the relocationof our Eimac division. The first six months of fiscal year 2005 included $0.4for stock-based compensation expense and $0.3 million of moving expensesrelated to the Eimac relocation.

 

**Special Bonus:**On December 15,2005, our board of directors approved the payment of $3.25 million in bonusesto our employees and directors (other than directors who are employees oraffiliates of Cypress) to reward them for the increase in company value. The specialbonus was charged to the Condensed Consolidated Statement of Operations andComprehensive Income in the same lines as cash compensation paid to thoseemployees and directors, as follows: $0.3 million to cost of sales, $0.2million to selling and marketing and $2.75 million to general andadministrative.

 

**Amortization of Acquisition-Related Intangibles:**Amortization of acquisition-related intangibles of $1.1million for the first six months of the fiscal year 2006 was $5.3 million lowerthan the first six months of fiscal year 2005. Amortization ofacquisition-related intangibles consists of purchase accounting charges,primarily for customer backlog and other intangible assets. The first sixmonths of fiscal year 2005 included $5.3 million for the amortization ofcustomer backlog, which was fully amortized in January 2005.Acquisition-related intangible assets will continue to be amortized overperiods of up to 50 years.

 

**Interest Expense, net:**Interestexpense, net of $12.5 million, or 7.4% of sales, for the first six months offiscal year 2006 was $3.7 million higher than the $8.8 million, or 5.6% ofsales, for the first six months of fiscal year 2005. The increase in interestexpense for the first six months of fiscal year 2006 was primarily due to additionalinterest expense for the $80 million aggregate principal amount of FR Notesissued on February 22, 2005 and higher interest rates on our variable rateterm loan.

 

**Income Tax Expense:**We recordedincome tax expense of $5.1 million for the first six months of fiscal year 2006and $6.3 million for the first six months of fiscal year 2005. The effectivetax rates were approximately 44% and 40% for the first six months of fiscalyears 2006 and 2005, respectively. Income tax expense for the first six monthsof fiscal year 2006 includes a $315,000 charge attributable to the fourthquarter of fiscal year 2005, consisting of $505,000 to correct theoverstatement of tax benefits recorded in the fourth quarter of fiscal year2005 for stock-based compensation expense that is not deductible for income taxpurposes in a foreign tax jurisdiction, offset by reversal of a $190,000 taxcontingency reserve that is no longer considered necessary. Without thesecorrections, our effective tax rate for the first six months of fiscal year2006 would have been approximately 41%.

 

**Net Income:**Net incomeof $6.6 million for the first six months of fiscal year 2006 was $2.8 millionlower than the first six months of fiscal year 2005 primarily due to the impactthe San Carlos relocation had on our Eimac division and higher interest expenserelated to higher debt levels and higher interest rates on our variable ratedebt. In addition, the first six months of fiscal year 2006 includes the $3.25million special bonus described above. These charges were partially offset bylower amortization of acquisition-related intangibles.

 

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**EBITDA:**EBITDA forthe first six months of fiscal year 2006 was $28.6 million, a decrease of $5.3million compared to $33.9 million for the first six months of fiscal year 2005.The decrease in EBITDA from the first six months of fiscal year 2005 comparedto the first six months of 2006 resulted primarily from the $3.25 millionspecial bonus and costs relating to the relocation of our Eimac division.

 

**Liquidity and Capital Resources**

 

***Overview***

 

Ourliquidity is affected by many factors, some of which are based on normalongoing operations of our business and others that are related to uncertaintiesin the markets in which we compete and other global economic factors. We havehistorically financed, and intend to continue to finance, our capital andworking capital requirements including debt service and internal growth,through a combination of cash flows from our operations and borrowings underCPI’s senior credit agreement (the “Senior Credit Facility”), which consists ofa $40.0 million revolving commitment, with a sub-facility of $15.0 million forletters of credit and $5.0 million for swingline loans (“Revolver”), and a$90.0 million term loan (the “Term Loan”). Our primary uses of cash are cost ofsales, operating expenses, debt service and capital expenditures.

 

As of March 31,2006, we had no borrowings outstanding under the Revolver and had availabilityof $35.8 million under the Revolver under the Senior Credit Facility. Webelieve that cash and cash equivalents on hand and cash expected to begenerated from operations will be sufficient to meet our currently anticipatedcash requirements for the remainder of this fiscal year. Thereafter, ourability to fund our cash requirements and to comply with the financialcovenants under our debt agreements will depend on our results of futureoperations, performance and cash flows and will be subject to uncertainties inthe markets in which we compete and other factors, many of which are beyond ourcontrol.

 

As of March 31,2006, we had cash and equivalents of $7.8 million compared to $26.5 million asof September 30, 2005. Cash balances in excess of operating requirementsare invested daily in overnight U.S. Government securities.

 

***Operating, Investing and FinancingActivities***

 

*Operating Activities:*During thefirst six months of fiscal year 2006, operating activities used cash ofapproximately $4.5 million, a reduction of $9.4 million compared with cashprovided by operating activities of $4.9 million during the first six months offiscal year 2005. The decrease in net cash provided by operating activities inthe first six months of fiscal year 2006 is attributable to lower net income of$2.9 million and lower adjustments for non-cash charges, primarily amortizationof intangible assets of $5.3 million and stock based compensation expense of$0.4 million. In addition, there was a reduction in net cash provided by changesin operating assets and liabilities of $2.5 million during the first six monthsof fiscal year 2006 compared to the first six months of fiscal year 2005. Thereduction in net cash provided by changes in operating assets and liabilitiesin fiscal year 2006 is primarily due to higher reductions in advance paymentsfrom customers and accounts payable, partially offset by lower increases ininventory.

 

*Investing Activities:*   Forthe first six months of fiscal year 2006, net cash used in investing activitieswas $5.8 million compared to $23.3 million for the first six months of fiscalyear 2005. Investing activities for fiscal year 2006 were for $5.8 million ofcapital expenditures, including $4.0 million for capital equipment, buildingand land lease improvements in Palo Alto, California related to the relocationof our Eimac division. Investing activities for the first six months of fiscalyear 2005 included $18.7 million for the purchase price for Econco, $4.4million for capital expenditures, including $2.9 million for capital equipment,building and land lease improvements related to the Eimac relocation.

 

*Financing Activities:*   Forthe first six months of fiscal year 2006, net cash used in financing activitieswas $8.4 million compared to net cash used in financing activities of $9.6million for the first six months of fiscal year 2005. For the first six monthsof fiscal year 2006, CPI used the $10.0 million proceeds of the additional TermLoan borrowing to fund a portion of a special cash dividend of $17.0 millionpaid to the holders of CPI International’s common stock on December 15,2005, the remainder of the dividend was financed from cash on hand. Financingactivities for the first six months of fiscal year 2006 also include

 

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payments of $1.4 million for expenses related to the initialpublic offering of our common stock, which closed in May 2006. Financingactivities for the first six months of fiscal year 2005 consisted primarily ofa $75.8 million special cash dividend to stockholders of CPI International,$9.6 million repayments on the Term Loan, and $3.4 million of debt issue costsincurred to issue the FR Notes, partially offset by $79.2 million of proceedsfrom the issuance of FR Notes. The Term Loan repayments included $3.9 millionof required annual prepayment and an optional prepayment of $5.7 million.

 

The SeniorCredit Facility requires an annual prepayment to be made within 90 days afterthe end of the fiscal year based on a calculation of excess cash flow (“ECF”),as defined in the Senior Credit Facility, multiplied by a factor of 25%, 50% or75% depending on the leverage ratio at the end of the fiscal year, less anyoptional prepayments made during the fiscal year. There was no ECF payment due inthe first six months of fiscal year 2006.

 

         On April 27, 2006, the Companypriced the initial public offering of its common stock. On May 3, 2006,the initial public offering of the Company’s common stock was completed. TheCompany sold 2,941,200 shares and the selling stockholders sold 4,117,670shares, at an initial public offering price to the public of $18 per share,resulting in total proceeds to the Company of approximately $47.2 million, netof estimated underwriters’ discounts and commissions and approximately $2.0million to pay fees and expenses associated with this offering and relatedtransaction costs. The underwriters for the initial public offering have theoption to purchase up to an additional 1,058,831 shares of the Company’s commonstock (the “over-allotment”), of which 441,180 shares would be offered by theCompany and 617,651 shares would be offered by the selling stockholders. Theunderwriters have until May 27, 2006 to exercise the over-allotment, andas of May 15, 2006, the option has not been exercised by the underwriters.

 

We used thenet proceeds from our initial public offering to repay $45.0 million of theTerm Loan under the Senior Credit Facility on May 3, 2006.

 

***Amendment toSenior Credit Facility***

 

On December 15,2005, CPI International and CPI entered into Amendment No. 3 (the “Amendment”),to the Senior Credit Facility. The Amendment increased the commitments underthe Term Loan by $10 million, and CPI borrowed an additional $10 millionthereunder. In addition, among other things, the Amendment (1) permittedCPI to pay a dividend (not to exceed $20 million) to CPI International to funda dividend by CPI International to its stockholders, (2) amended thedefinition of Excess Cash Flow in the Senior Credit Facility to decrease ExcessCash Flow for CPI’s fiscal year 2006 by the excess of the amount of thedividend described in clause (1) over the gross proceeds of the $10million additional borrowing, and (3) permitted CPI or CPI Internationalto use up to $70 million of the proceeds of the first equity issuance by CPIInternational to repurchase or redeem the FR Notes or CPI’s 8% SeniorSubordinated Notes due 2012 (the “8% Notes”).

 

***San Carlos SaleAgreement***

 

In February 2003,we entered into an agreement to sell the land and close our facilities locatedin San Carlos, California. The purchase price is $23.8 million. Under the saleagreement, the buyer has paid us a $13.0 million deposit on the purchase price,which was used to fund the capital expenditures and costs of moving our SanCarlos operations to our Palo Alto facility and Mountain View facilities. The$13.0 million deposit is nonrefundable unless we breach the sale agreement.

 

The closingof the sale is subject to a number of conditions, including the requirementthat we vacate our facilities and obtain regulatory closure of certainpermitted equipment located on the property. Although there can be no assurancethat the sale of the San Carlos property will occur, we expect to close thesale of the property in fiscal year 2007.

 

Pursuant to the stock sale agreement by and between Varian Associates,Inc., the predecessor of Varian Medical Systems, Inc. (“Varian”), and theCompany dated June 9, 1995, as amended, the Company agreed to certaindevelopment restrictions affecting the San Carlos property. In connection withthe San Carlos property sale agreement, Varian agreed to waive certain of thedevelopment restrictions on the San Carlos property in the event that the salecloses, subject to certain conditions, and further agreed to pay the Company$1.0 million, of which $0.5 million was paid in the fourth quarter of fiscalyear 2004. The payments from Varian are being accounted for as part of the saleof the property, with the aggregate sales price, including the $23.8 millionfrom the buyer, totaling $24.8 million.

 

As of March 31,2006, the San Carlos land and building was classified as held for use inproperty, plant and equipment, and the advance payments from the sale of theproperty, aggregating $13.5 million, are classified as a long-term liability inthe accompanying Condensed Consolidated Balance Sheets. As of March 31,2006, we had capitalized recoverable selling costs of $0.7 million relating tothe sale of the San

 

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Carlos property and classified these amounts as Otherlong-term assets in the Condensed Consolidated Balance Sheets. As of March 31,2006, the San Carlos land and building had a net book value of $23.5 millionand the building continues to be depreciated over its remaining useful life.Based on current projections, we do not expect to recognize a loss on the saleof the San Carlos property.

 

***Capital Expenditures***

 

Ourcontinuing operations typically do not have large recurring capital expenditurerequirements. Capital expenditures are generally made to replace existingassets, increase productivity, facilitate cost reductions or meet regulatoryrequirements. The relocation of the San Carlos operations is expected to becompleted in the second half of fiscal year 2006. Total capital expendituresfor fiscal year 2006 are expected to be approximately $14 million, includingapproximately $5 million for the relocation of the San Carlos operations, $4million for the expansion of the Canadian facility to accommodate its expectedgrowth and $5 million for ongoing capital expenditures. In fiscal year 2007,ongoing capital expenditures, excluding expenditures for the Canadian facilityexpansion, are expected to be approximately $5 million.

 

**Recent Accounting Pronouncements**

 

In November 2004,the Financial Accounting Standards Board (“FASB”) issued Statement of FinancialAccountings Standards (“SFAS”) No. 151, “Inventory Costs — an amendment ofARB No. 43, Chapter 4”, which is the result of the FASB’s project to reducedifferences between U.S. and international accounting standards. SFAS No. 151requires idle facility costs, abnormal freight, handling costs, and amounts ofwasted materials (spoilage) to be treated as current-period costs. Under thisconcept, if the costs associated with the actual level of spoilage orproduction defects are greater than the costs associated with the range ofnormal spoilage or defects, then the difference would be charged tocurrent-period expense, and not included in inventory costs. We adopted SFAS No. 151in the beginning of fiscal year 2006 and its adoption did not have asignificant impact on our results of operations or financial condition.

 

In March 2005,the FASB issued Interpretation No. 47, “Accounting for Conditional AssetRetirement Obligations,” which clarifies that an entity is required torecognize a liability for the fair value of a conditional asset retirementobligation if the fair value can be reasonably estimated even thoughuncertainty exists about the timing and (or) method of settlement. We arerequired to adopt Interpretation No. 47 by the end of fiscal year 2006. Wedo not expect the implementation of Interpretation No. 47 to have asignificant impact on our results of operations or financial condition.

 

In May 2005,the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections.”SFAS No. 154 replaces APB Opinion No. 20, “Accounting Changes,” andSFAS No. 3, “Reporting Accounting Changes in Interim Financial Statement,”and changes the requirements for the accounting for and reporting of a changein accounting principle. We are required to adopt SFAS No. 154 foraccounting changes and error corrections in fiscal year 2007. Our results ofoperations and financial condition will only be impacted by SFAS No. 154if we implement changes in accounting principle that are addressed by thestandard or correct accounting errors in future periods.

 

InFebruary 2006, the FASB issued SFAS No. 155, “Accounting for CertainHybrid Financial Instruments.” SFAS No. 155 permits fair valueremeasurement for any hybrid financial instrument that contains an embeddedderivative that otherwise would require bifurcation. As of March 31, 2006,we did not have any hybrid financial instruments subject to the fair valueelection under SFAS No. 155. We are required to adopt SFAS No. 155 atthe beginning of fiscal year 2007.

 

InMarch 2006, the FASB issued SFAS No. 156, “Accounting for Servicingof Financial Assets—an amendment to FASB Statement No. 140.” SFAS No. 156amends FASB Statement No. 140 “Accounting for Transfers and Servicing ofFinancial Assets,” with respect to the accounting for separately recognizedservicing assets and servicing liabilities. We are required to adopt SFAS No. 156at the beginning of fiscal year 2007 andas of March 31, 2006, we did not have any servicing assets orservicing liabilities.

 

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**Critical Accounting Policies**

 

OurCondensed Consolidated Financial Statements are based on the selection andapplication of significant accounting policies. The preparation of thesefinancial statements and application of these policies requires management tomake estimates and assumptions that affect the reported amounts of assets andliabilities and the disclosure of contingent assets and liabilities at the dateof the financial statements, as well as the reported amounts of revenues andexpenses during the reporting period. Actual results could differ from theseestimates. However, we are not currently aware of any reasonably likely eventsor circumstances that would result in materially different results from currentestimates.

 

We believethe following critical accounting policies are the most significant to thepresentation of our financial statements and require the most subjective andcomplex judgments. These matters, and the judgments and uncertainties affectingthem, are also essential to understanding our reported and future operatingresults. For a more comprehensive discussion of our significant accounting policies,see Note 2 to the Company’s Annual Report on Form 10-K for the year ended September 30,2005.

 

***Revenue recognition:***   Wegenerally recognize revenue upon shipment of product, following receipt ofwritten purchase orders, when the price is fixed or determinable, title hastransferred, and collectibility is reasonably assured. Approximately 1% of oursales during fiscal year 2005 were based on the percentage of completion methodof accounting, and we expect a similar portion in fiscal year 2006. Sales onpercentage of completion contracts are determined on the basis of costsincurred and estimates of costs at completion, which require managementestimates of future costs. Changes in estimated costs at completion over timecould have a material impact on our operating results.

 

***Inventory reserves:***   Weassess the valuation of inventory and periodically write down the value forestimated excess and obsolete inventory based upon actual usage and estimatesabout future demand. The excess balance determined by this analysis becomes thebasis for our excess inventory charge. Management personnel play a key role inour excess inventory review process by providing updated sales forecasts,managing product rollovers and working with manufacturing to maximize recoveryof excess inventory. If our estimates regarding demand are inaccurate orchanges in technology affect demand for certain products in an unforeseenmanner, we may incur losses or gains in excess of our established markdownreserve that could be material.

 

Managementalso reviews the carrying value of inventory for lower of cost or market on anindividual product or contract basis. A loss reserve is charged to cost ofsales if the estimated product cost or the contract cost at completion is inexcess of net realizable value (selling price less estimated cost of disposal).If the actual contract cost at completion is different than originallyestimated, then a loss or gain provision adjustment would be recorded thatcould have a material impact on our operating results.

 

***Product warranty:***   Ourproducts are generally warranted for a variety of periods, typically one tothree years or a predetermined product usage life. A provision for estimatedfuture costs of repair, replacement or customer accommodations is reflected inthe accompanying consolidated financial statements. We assess the adequacy ofour preexisting warranty liabilities and adjust the balance based on actualexperience and changes in future expectations. The determination of productwarranty reserves requires us to make estimates of product return rates andexpected cost to repair or replace the products under warranty. If actualrepair and replacement costs differ significantly from our estimates, thenadjustments to recognize additional cost of sales may be required.

 

***Business combination:****  *In January 2004, as a result of the Merger, assetsacquired and liabilities assumed by the successor company were adjusted toreflect fair value, and the excess of the purchase price over the fair valuewas recorded as goodwill. We recorded goodwill of $140 million as a result ofthe Merger. Accounting for business combinations requires the allocation ofpurchase price to identifiable tangible and intangible assets and liabilitiesbased upon their fair value. The allocation of purchase price is a matter ofjudgment and requires the use of estimates and fair value assumptions. Theallocation of purchase price to finite-lived assets can have a significantimpact on operating results because finite-lived assets are depreciated oramortized over their remaining useful lives.

 

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***Recoverability of long-lived assets:***   We assess the recoverability of the carrying value ofgoodwill and other intangible assets with indefinite useful lives at leastannually or whenever events or changes in circumstances indicate that thecarrying amount of the asset may not be fully recoverable. Recoverabilityof goodwill is measured at the reporting unit level (our six divisions) basedon a two-step approach. First, the carrying amount of the reporting unit iscompared to the fair value as estimated by the future net discounted cash flowsexpected to be generated by the reporting unit. To the extent that the carryingvalue of the reporting unit exceeds the fair value of the reporting unit, asecond step is performed, wherein the reporting unit’s assets and liabilitiesare valued. The implied fair value of goodwill is calculated as the fair valueof the reporting unit in excess of the fair value of all non-goodwill assetsand liabilities allocated to the reporting unit. To the extent the reportingunit’s carrying value of goodwill exceeds its implied fair value, impairmentexists and must be recognized. This process requires the use of discounted cashflow models that utilize estimates of future revenue and expenses as well asthe selection of appropriate discount rates. There is inherent uncertainty inthese estimates, and changes in these factors over time could result in animpairment charge.

 

At March 31,2006, the carrying amount of goodwill and other intangible assets, net wasapproximately $222 million and no significant changes in the underlyingbusiness assumptions or circumstances that drive the impairment analysis led usto believe that goodwill might have been impaired. We will continue to evaluatethe need for impairment if changes in circumstances or available informationindicate that impairment may have occurred, and at least annually in thefourth quarter.

 

At March 31,2006, the carrying amount of property, plant and equipment was approximately$86 million. We assess the recoverability of property, plant and equipment tobe held and used by a comparison of the carrying amount of an asset or group ofassets to the future net undiscounted cash flows expected to be generated bythe asset or group of assets. If such assets are considered impaired, then theimpairment recognized is measured as the amount by which the carrying amount ofthe assets exceeds the fair value of the assets. This process requires the useof cash flow models that utilize estimates of future revenue and expenses. Thereis inherent uncertainty in these estimates, and changes in these factors overtime could result in an impairment charge.

 

A prolongedgeneral economic downturn and, specifically, a prolonged downturn in thedefense, communications or medical markets, or technological changes, as wellas other market factors could intensify competitive pricing pressure, create animbalance of industry supply and demand, or otherwise diminish volumes orprofits. Such events, combined with changes in interest rates, could adverselyaffect our estimates of future net cash flows to be generated by our long-livedassets. Consequently, it is possible that our future operating results could bematerially and adversely affected by additional impairment charges related tothe recoverability of our long-lived assets.

 

***Accounting for stock-based compensation:***    Since our adoption of SFAS 123R in the first quarterof fiscal year 2006 and prior to March 31, 2006, we had not granted anyadditional stock-based awards. However, we did grant stock-based awards on April 27,2006 and expect to grant additional stock-based awards in the future. Under theprovisions of SFAS No. 123R, stock-based compensation cost is estimated atthe grant date based on the fair value of the award and is recognized asexpense ratably over the requisite service period of the award. Determining theappropriate fair-value model and calculating the fair value of stock-basedawards at the grant date requires considerable judgment, including estimatingstock price volatility, expected option life and forfeiture rates. We willdevelop our estimates based on historical data and market information that canchange significantly over time. A small change in the estimates used can have arelatively large change in the estimated valuation.

 

For stockoptions granted prior to our adoption of SFAS 123R, we recorded deferredstock-based compensation to the extent that the fair value of the underlyingcommon stock exceeded the exercise price at the measurement date. We grantedboth stock options with vesting over time (time options) as well as stockoptions that vest upon the performance of certain goals (performance options).As of September 30, 2005, all performance options were fully vested.

 

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Prior toour common stock becoming publicly traded, we computed an estimated marketprice of our stock based on valuation techniques for determining the fair valueof closely held stock. On the closing date of each fiscal quarter, we performeda contemporaneous valuation of the fair value of common stock. We did notrecord stock-based compensation expense for time options because the estimatedfair value of common stock was equal to or higher than the option exerciseprice at the option grant dates. We recorded $7.0 million of stock-basedcompensation expense for performance options in fiscal year 2005, in part dueto the acceleration of the vesting of those options.

 

The valuationtechniques used for determining the fair value of stock of a privately ownedcompany requires making complex and subjective judgments. We used a methodologythat weights the income approach and the market approach to measure the fairvalue of our capital stock. The income approach involves applying appropriatediscount rates to estimated cash flows that are based on a forecast of revenueand costs. Our revenue forecasts are based on expected annual growth rates foreach of our divisions and are consistent with our business plans. The marketapproach uses multiples of sales, gross profit, earnings before interest,taxes, depreciation and amortization, and earnings before income taxes based onan analysis of multiples of publicly traded companies in the same or similarlines of businesses with similar economic factors. There is inherentuncertainty in these estimates.

 

**Item 3. Quantitative and Qualitative Disclosures AboutMarket Risk**

 

We do notenter into derivative financial instruments for trading or speculativepurposes.

 

***Interest Rate Risk:***   Ourexposure to market risk for changes in interest rates relates primarily to ourlong-term debt and our investment in overnight government securities.

 

We havevariable rate debt that comprises a $90.0 million term loan due in 2010 underour Senior Credit Facility and $80.0 million in FR Notes. Our variable ratedebt is subject to changes in the prime rate and the LIBOR rate. We enteredinto an interest rate swap contract (the “Swap”) with a notional amount of $80million to effectively convert the FR Notes to a fixed rate of 9.9% through theSwap maturity date in January 2008. We also have $125.0 million of fixedrate 8% Notes. At March 31, 2006, the fair value of the unrealized gain onthe Swap was $1.5 million.

 

***Foreign Currency Exchange Rate Risk*****:**   Althoughthe majority of our revenue and expense activities are transacted in U.S.dollars, we do transact business in foreign countries. Our primary foreigncurrency cash flows are in Canada and several European countries. We havelimited market risk exposure from foreign currency financial instruments.

 

In aneffort to reduce our foreign currency exposure to Canadian dollar denominatedexpenses, we entered into Canadian dollar forward contracts to hedge theCanadian dollar denominated costs for our manufacturing operation in Canada;the last forward contract expired on March 10, 2006. Net income includesrecognized gains from foreign currency forward contracts of $0.6 million and$0.4 million for the second quarter of fiscal years 2006 and 2005,respectively. Net income includes recognized gains from foreign currencyforward contracts of $1.0 million and $0.6 million for the first six months offiscal years 2006 and 2005, respectively.

 

**Item 4. Controls and Procedures**

 

Management,including our principal executive officer and principal financial officer, hasevaluated, as of the end of the period covered by this report, theeffectiveness of the design and operation of our disclosure controls andprocedures with respect to the information generated for use in this report.Based upon, and as of the date of that evaluation, the principal executiveofficer and principal financial officer concluded that the disclosure controlsand procedures were effective to provide reasonable assurances that informationrequired to be disclosed in the reports filed or submitted under the SecuritiesExchange Act of 1934, as amended, is recorded, processed, summarized andreported within the time periods specified in the Securities and ExchangeCommission’s rules and forms.

 

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There havebeen no changes in our internal control over financial reporting that occurredduring the most recent fiscal quarter that have materially affected, or arereasonably likely to materially affect, our internal control over financialreporting.

 

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**Part II: OTHER INFORMATION**

 
| **Item 1.**  | **Legal Proceedings** |
|--------------|-----------------------|
| ** **   | ** **            |
|         | None.                 |
|         |                  |
| **Item 1A.** | **Risk Factors**      |

 

The Company’s Annual Report on Form 10-K for the fiscal year endedSeptember 30, 2005 includes a detailed discussion of our risk factors. Theinformation presented below updates and should be read in conjunction with therisk factors and information disclosed in that Form 10-K.

 

**Our anti-takeoverprovisions could prevent or delay a change in control of our company, even ifsuch change of control would be beneficial to our stockholders.**

 

Provisions ofour amended and restated certificate of incorporation and amended and restatedbylaws as well as provisions of Delaware law could discourage, delay or preventa merger, acquisition or other change in control of our company. Theseprovisions include:

 

•                  aboard of directors that is classified such that only one-third of directors areelected each year;

 

•                  authorizingthe issuance of “blank check” preferred stock that could be issued by our boardof directors to increase the number of outstanding shares and thwart a takeoverattempt;

 

•                  limitationson the ability of stockholders to call special meetings of stockholders;

 

•                  prohibitingstockholder action by written consent and requiring all stockholder actions tobe taken at a meeting of our stockholders;

 

•                  establishingadvance notice requirements for nominations for election to the board of directorsor for proposing matters that can be acted upon by stockholders at stockholdermeetings; and

 

•                  requiringthat the affirmative vote of the holders of at least two thirds (66 2/3%) ofthe voting power of our issued and outstanding capital stock entitled to votein the election of directors be obtained to amend certain provisions of ouramended and restated certificate of incorporation.

 

In addition, Section 203of the Delaware General Corporation Law, which will apply to us after Cypressceases to own at least 15% of the total voting power of our common stock,limits business combination transactions with 15% stockholders that have notbeen approved by the board of directors. These provisions and other similarprovisions make it more difficult for a third party to acquire us withoutnegotiation. These provisions may apply even if the transaction may beconsidered beneficial by some stockholders.

 

**Thecontrolling position of Cypress will limit your ability to influence corporatematters.**

 

As of May 4,2006, entities affiliated with The Cypress Group collectively own over 55.5% ofour outstanding shares of common stock. Accordingly, the entities affiliatedwith Cypress have significant influence over our management and affairs andover most matters requiring stockholder approval, including the election ofdirectors and the approval of significant corporate transactions. The entitiesaffiliated with Cypress will also be able to deter any attempted change ofcontrol. This concentrated control will limit your ability to influencecorporate matters and, as a result, we may take actions that some of ourstockholders do not view as beneficial. Accordingly, the market price of ourcommon stock could be adversely affected.

 

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**Item 2.**           **Unregistered Sales of Equity Securities and Use ofProceeds**

 

The Company’s RegistrationStatement on Form S-1 (Commission File No 333-130662) relating to the saleof up to 8,117,701 shares of the Company’s Common Stock, par value $0.01 pershare, by the Company and certain selling stockholders in the initial publicoffering of the common stock of the Company was declared effective by theSecurities and Exchange Commission on April 27, 2006. The aggregate priceof the offering amount registered was $146,118,618 based on an $18.00 per shareprice.

 

The offering of the Company’sCommon Stock commenced on April 27, 2006 and the offering of 7,058,870shares was completed on May 3, 2006. The initial offering price was $18.00per share and the price received by the Company and selling stockholders was$16.74 per share, after deducting commissions (but not other expenses). UBSInvestment Bank, Bear, Stearns & Co Inc., Wachovia Securities and Bancof America Securities LLC served as underwriters of the offering. Of the totalshares sold on May 3, 2006: (i) 4,117,670 shares were sold on behalfof the selling stockholders, for an aggregate offering price of $74,118,060(before deducting underwriting discounts and commissions); and (ii) 2,941,200shares were sold on the Company’s behalf, for an aggregate offering price of$52,941,600 (before deducting underwriting discounts and commissions). Inaddition, the underwriters have the option to purchase up to an additional1,058,831 shares, of which 441,180 shares will be offered by the Company and617,651 shares will be offered by the selling stockholders. The underwritershave until May 27, 2006 to exercise their option to purchase theseadditional shares and as of May 15, 2006, the option has not been exercisedby the underwriters.

 

Costs incurred by theCompany in connection with the issuance and distribution of securitiesregistered were as follows:

 

•                  Underwriting discounts andcommissions—$3,705,912

 

•                  Other expenses—$2,000,000

 

•                  Total expenses—$5,705,912

 

Other expenses and totalexpenses include estimates through completion. None of such payments weredirect or indirect payments to directors or officers of the Company or theirassociates or to persons owning 10% or more of any class of equitysecurities of the Company or to any of the Company’s affiliates. The netoffering proceeds to the Company after deducting the total expenses describedabove totals approximately $47.2 million.

 

As of March 31, 2006,the Company had not completed the initial public offering of its Common Stockand, therefore, none of the proceeds of the offering had been used as of suchdate. However, on May 3, 2006, the Company used $45.0 million of the netproceeds from the initial public offering to repay amounts outstanding underthe Term Loan under the Senior Credit Facility. None of such payments weredirect or indirect payments to directors or officers of the Company or theirassociates or to persons owning 10% or more of any class of equitysecurities of the Company or to any of the Company’s affiliates.

 

The Company intends to useany remaining net proceeds from the sale of Common Stock by the Company,including, if any, proceeds received from the exercise by the underwriters oftheir option to purchase additional shares, to repay amounts outstanding underthe Term Loan under the Senior Credit Facility and

 

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satisfy associated accruedinterest and transaction costs, as provided in the prospectus included in theRegistration Statement described above.

 
| **Item 3.** | **Defaults Upon  Senior Securities**                     |
|-------------|----------------------------------------------------------|
|        |                                                     |
|        | None.                                                    |
|        |                                                     |
| **Item 4.** | **Submission of  Matters to a Vote of Security Holders** |

 

The Company submitted to its stockholders for approval by writtenconsent an amendment to the Restated Certificate of Incorporation of theCompany (as in effect on such date) effecting a name change of the Company fromCPI Holdco, Inc. to CPI International, Inc. The Company receivedwritten consents approving such amendment from the holders of 4,275,566 sharesof common stock of the Company (representing all of the outstanding shares ofcommon stock as of the date of submission of such amendment to the stockholdersfor approval), and such amendment was approved on January 13, 2006.

 
| **Item 5.** | **Other Information** |
|-------------|-----------------------|
|        |                  |
|        | None.                 |
|        |                  |
| **Item 6.** | **Exhibits**          |

 
| **No.** | ** ** | **Description**                                                                                                                                                                                                                                                                                                           |
|---------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4.1     |       | Amended and Restated Management  Stockholders Agreement, dated as of April 27, 2006, by and among CPI  International, Inc., Cypress Merchant Banking Partners II L.P., Cypress  Merchant B II C.V., 55th Street Partners II L.P., Cypress  Side-by-Side LLC, and certain management stockholders named therein. |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 4.2     |       | Amended and Restated Registration Rights  Agreement, dated as of April 27, 2006, by and among CPI International, Inc.,  Cypress Merchant Banking Partners II L.P., Cypress Merchant B II C.V., 55th  Street Partners II L.P. and Cypress Side-by-Side LLC.                                                      |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 10.1    |       | Employment Agreement, dated as of April 27,  2006, by and between Communications & Power Industries Canada Inc.  and O. Joe Caldarelli.                                                                                                                                                                     |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 10.2    |       | Employment Agreement, dated as of April 27,  2006, by and between Communications & Power Industries, Inc.  and Robert A. Fickett.                                                                                                                                                                      |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 10.3    |       | Employment Agreement, dated as of April 27,  2006, by and between Communications & Power Industries, Inc.  and Joel A. Littman.                                                                                                                                                                        |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 31.1    |       | Certification of Chief Executive Officer  pursuant to Rule 13a-15(e) and Rule 15d-15(e), promulgated  under the Securities Exchange Act of 1934, as amended.                                                                                                                                               |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 31.2    |       | Certification of Chief Financial Officer  pursuant to Rule 13a-15(e) and Rule 15d-15(e), promulgated  under the Securities Exchange Act of 1934, as amended.                                                                                                                                               |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 32.1    |       | Certifications of Chief Executive Officer,  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906  of the Sarbanes-Oxley Act of 2002.                                                                                                                                                          |
|    |       |                                                                                                                                                                                                                                                                                                                      |
| 32.2    |       | Certifications of Chief Financial Officer,  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906  of the Sarbanes-Oxley Act of 2002.                                                                                                                                                          |

 

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**SIGNATURES**

 

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

 

 
|   | CPI  INTERNATIONAL, INC.                                                                                                  |
|--------|--------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                           |
| By:    |                                                                                                                           | /s/   O. Joe  Caldarelli |   |
|   | O. Joe  Caldarelli                                                                                                             |
|   | Chief  Executive Officer                                                                                                       |
|   | Date: May 15,  2006                                                                                                  |
|   |                                                                                                                           |
|   |                                                                                                                           |
| By:    |                                                                                                                           | /s/ Joel A. Littman |   |
|   | Joel A.  Littman                                                                                                               |
|   | Chief  Financial Officer, Treasurer and Secretary  (Principal Financial and Accounting Officer)  Date: May 15,  2006 |   |
|        |                                                                                                                                |  |  |  |  |  |  |  |

 

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