UNITED STATES
 SECURITIES AND EXCHANGE
COMMISSION
 WASHINGTON, D.C.
20549
  FORM 10-Q
  (Mark one)
  x
              QUARTERLY REPORT PURSUANT TO
      SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
  For the quarterly period ended April 30,
2010
  OR
   ̈
              TRANSITION REPORT PURSUANT TO
      SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
  For the transition period from
__________ to ________
  Commission File No.
0-24015
  
 STEELCLOUD, INC.
 (Exact name of registrant as specified
in its charter)
  VIRGINIA
                
                54-1890464(State or other jurisdiction
      of
                  incorporation or
      organization)
                
                (I.R.S.
      Employer
                  Identification
      No.)
  20110 Ashbrook Place, Suite
      130,Ashburn, VA20147(Address of principal executive
      offices) (Zip code)
 
 (703) 674-5500
 (Registrant’s telephone number,
including area code)
  (Former name, former address and former
fiscal year, if changed since last report)
  Indicate by check mark whether the
registrant (1) has filed all reports required to be filed by Section 13 or 15(d)
of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and
(2) has been subject to such filing requirements for the past 90
days.
 YesþNo ̈
 
 Indicate by check mark whether the
registrant has submitted electronically and posted on its corporate Web site, if
any, every Interactive Data File required to be submitted and posted pursuant to
Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12
months (or for such shorter period that the registrant was required to submit
and post such files). Yes ̈No ̈
 
 Indicate by check mark whether the
registrant is a large accelerated filer, an accelerated filer, a non-accelerated
filer or a smaller reporting company. See definition of “accelerated filer,”
“large accelerated” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act. (Check one)
 Large Accelerated filer ̈
                Accelerated
      filer ̈
                Non-accelerated
      filer ̈
                Smaller Reporting
      Companyþ
 
 Indicate by check mark whether the
registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act).
 Yes ̈Noþ
  As of
June 11, 2010 there were 19,860,001shares of the registrant’s common stock
outstanding.
  
  SteelCloud, Inc.
 Form 10-Q Index
 for the Quarterly period ended April 30,
2010
  PART I. FINANCIAL
      INFORMATION
                  2ITEM 1.
                  FINANCIAL
      STATEMENTS
                  3ITEM 2.
                  MANAGEMENT’S DISCUSSION AND
      ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS
                  4ITEM 3.
                  QUANTITATIVE AND QUALITATIVE
      DISCLOSURES ABOUT MARKET RISK
                  9ITEM 4.
                  CONTROLS AND
      PROCEDURES
                  10PART II. OTHER
      INFORMATION
                  11ITEM 1.
                  LEGAL
      PROCEEDINGS
                  11ITEM 1A.
                  RISK
FACTORS
                  11ITEM 2.
                  UNREGISTERED SALES OF EQUITY
      SECURITIES AND USE OF PROCEEDS
                  11ITEM 3.
                  DEFAULTS UPON SENIOR
      SECURITIES
                  11ITEM 4.
                  REMOVED AND
      RESERVED
                  11ITEM 5.
                  OTHER
      INFORMATION
                  11ITEM 6.
                  EXHIBITS
                  11SIGNATURES
                  12
  2
  PART I. FINANCIAL
INFORMATION
  ITEM 1.
              FINANCIAL
      STATEMENTS
  Index to Financial
Statements
  Condensed Consolidated Balance
      Sheet
                  
                  F–1Unaudited Condensed Consolidated
      Statements of Operations
                  
                  F–2Unaudited Condensed Consolidated
      Statements of Cash Flows
                  
                  F–3Notes to Unaudited Condensed
      Consolidated Financial Statements
                  
                  F–4
  3
 
 STEELCLOUD, INC.
 CONDENSED CONSOLIDATED BALANCE
SHEET
  October 31,
                                    
                                    
                                    April 30,2009
                                    
                                    
                                    2010(unaudited)ASSETSCurrent
      assetsCash and cash
      equivalents
                                    
                                    $
                                    60,650
                                    
                                    
                                    $
                                    63,730Accounts receivable,
      net
                                    
                                    
                                    147,203
                                    
                                    
                                    
                                    213,484Inventory,
      net
                                    
                                    
                                    10,587
                                    
                                    
                                    
                                    17,065Prepaid expenses and other current
      assets
                                    
                                    
                                    141,259
                                    
                                    
                                    
                                    94,076Deferred contract
      costs
                                    
                                    
                                    33,830
                                    
                                    
                                    
                                    -Total current
      assets
                                    
                                    
                                    393,529
                                    
                                    
                                    
                                    388,355Property and equipment,
      net
                                    
                                    
                                    166,754
                                    
                                    
                                    
                                    23,767Equipment on lease,
      net
                                    
                                    
                                    1,456
                                    
                                    
                                    
                                    743Other
      assets
                                    
                                    
                                    5,374
                                    
                                    
                                    
                                    2Total
      assets
                                    
                                    $
                                    567,113
                                    
                                    
                                    $
                                    412,867LIABILITIES AND STOCKHOLDERS’
      EQUITYCurrent
      liabilitiesAccounts
      payable
                                    
                                    $
                                    577,197
                                    
                                    
                                    $
                                    765,332Accrued
      expenses
                                    
                                    
                                    174,763
                                    
                                    
                                    
                                    345,949Notes payable,
      current
                                    
                                    
                                    217,919
                                    
                                    
                                    
                                    -Total current
      liabilities
                                    
                                    
                                    969,879
                                    
                                    
                                    
                                    1,111,281Long-term
      liabilitiesNote payable,
      long-term
                                    
                                    
                                    -
                                    
                                    
                                    
                                    400,000Deferred rent,
      long-term
                                    
                                    
                                    269,332
                                    
                                    
                                    
                                    255,840Other
      long-term
                                    
                                    
                                    1,129
                                    
                                    
                                    
                                    -Total long-term
      liabilities
                                    
                                    
                                    270,461
                                    
                                    
                                    
                                    655,840Stockholders’
      equityPreferred stock, $.001 par value:
      2,000,000 shares authorized, no shares issued and outstanding at October
      31, 2009 and April 30, 2010
                                    
                                    
                                    –
                                    
                                    
                                    
                                    –Common stock, $.001 par value:
      80,000,000 shares authorized, 15,993,501 and 19,745,001 shares
      issued at October 31, 2009 and April 30, 2010,
      respectively
                                    
                                    
                                    15,994
                                    
                                    
                                    
                                    19,745Additional paid in
      capital
                                    
                                    
                                    51,348,405
                                    
                                    
                                    
                                    51,749,623Treasury stock, 400,000 shares at
      October 31, 2009 and April 30, 2010,
    respectively
                                    
                                    
                                    (3,432,500
                                    )
                                    
                                    
                                    (3,432,500
                                    )Accumulated
      deficit
                                    
                                    
                                    (48,605,126
                                    )
                                    
                                    
                                    (49,691,122
                                    )Total stockholders’
      deficit
                                    
                                    
                                    (673,227
                                    )
                                    
                                    
                                    (1,354,254
                                    )Total liabilities and
      stockholders’ deficit
                                    
                                    $
                                    567,113
                                    
                                    
                                    $
                                    412,867
  The accompanying notes are an integral
part of these Condensed Consolidated Financial
Statements
  F-1
  STEELCLOUD, INC.
 UNAUDITED CONDENSED CONSOLIDATED
STATEMENTS OF OPERATIONS
  Three Months Ended
                                      April 30,
                                    
                                    
                                    Six Months Ended
                                      April 30,2009
                                    
                                    
                                    2010
                                    
                                    
                                    2009
                                    
                                    
                                    2010Revenue
                                    
                                    
                                    322,980
                                    
                                    
                                    
                                    455,679
                                    
                                    
                                    
                                    878,559
                                    
                                    
                                    
                                    820,957Cost
      of revenues
                                    
                                    
                                    207,559
                                    
                                    
                                    
                                    277,355
                                    
                                    
                                    
                                    665,282
                                    
                                    
                                    
                                    485,446Gross
      profit
                                    
                                    
                                    115,421
                                    
                                    
                                    
                                    178,324
                                    
                                    
                                    
                                    213,277
                                    
                                    
                                    
                                    335,511Selling
      and marketing
                                    
                                    
                                    114,193
                                    
                                    
                                    
                                    115,315
                                    
                                    
                                    
                                    215,864
                                    
                                    
                                    
                                    218,007Research
      and product development
                                    
                                    
                                    54,915
                                    
                                    
                                    
                                    97,086
                                    
                                    
                                    
                                    98,232
                                    
                                    
                                    
                                    150,733General
      and administrative
                                    
                                    
                                    691,012
                                    
                                    
                                    
                                    626,402
                                    
                                    
                                    
                                    1,295,088
                                    
                                    
                                    
                                    1,265,881Severance
      and restructuring
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    73,205
                                    
                                    
                                    
                                    -Loss
      from operations
                                    
                                    
                                    (744,699)
                                    
                                    
                                    
                                    (660,479
                                    )
                                    
                                    
                                    (1,469,112
                                    )
                                    
                                    
                                    (1,299,110
                                    )Interest
      expense
                                    
                                    
                                    (154
                                    )
                                    
                                    
                                    (40,000
                                    )
                                    
                                    
                                    (1,393
                                    )
                                    
                                    
                                    (111,460
                                    )Other
      income (expense), net
                                    
                                    
                                    564
                                    
                                    
                                    
                                    (8,995
                                    )
                                    
                                    
                                    1,803
                                    
                                    
                                    
                                    324,576Loss
      before income taxes
                                    
                                    
                                    (744,289)
                                    
                                    
                                    
                                    (709,474
                                    )
                                    
                                    
                                    (1,468,702
                                    )
                                    
                                    
                                    (1,085,994
                                    )Provision
      for income taxes
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Loss
      from continuing operations
                                    
                                    
                                    (744,289)
                                    
                                    
                                    
                                    (709,474)
                                    
                                    
                                    
                                    (1,468,702)
                                    
                                    
                                    
                                    (1,085,994)
                                    )Loss
      from discontinued operations, net of tax
                                    
                                    
                                    (105,669)
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    (385,001)
                                    
                                    
                                    
                                    -Net
      loss
                                    
                                    $
                                    (849,958)
                                    
                                    
                                    $
                                    (709,474
                                    )
                                    
                                    $
                                    (1,853,703
                                    )
                                    
                                    $
                                    (1,085,994
                                    )Basic
      and diluted loss per share:Continuing
      operations
                                    
                                    $
                                    (0.05)
                                    
                                    
                                    $
                                    (0.04
                                    )
                                    
                                    $
                                    (0.10)
                                    
                                    
                                    $
                                    (0.07
                                    )Discontinued
      operations
                                    
                                    
                                    (0.01)
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    (0.03)
                                    
                                    
                                    
                                    -Basic
      and diluted loss per share
                                    
                                    $
                                    (0.06)
                                    
                                    
                                    $
                                    (0.04
                                    )
                                    
                                    $
                                    (0.13)
                                    
                                    
                                    $
                                    (0.07
                                    )Weighted-average
      shares outstanding, basic and diluted
                                    
                                    
                                    14,828,849
                                    
                                    
                                    
                                    16,938,316
                                    
                                    
                                    
                                    14,783,698
                                    
                                    
                                    
                                    16,467,327
 
 The accompanying notes are an integral
part of these Condensed Consolidated Financial
Statements
  F-2
  STEELCLOUD, INC.
 UNAUDITED CONDENSED CONSOLIDATED
STATEMENTS OF CASH FLOWS
  Six Months Ended
                              April30,2009
                            
                            
                            2010Operating
      activitiesNet
    loss
                            
                            $
                            (1,853,703
                            )
                            
                            $
                            (1,085,994
                            )Adjustments to reconcile net
      (loss) to net cash (used in) provided by operating
      activities:Depreciation and
      amortization
                            
                            
                            196,153
                            
                            
                            
                            150,249Gain on sale of professional
      services assets
                            
                            
                            -
                            
                            
                            
                            (140,000
                            )Stock-based
      compensation
                            
                            
                            128,271
                            
                            
                            
                            123,968Amortization of deferred
      rent
                            
                            
                            -
                            
                            
                            
                            (13,491
                            )Amortization of deferred
      revenue
                            
                            
                            -
                            
                            
                            
                            (1,129
                            )Warrant based
      expense
                            
                            
                            -
                            
                            
                            
                            77,082Loss on extinguishment of
      debt
                            
                            
                            
                            
                            
                            
                            30,000Late payment penalty on debt paid
      in common stock
                            
                            
                            
                            
                            
                            
                            20,000Changes in operating assets and
      liabilities:Accounts
      receivable
                            
                            
                            1,269,382
                            
                            
                            
                            (66,281
                            )Inventory
                            
                            
                            60,693
                            
                            
                            
                            (6,479
                            )Prepaid expenses and other
      assets
                            
                            
                            (32,255
                            )
                            
                            
                            52,555Deferred contract
      costs
                            
                            
                            (25,000
                            )
                            
                            
                            33,830Accounts
      payable
                            
                            
                            (235,873
                            )
                            
                            
                            188,135Unearned
      revenue
                            
                            
                            27,714
                            
                            
                            
                            -Accrued expenses and other
      liabilities
                            
                            
                            (76,997
                            )
                            
                            
                            171,184Net cash used in operating
      activities
                            
                            
                            (541,616)
                            
                            
                            
                            (466,371
                            )Investing
      activitiesProceeds from sale of professional
      services assets
                            
                            
                            -
                            
                            
                            
                            140,000Purchase of property and
      equipment
                            
                            
                            -
                            
                            
                            
                            (6,549
                            )Sale of property and
      equipment
                            
                            
                            331,153
                            
                            
                            
                            -Net cash used by investing
      activities
                            
                            
                            331,153
                            
                            
                            
                            133,451Financing
      activitiesProceeds from notes
      payable
                            
                            
                            -
                            
                            
                            
                            150,000Proceeds from issuance of common
      stock
                            
                            
                            -
                            
                            
                            
                            186,000Payments on notes
      payable
                            
                            
                            (3,725
                            )
                            
                            
                            -Net cash (used in) provided by
      financing activities
                            
                            
                            (3,725
                            )
                            
                            
                            336,000Net (decrease) increase in cash
      and cash equivalents
                            
                            
                            (214,187
                            )
                            
                            
                            3,080Cash and cash equivalents at
      beginning of period
                            
                            
                            752,351
                            
                            
                            
                            60,650Cash and cash equivalents at end
      of period
                            
                            $
                            538,164
                            
                            
                            $
                            63,730Supplemental cash flow
      informationInterest
      paid
                            
                            $
                            1,393
                            
                            
                            $
                            34,378Income taxes
      paid
                            
                            $
                            –
                            
                            
                            $
                            –Supplemental disclosure of
      non-cash investing and financing activitiesDiscount on note
      payable
                            
                            $
                            -
                            
                            
                            $
                            45,001
  The Accompanying Notes Are an Integral
Part of these Condensed Consolidated Financial
Statements
  F-3
  STEELCLOUD, INC.
 NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
  1.Nature of Business
and Basis of Presentation
  Founded in 1987, SteelCloud, Inc.
(referred to herein as the “Company,” or “SteelCloud”) is a developer of
mobility appliance software solutions primarily for the Research In Motion®
(“RIM”) BlackBerry market.  SteelCloud designs and integrates its
software into specialized server appliances targeted at Department of Defense
(“DoD”), public sector, commercial, and remote hosting
customers.  Until July 2009, SteelCloud offered computer
integration solutions for the federal marketplace and Independent Software
Vendors.  In July 2009, SteelCloud entered into an Asset Purchase
Agreement with NCS Technologies, Inc., a Virginia corporation (“NCS”), pursuant
to which SteelCloud agreed to sell to NCS, and NCS agreed to purchase, all of
SteelCloud’s right, title and interest in and to the assets relating to its
computer integration business.  Further, in July 2009 SteelCloud’s
management and Board of Directors determined to shift the focus of its
operations, resources and investments to its BlackBerry-related technologies and
products.
  SteelCloud was originally
incorporated as Dunn Computer Operating Company on July 27, 1987 under the
laws of the Commonwealth of Virginia.  On February 26, 1998, Dunn
Computer Corporation ("Dunn") was formed and incorporated in the Commonwealth of
Virginia to become a holding company for several entities including Dunn
Computer Operating Company.  The Company's subsidiary is International
Data Products ("IDP"), acquired in May 1998.  On May 15, 2001, the
Company’s shareholders approved an amendment to the Company’s articles of
incorporation to change the corporate name from Dunn Computer Corporation to
SteelCloud, Inc.  On December 31, 2003, Dunn was merged with
and into SteelCloud.  On February 17, 2004, the Company acquired the
assets of Asgard Holding, LLC ("Asgard").  In July of 2006, as part of
its restructuring efforts, the Company closed its sales office and ceased all of
its operations in Florida.  The Company’s former subsidiaries, Puerto
Rico Industrial Manufacturing Operations Acquisition Corporation (“PRIMO”), and
STMS Corporation (“STMS”), are inactive.
  The accompanying financial statements
include the accounts of SteelCloud and its subsidiaries, IDP, PRIMO, and
STMS.  All intercompany accounts and activity have been eliminated in
the consolidation process.
 
 The following unaudited condensed
financial statements have been prepared pursuant to the rules and regulations of
the Securities and Exchange Commission. Certain information and note disclosures
normally included in annual financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted pursuant
to those rules and regulations, although the Company believes that the
disclosures made are adequate to make the information not
misleading.  It is suggested that these condensed financial statements
be read in conjunction with the financial statements and the Footnotes thereto
included in the Company’s latest Annual Report on Form 10-K, as
amended.
  All adjustments that are of a normal
recurring nature, in the opinion of management, and necessary for a fair
presentation for the periods presented have been reflected as required by
Regulation S-X, Rule 10-01.
  Going Concern
  SteelCloud has experienced recurring
annual operating losses since its fiscal year ended October 31,
2004.  SteelCloud expects that such losses may continue at least
through its fiscal year ending October 31, 2010.  The report of
SteelCloud’s independent registered public accounting firm on SteelCloud’s
consolidated financial statements for the fiscal year ended October 31, 2009
contains an explanatory paragraph regarding SteelCloud’s ability to continue as
a going concern based upon its history of net losses, net working capital
deficit and uncertainty regarding its ability to satisfy its obligations as they
come due in the near term.
 
 SteelCloud is dependent upon available
cash and operating cash flow to meet its capital needs.  SteelCloud is
considering all strategic options to improve its liquidity and obtain working
capital to fund its continuing business operations, including equity offerings,
asset sales or debt financings; however, there can be no assurance that
SteelCloud will be successful in negotiating financing on terms agreeable to it
or at all.  If adequate funds are not available or are not available
on acceptable terms, SteelCloud will likely not be able to take advantage of
unanticipated opportunities, develop or enhance services or products, respond to
competitive pressures, or continue as a going
concern.
 
 2.New Accounting
Pronouncements
  There have been no recent accounting
pronouncements or changes in accounting pronouncements during the six months
ended April 30, 2010, as compared to the recent accounting pronouncements
described in the 2009 Annual Report that have been implemented, are of
significance, or are of potential significance, to the
Company.
  F-4
  STEELCLOUD, INC.
 NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
 
 3.Significant
Customers
  For the six month period ended April 30,
2010,53% of the Company’s revenues were attributed to two
customers.  For the six
month period ended April 30, 2009, 30% of the Company’s revenues were attributed
to a single government agency.
 
 As of
April 30, 2010, 43% of the accounts receivable balance was attributed to two
customers.  As of October 31, 2009, 93% of the accounts receivable
balance was attributed to three customers.
  4.Equity
  Stock
Purchase Agreement
  On March
31, 2010, SteelCloud entered into a Stock Purchase Agreement (the "Agreement")
with Caledonia Capital Corporation, a Delaware corporation (“Caledonia”)
pursuant to which Caledonia agreed to purchase 2,000,000 shares (the "Shares")
of SteelCloud's Common Stock, together with a warrant to purchase 2,000,000
shares of SteelCloud's Common Stock (the "Warrant"), for a total purchase price
of $200,000 (the "Purchase Price").
  The
Warrant is exercisable for four years at an exercise price of $0.15 per share.
The exercise price may be adjusted in the event of any stock dividend, stock
split, stock combination, reclassification or similar transaction. Additionally,
SteelCloud's Board of Directors has the discretion to reduce the then-current
exercise price to any amount at any time during the term of the Warrant for any
period of time the Board deems appropriate.
  Pursuant
to the Agreement, the Company granted Caledonia piggyback registration rights
and demand registration rights for (a) the Shares, (b) the Common Stock
underlying the Warrant, (c) the 625,000 shares of Common Stock underlying a
warrant issued to Caledonia by SteelCloud on July 1, 2009 (the "July 2009
Warrant"), (d) the shares of Common Stock underlying the November Warrants, and
(e) all shares of Common Stock that may be acquired by Caledonia upon conversion
of the Notes.
  Further,
pursuant to the Agreement, SteelCloud's Board of Directors was required to
appoint Edward M. Murchie, Caledonia's President as a director of
SteelCloud.
  The offering described above was not
registered under the Securities Act of 1933, as amended (the "Securities Act"),
but was made in reliance upon the exemptions from the registration requirements
of the Securities Act set forth in Section 4(2) thereof and/or Rule 506 of
Regulation D promulgated thereunder, insofar as such securities were issued only
to an "accredited investor" within the meaning of Rule 501 of Regulation
D.
  Stock-based
Compensation
  The Company recognized approximately
$124,000 and $128,000 of stock-based compensation expense during the six month
periods ended April 30, 2010 and 2009, respectively. Stock-based compensation
expense for the six month period ended April30, 2010 and 2009 increased
the Company’s basic and diluted loss per share by $0.01 and $0.01, respectively.
The estimated fair value of the
Company’s stock-based awards is amortized on a straight-line basis over the
awards’ original service period.  Included in stock-based compensation
expense for the six month period ended April 30, 2010 is $90,000 related to
compensation to external members of the Company’s Board of
Directors.
  Additional Paid-in
Capital
  Additional paid in capital has increased
approximately $401,000 during the six month period ended April 30, 2010 due to
the issuance of common stock pursuant to the Agreement discussed above in Note 5
under the heading “Stock Purchase Agreement” of approximately $184,000, the
issuance of common stock as payment for the loan penalty and loan modification
discussed in Note 5 below of approximately $49,000, warrants issued in
connection with the Line of Credit and Security Agreement entered into with
Caledonia on November 3, 2009 of approximately $45,000 (as disclosed in Note 6
to the Company’s financial statements included in its Quarterly Report for the
period ended January 31, 2010, as filed with the SEC on March 19, 2010), and
stock-based compensation expense of approximately
$123,000.
  F-5
  STEELCLOUD, INC.
 NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
 
 5.Debt
  Term Loan and Line of
Credit
 
 On March 31, 2010, the Company entered
into a Loan Modification and Extension Agreement (“Loan Modification”) with
Caledonia.  Under the terms of the Loan Modification, among other
things, a) the maturity date of both Notes was extended to December 31, 2011; b)
interest shall accrue on the unpaid principal balance of both Notes at the rate
of twenty percent per annum, due in monthly installments and c) Caledonia shall
have the right to convert all, or any part, of the outstanding balance due under
the Notes into shares of common stock of the Company at the conversion rate of
$0.10 per share of common stock.  As an inducement to Caledonia to
modify the loans and payment of a late payment penalty, the Company issued to
Caledonia 500,000 shares of common stock and modified the Warrants underlying
the Line of Credit to have an exercise price of $0.15 per share.  The
common shares were valued at $0.10 per share which was the closing stock price
as of March 31, 2010.  Due to the addition of conversion privileges to
the revised Notes, the Company accounted for this debt modification as an
extinguishment of debt and recorded a loss on extinguishment of
$30,000.
 
 6.Fair Value of
Financial Instruments
 
 The carrying values of cash and cash
equivalents, contract receivables and accounts payable approximate fair value
because of the short-term nature of these instruments.  Considerable
judgment is necessary to estimate the fair value of financial
instruments.  Due to current limitations on credit availability and
market conditions, the estimates of fair value presented herein are not
necessarily indicative of the amounts that could be realized upon disposition of
the financial instruments.  Due to the restructuring of the Term Note
on December 31, 2009 and the Line of Credit on March 31, 2010 which increased
the annual interest rate from 15% to 20%, we believe the carrying value of the
notes approximate their fair values at April 30, 2010.
  7.Inventories
  Inventories consisted of the
following:
  October 31,
                        
                        
                        April 30,2009
                        
                        
                        2010Raw
      materials
                        
                        $
                        6,259
                        
                        
                        $
                        6,943Finished
      goods
                        
                        
                        4,328
                        
                        
                        
                        10,122$
                        10,587
                        
                        
                        $
                        17,065
 
 8.Property, Plant and
Equipment
  T he
Company signed a lease for new headquarters in Ashburn, Virginia on February 2,
2010 and subsequently vacated its Herndon, Virginia
facility.   During the first quarter of fiscal 2010, the Company
wrote off the remaining balance, or approximately $138,000, of its leasehold
improvements related to this facility.  As discussed in Note 14, the
Company and its former landlord have agreed to the major terms for termination
of its obligation under the Herndon, VA lease for a cash payment of $170,000 and
forfeiture of its security deposit with the landlord.  Based upon the
terms of the proposed settlement agreement, the Company believes that the
amounts accrued for rent and the deferred rent liability is adequate to satisfy
the settlement obligation.  Accordingly, no additional liability has
been accrued for as of April 30, 2010 .
 
 9.Interest
Expense
 
 For the three month period ended April
30, 2010, the Company incurred interest expense of $40,000 on its notes payable
of which $21,407 represented amortization of the discount on notes payable
attributable to the warrants issued in connection with those
notes.
  In the six month period ended April 30,
2010, the Company incurred interest expense of $111,460 on its notes payable of
which $77,082 represented amortization of the discount on notes payable
attributable to the warrants issued in connection with those
notes.
  F-6
  STEELCLOUD, INC.
 NOTES TO UNAUDITED CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
 
 10. Other Income
(Expense)
 Legal
settlement
  In December 2007 the Company was
notified that there was a class action lawsuit settlement with defendants which
may have affected entities who directly purchased Dynamic Random Access Memory
(“DRAM”) during the period of April 1, 1999 through June 30, 2002.  As
a purchaser of DRAM from one of the defendants during that period, the Company
submitted a claim of approximately $1.4 million.  In December 2009 the
Company received a payment of $155,757 as a result of this
settlement.
  Royalties
  In the three month and six month periods
ended April 30, 2010, the Company earned $21,005 and $57,357, respectively, of
royalties associated with the July 2009 sale of the Integration
Business.
 
 Extinguishment of
debt
  As described in Note 6 above, the
Company recognized a loss on extinguishment of debt of $30,000 representing the
fair value of the common stock issued to the lender as consideration for the
debt modification in the three and six month periods ended April 30,
2010.
 
 11. Earnings per
Share
  Basic earnings per share is based on the
weighted average number of common shares outstanding during the period and is
calculated by dividing the net earnings (loss) by the weighted average number of
common shares outstanding. Diluted earnings per share is based on the weighted
average number of common shares outstanding plus common stock equivalents
associated with stock options and warrants and is calculated by dividing net
earnings by the weighted average number of common shares outstanding used in the
basic earnings per share calculation plus the common stock equivalent of stock
options and warrants. The dilutive weighted average number of common shares
outstanding excluded potential common shares from stock options and warrants of
approximately 336,000 and 214,000 for the three month periods ended April 30,
2010 and 2009, respectively, and 223,000 and 13,000for the six month periods
ended April 30, 2010 and 2009, respectively. These shares were excluded from the earnings per share
calculation due to their antidilutive effect resulting from the loss from
continuing operations and loss from discontinued operations, net of
tax.
 
 12. Income Tax
  The Company accounts for uncertainty in
income taxes using a more-likely-than-not recognition threshold based on the
technical merits of the tax position taken.  Tax positions that meet
the more-likely-than-not recognition threshold should be measured as the largest
amount of the tax benefits, determined on a cumulative probability basis, which
is more likely than not to be realized upon effective settlement in the
financial statements.  The Company has an unrecognized tax benefit ofapproximately $61,000 anddoes not expect any of this amount to reverse in the next twelve
months.  The Company has a valuation allowance against the full amount
of its net deferred tax assets and therefore, the amount of unrecognized tax
benefits that, if recognized, would impact the effective tax rate is
zero.
  The Company conducts business in the
U.S. and is subject to tax in that jurisdiction. As a result of its business
activities, the Company files tax returns that are subject to examination by the
respective federal and state tax authorities. For income tax returns filed by
the Company, the Company is no longer subject to U.S. federal, or state tax
examination by tax authorities for years before October 31, 2006, although
carryforward tax attributes that were generated prior to October 31, 2006 may
still be adjusted upon examination by tax authorities if they either have been
or will be utilized.  The Company’s accounting policy is to recognize
interest and penalties related to income tax matters in general and
administrative expense. The Company had $0 accrued for interest and penalties as
of April 30, 2010.
  13. Commitments and
Contingencies
  The Company has accrued approximately
$50,000 pertaining to payroll taxes and related interest resulting from the
failure to report certain employee reimbursements as
compensation.  The Company intends to file the necessary returns to
resolve the contingency.
  F-7
  14. Subsequent
Events
  O n June
18, 2010, the Company received notice that the former landlord of its former
Herndon, Virginia facility had agreed to the major terms to sell its claims
arising from the termination of the Company’s Herndon lease for a cash payment
and the Company’s forfeiture of its security deposit with the
landlord.  Under the terms of the proposed settlement, the purchaser
of the lease claims, in turn, intends to forego these rights in return for a
cash payment by the Company of $170,000, payment of which will be due at the
earlier of August 31, 2010 or the Company’s receipt of at least $2.0 million of
capital from the sale of its securities .
  F-8
  ITEM
2.         MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
  Certain statements contained herein may
constitute forward-looking statements . The words or phrases “would be,” “will
allow,” “intends to,” “will likely result,” “are expected to,” “will continue,”
“is anticipated,” “estimate,” “project,” or similar expressions are intended to
identify “forward-looking statements.” Because such statements include risks and
uncertainties, actual results may differ materially from those expressed or
implied by such forward-looking statements. Factors that could cause actual
results to differ materially include, but are not limited to, risks associated
with SteelCloud, Inc.’s (referred to herein as the “Company”, or “SteelCloud”,
“we”, “our”, “ours”, and “us”) ability to obtain financing in the short term;
general economic and business conditions; industry capacity; industry trends;
competition; changes in business strategy or development plans; project
performance; and availability of qualified personnel; and the risk factors set
forth from time to time in the reports we file with the Securities and Exchange
Commission (the “SEC”). Statements made herein are as of the date of the filing
of this Quarterly Report on Form 10-Q with the SEC and should not be relied upon
as of any subsequent date. Unless otherwise required by applicable law, we do
not undertake, and we specifically disclaim, any obligation to update any
forward-looking statements to reflect occurrences, developments, unanticipated
events or circumstances after the date of such statement.
  The following discussion should be read
in conjunction with the consolidated financial statements and Footnotes thereto
included inPart I - Item
1in this Quarterly Report
on Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended
October 31, 2009 as amended, filed by us with the SEC.
  OVERVIEW
  Founded in 1987, we are a developer of
mobility appliance and software solutions primarily for the Research in Motion
(“RIM”) BlackBerry market. We design and integrate our software into specialized
server appliances targeted at Department of Defense, public sector, commercial,
and remote hosting customers. In addition, we are a world-wide provider of RIM
hosting licenses.
 
 SteelWorks®
  In conjunction with RIM, we developed an
appliance solution specifically for the BlackBerry Enterprise Server
(“BES”).  We believe the BES appliance solution is the single best way
to implement the BES software environment.  SteelWorks is an
integrated server appliance that enables virtually any size organization to
implement the BES in a fraction of the time and at a fraction of the cost or
resources allocated to this otherwise time intensive, manual
process.  We have filed for three patents for the appliance related to
the technology we created for the installation wizard, backup and restore
features.  These patents are currently pending approval from the U.S.
Patent and Trademark Office.
  In addition, we developed SteelWorks
FedMobile, our BES appliance solution specifically for the Department of Defense
(“DoD”) and other related agencies.  The SteelWorks FedMobile
appliance builds upon our commercial appliance by automating the application of
the Defense Information Systems Agency’s (“DISA”) and DoD’s Security Technical
Implementation Guide (“STIG”) to the BES installation process.  The
STIG mandates the policies for which the DoD and related agencies must operate
their wireless communications.  As a result, our FedMobile appliance
allows those agencies to be STIG compliant in a fraction of the time and at a
fraction of the cost or resources allocated to this otherwise time intensive,
manual process.
  In January 2010, we announced the
availability of SteelWorksFLEX+.  This offering combines the
standard commercial SteelWorks appliance with BES hosting
licensing.  SteelWorksFLEX+allows our BES hosting partners to
install and manage a complete solution, including infrastructure and licensing,
at a customer site.FLEX+provides SteelCloud with the ability to
recognize revenue from both the appliance sale and the BES
licensing.
 
 Hosting Licenses
  From October to December of 2009, we
entered into six agreements with RIM, or with RIM international subsidiaries to
distribute and manage BES hosted licensing to RIM Alliance Members in the U.S.
and 105 countries worldwide.  As of the end of April, we had
agreements with 111 domestic and international BES hosting providers to supply
and manage hosting licenses.  Revenue from hosting licenses are billed
and recognized on a monthly basis. We anticipate that hosting license revenue
will increase throughout the 2010 fiscal year as the current BES hosters enter
into agreements with us and new hosters are developed, especially in developing
international markets.  By the end of fiscal 2010, we believe that we
will recognize a majority of our hosting revenue from international
markets.
  4
  Professional
Services
  We provide information technology
consulting for our clients.  Our consultants are subject matter
experts in mobility technology.
  Research and Product
Development
  By investing in product development, we
believe we will have more control over the functionality and marketing of our
products.  We also believe that the resulting intellectual property
will increase the competitiveness of our offerings and improve product
margins.  For the six months ended April 30, 2010, we incurred
research and development costs of approximately $151,000.  We will
continue to incur costs for product development in the
future.
 
 CRITICAL ACCOUNTING POLICIES AND
ESTIMATES
  The preparation of financial statements
in conformity with US Generally Accepted Accounting Principles (“GAAP”) requires
management to make certain judgments, estimates and assumptions that could
affect the reported amounts of assets and liabilities at the date of the
financial statements and the reported amounts of revenue and expenses during the
reporting period. We based our estimates and assumptions on historical
experience and on various other assumptions believed to be applicable, and
evaluated them on an on-going basis to ensure they remained reasonable under
current conditions. Actual results could differ significantly from those
estimates. No changes to our critical accounting policies have taken place since
our Annual Report on Form 10-K for the fiscal year October 31, 2009, as amended
(the “Annual Report”).
 
 New Accounting
Pronouncements
  There have been no recent accounting
pronouncements or changes in accounting pronouncements during the three months
ended April 30, 2010, as compared to the recent accounting pronouncements
described in the Annual Report that we have implemented, or that are of
significance, or potential significance, to us.
  5
  RESULTS OF
OPERATIONS
  For the Three and Six Months Ended April
30, 2010 Compared to the Three and Six Months Ended April 30,
2009:
  Revenue Discussion:
  Revenues increased approximately 41%, or
$132,699, to $455,679for the three month period ended April 30, 2010 as compared
to $322,980 for the same period in fiscal 2009.  The increase was due
to the increase in hosting license revenue which more than offset the decline in
our professional service revenue.
 
 Revenues decreased by approximately 7%,
or $57,602, to $820,957 for the six month period ended April 30, 2010, as
compared to $878,559 for the same period in fiscal 2009.  The decrease
was primarily attributable to a decrease in our professional services as a
result of our completing a large service contract in December 2008 combined with
the sale of professional services assets in January 2010, which was partially
offset by hosting license revenue.
  Gross Profit
Discussion:
  G ross
profit increased $62,903, or approximately 54%, to $178,324 for the three month
period ended April 30, 2010 as compared to $115,421 for the same period in
fiscal 2009.   Of the $178,324 increase in gross profit, $15,481
is attributable to an increase in the gross profit rates on revenues and $47,422
is attributable to increased revenues.  Gross profit rates increased
slightly for the quarter ended April 30, 2010 as compared to the comparable
prior period due to the higher margin on the Company’s consulting
revenue .
 Gross profit increased by approximately
57%, or $122,234, to $335,511 for the six month period ended April 30, 2010 as
compared to $213,277 for the same period in fiscal 2009.  The increase
was primarily attributable to improved margins on a professional services
contract begun in November 2009 as well as the gross margins generated from the
new business related to Hosting Licenses.
  Operating Expense
Discussion:
  The following table summarizes our
operating expenses for the three months ended April 30, 2009 and 2010 in dollars
and as a percentage of net revenues.
 Three Months Ended April
      30,2009
                                                        
                                                        
                                                        2010
                                                        
                                                        
                                                        Increase
      (decrease)% of Net
                                                        
                                                        
                                                        
                                                        
                                                        
                                                        % of NetDollars
                                                        
                                                        
                                                        Revenues
                                                        
                                                        
                                                        Dollars
                                                        
                                                        
                                                        Revenues
                                                        
                                                        
                                                        Dollars
                                                        
                                                        
                                                        PercentageSelling and
      marketing
                                                        
                                                        $
                                                        114,193
                                                        
                                                        
                                                        
                                                        35
                                                        %
                                                        
                                                        $
                                                        115,315
                                                        
                                                        
                                                        
                                                        25
                                                        %
                                                        
                                                        $
                                                        1,122
                                                        
                                                        
                                                        
                                                        1
                                                        %Research and product
      development
                                                        
                                                        
                                                        54,915
                                                        
                                                        
                                                        
                                                        17
                                                        %
                                                        
                                                        
                                                        97,086
                                                        
                                                        
                                                        
                                                        21
                                                        %
                                                        
                                                        
                                                        42,171
                                                        
                                                        
                                                        
                                                        77
                                                        %General and
      administrative
                                                        
                                                        
                                                        691,012
                                                        
                                                        
                                                        
                                                        214
                                                        %
                                                        
                                                        
                                                        626,402
                                                        
                                                        
                                                        
                                                        137
                                                        %
                                                        
                                                        
                                                        (64,610
                                                        )
                                                        
                                                        
                                                        (9
                                                        )%Total operating
      expenses
                                                        
                                                        $
                                                        860,120
                                                        
                                                        
                                                        
                                                        266
                                                        %
                                                        
                                                        $
                                                        838,803
                                                        
                                                        
                                                        
                                                        184
                                                        %
                                                        
                                                        $
                                                        (21,317
                                                        )
                                                        
                                                        
                                                        (2
                                                        )%
 
 The increase in research and product
development for the three months ended April 30, 2010 compared to the three
months ended April 30, 2009 is the result of our continued investment in our
core products.
  The decrease in general and
administrative expenses for the three months ended April 30, 2010 compared to
the three months ended April 30, 2009 is primarily attributable to reductions in
personnel costs which were partially offset by an increase in stock-based
compensation expense to our Board of Directors.
 
 The following table summarizes our
operating expenses for the six months ended April 30, 2009 and 2010 in dollars
and as a percentage of net revenues.
 Six Months Ended April
      30,2009
                                                          
                                                          
                                                          2010
                                                          
                                                          
                                                          Increase
      (decrease)% of Net
                                                          
                                                          
                                                          
                                                          
                                                          
                                                          % of NetDollars
                                                          
                                                          
                                                          Revenues
                                                          
                                                          
                                                          Dollars
                                                          
                                                          
                                                          Revenues
                                                          
                                                          
                                                          Dollars
                                                          
                                                          
                                                          PercentageSelling and
      marketing
                                                          
                                                          $
                                                          215,864
                                                          
                                                          
                                                          
                                                          25
                                                          %
                                                          
                                                          $
                                                          218,007
                                                          
                                                          
                                                          
                                                          27
                                                          %
                                                          
                                                          $
                                                          2,143
                                                          
                                                          
                                                          
                                                          1
                                                          %Research and product
      development
                                                          
                                                          
                                                          98,232
                                                          
                                                          
                                                          
                                                          11
                                                          %
                                                          
                                                          
                                                          150,733
                                                          
                                                          
                                                          
                                                          18
                                                          %
                                                          
                                                          
                                                          52,501
                                                          
                                                          
                                                          
                                                          53
                                                          %General and
      administrative
                                                          
                                                          
                                                          1,295,088
                                                          
                                                          
                                                          
                                                          147
                                                          %
                                                          
                                                          
                                                          1,265,881
                                                          
                                                          
                                                          
                                                          154
                                                          %
                                                          
                                                          
                                                          (29,207
                                                          )
                                                          
                                                          
                                                          (2
                                                          )%Severance and
      restructuring
                                                          
                                                          
                                                          73,205
                                                          
                                                          
                                                          
                                                          8
                                                          %
                                                          
                                                          
                                                          -
                                                          
                                                          
                                                          
                                                          0.0
                                                          %
                                                          
                                                          
                                                          (73,205
                                                          )
                                                          
                                                          
                                                          (100.00
                                                          )%Total operating
      expenses
                                                          
                                                          $
                                                          1,682,389
                                                          
                                                          
                                                          
                                                          191
                                                          %
                                                          
                                                          $
                                                          1,634,621
                                                          
                                                          
                                                          
                                                          199
                                                          %
                                                          
                                                          $
                                                          (47,768
                                                          )
                                                          
                                                          
                                                          (3
                                                          )%
  6
  The increase in research and product
development for the six months ended April 30, 2010 compared to the six months
ended April 30, 2009 is the result of our continued investment in our core
products.  We believe that research and product development expenses
will fluctuate from quarter to quarter as we develop and introduce new products
into the marketplace.
  The decrease in general and
administrative expenses for the six months ended April 30, 2010 compared to the
six months ended April 30, 2009 is primarily attributable to reductions in
personnel costs offset by the impairment of leasehold improvements and an
increase in legal expenses related to our S-1 registration
statement.
  The decrease in severance and
restructuring costs for the six months ended April 30, 2010 compared to the six
months ended April 30, 2009 is the result of incurring severance payments in the
amount of $73,205 associated with the termination of our former CEO and
President’s employment agreement during the three months ended January 31,
2009.
 
 Interest Expense
Discussion:
  For the three month period ended April
30, 2010, we incurred interest expense of $40,000 on our notes payable of which
$21,407 represented amortization of the discount on notes payable attributable
to the warrants issued in connection with those notes.  Interest
expense for the three month period ended April 30, 2009 was
insignificant.
 
 In the six month period ended April 30,
2010, we incurred interest expense of $111,460 on our notes payable of which
$77,082 represented amortization of the discount on notes payable attributable
to the warrants issued in connection with those notes.  Interest
expense for the six month period ended April 30, 2009 was
insignificant.
  Other Income (Expense)
Discussion:
 
 Legal settlement
  In December 2007 we were notified that
there was a class action lawsuit settlement with defendants which may have
affected entities who directly purchased Dynamic Random Access Memory (“DRAM”)
during the period of April 1, 1999 through June 30, 2002.  As a
purchaser of DRAM from one of the defendants during that period, we submitted a
claim of approximately $1.4 million.  In December 2009 we received a
payment of $155,757 as a result of this settlement.
  Royalties
  In the three month and six month periods
ended April 30, 2010, we earned $21,005 and $57,357, respectively, of royalties
associated with the July 2009 sale of our Integration Business.  We
had no royalty income in the comparable prior periods.
  Sale of Professional Services
Assets
  We received $140,000 for the sale of
certain Professional Services Assets to Global Technology Partners, Inc. on
January 11, 2010, all of which was recognized as a gain as there was no carrying
value of the contracts sold.
 
 Extinguishment of
debt
  As an inducement to Caledonia to modify
the loans and payment of a late payment penalty, we issued to Caledonia 500,000
shares of common stock and modified the Warrants underlying the Line of Credit
to have an exercise price of $0.15 per share.  The common shares were
valued at $0.10 per share which was the closing stock price as of March 31,
2010.  Due to the addition of conversion privileges to the revised
Notes, we accounted for this debt modification as an extinguishment of debt and
recognized a loss on extinguishment of debt of $30,000 in the three and six
month periods ended April 30, 2010.
  7
  LIQUIDITY AND CAPITAL
RESOURCES
  We have experienced recurring losses
from operations and negative cash flows. For the six months ended April 30,
2010, we incurred a net loss of $1,085,994 and an accumulated deficit of
$49,691,122 as of that date. The report from our independent registered public
accounting firm on our audited financial statements at October 31, 2009 contains
an explanatory paragraph regarding doubt as to our ability to continue as a
going concern as a result of our history of net losses from operations, net
working capital deficit and uncertainty regarding the our ability to satisfy
obligations as they become due in the near future. Despite our history of
revenues, we can give no assurance that we will be able to maintain or increase
our revenues in fiscal 2010 or that we will be successful in reaching
profitability or generating positive cash flows from our operations. We are
considering all strategic options to improve our liquidity and to obtain working
capital to fund our continuing business operations including equity offerings,
asset sales and debt financing as alternatives to improve our cash needs;
however; we can offer no assurance that we will be successful in identifying,
obtaining or negotiating financing terms. If adequate funds are not available or
are not available on terms acceptable to us, we will likely not be able to take
advantage of unanticipated opportunities, develop or enhance services or
products, respond to competitive pressures, or continue as a going
concern.
  On March 16, 2010 our Registration
Statement on Form S-1 (the “Registrant Statement”) was declared effective by the
SEC, authorizing us to offer up to 16,000,000 shares of our common stock
together with 16,000,000 common stock purchase warrants on a best efforts basis
at a fixed price between $0.07 and $0.30 per share and an exercise price per
warrant equal to 150% of the final offering share price.  We cannot
offer any assurance that we will be successful in selling any of the shares
registered pursuant to the Registration Statement.
  As of April 30, 2010, we had cash and
cash equivalents of $63,730 and a working capital deficit of $722,926. Asof June 11, 2010, we have approximately $44,000 of cash on hand, which is
adequate for less than one month of operations. We donot have any working capital
commitments nor do we presently have any external sources of working capital.
Historically, our revenues have not been sufficient to fund our operations and
we have relied on capital provided through the sale of equity securities. Our
working capital needs in future periods will depend primarily on the rate at
which we can increase our revenues while controlling our expenses and decreasing
the use of cash from operations.
 
 For the six months ended April 30, 2010,
we used approximately $466,371 in cash for operating activities. Our primary use
of cash was to finance our operating loss. The use and availability of our cash
is affected by the timing, pricing, and magnitude of orders for our products,
and the timing of cash outflows relating to these orders along with corporate,
sales and marketing and research and development
expenditures.
 
 We generated approximately $133,451 from
our investing activities and generated $336,000 from financing activities for
the six months ended April 30, 2010.
  Our consolidated financial statements
for the six months ended April 30, 2010 do not give effect to any adjustments to
recorded amounts and their classifications, which would be necessary should we
be unable to continue as a going concern and therefore, be required to realize
our assets and discharge our liabilities in other than the normal course of
business and at amounts different from those reflected in the consolidated
financial statements.
  8
  COMMITMENTS
  On February 2, 2010, we entered into a
Lease Agreement (the “February Lease”) with Merritt-AB5, LLC (the “Landlord”),
pursuant to which we will rent approximately 3,461 square feet in the property
located at 20110 Ashbrook Place, Suite 130, Ashburn, Virginia 20147 (the
“Ashburn Premises”) for our operations facility. The term of the February Lease
is for one year beginning on February 19, 2010 (the “Term”). The Term may be
extended for two additional successive one year periods. The monthly rent is
$6,489.38, or $77,872.50 for the first year, inclusive of operating expenses. If
we decide to extend the Term, the monthly rent for the second year will be
$6,684.06 or $80,208.68 per year, and the monthly rent for the third year will
be $6,884.58 or $82,614.94 per year.
 
 On May 22, 2009, we entered into a
Stipulation/Consent Order with CRP (the “Stipulation”), pursuant to an Affidavit
and Statement of Account (the “Affidavit”), stating, as declared by a general
manager of Jones Lang LaSalle, a property management company and agent for CRP
Holdings A-1, LLC (“CRP”), the landlord of 14040 Park Center Road, Suite 210,
Herndon, Virginia 20171 (the “Premises”), that CRP, as landlord, was seeking a
judgment against us for: (i) possession of the Premises, and (ii) monetary
damages for nonpayment of rent due under a sublease (the “Sublease”), dated
September 28, 2004, by and between us and NEC America, Inc. (“NEC”), and a
subsequent assignment of the Sublease to CRP from NEC, dated December 15, 2008.
In the Stipulation we acknowledged that the balance due for rent and additional
rent for the Premises was $168,638, together with attorney‘s fees and court
expenses of $7,041 through May 22, 2009 (the “Judgment Amount”). Pursuant to the
Stipulation, we paid $30,000 (the “Forbearance Payment”) on May 22, 2009 toward
the Judgment Amount. Further we agreed to, and have, vacated the Premises. CRP
agreed to stay enforcement of the Judgment Amount until the earlier of (a) our
receipt of capital in the amount of at least $500,000, or (b) May 31, 2010. The
matter was returned to the court‘s files pending our compliance with the terms
of the Stipulation.
 
 O n
February 27, 2009, we entered into a lease amendment with the landlord of our
prior operation facility, whereby the lease for that facility, which was
scheduled to expire on August 31, 2014, was amended to provide for (i) the
extension of the lease term for a period of one (1) year and four (4) months
ending on December 31, 2015, and (ii) certain other modifications, including a
reduction in our rent cash payments by approximately $60,000 and $34,000 for the
fiscal years 2009 and 2010, respectively. Monthly rent for the lease was
approximately $21,000 inclusive of operating expenses.    On
June 18, 2010, the Company received notice that the former landlord of its
former Herndon, Virginia facility had negotiated the major terms to sell its
claims arising from the termination of the Company’s Herndon lease for a cash
payment and the Company’s forfeiture of its security deposit with the
landlord.  Under the terms of the proposed settlement, the purchaser
of the lease claims, in turn, intends to forego these rights in return for a
cash payment by the Company, payment of which will be due at the earlier of
August 31, 2010 or the Company’s receipt of at least $2.0 million of capital
from the sale of its securities.  Based upon the terms of the proposed
settlement agreement, the Company believes that the amounts accrued for rent and
the deferred rent liability is adequate to satisfy the contemplated settlement
obligation of $170,000.  Accordingly, no additional liability has been
accrued for as of April 30, 2010 .
 
 We do not have any purchase obligations,
capital lease obligations or any material commitments for capital expenditures.
We have not engaged in off-balance sheet financing, commodity contract trading
or significant related party transactions.
  ITEM 3.
              QUANTITATIVE AND QUALITATIVE
      DISCLOSURES ABOUT MARKET
RISK
  We are a smaller reporting company as
defined by Rule 12b-2 of the Securities Exchange Act of 1934, as amended, and
are not required to provide the information under this
item.
  9
  ITEM 4.
              CONTROLS AND
      PROCEDURES
  Disclosure Controls and
Procedures
  We have established disclosure controls
and procedures to ensure that material information relating to our Company is
made known to the officers who certify our financial reports and to other
members of our senior management and our Board of Directors.
  A control system, no matter how well
conceived and operated, can provide only reasonable, not absolute, assurance
that the objectives of the control system are met. Because of the inherent
limitations in all control systems, no evaluation of controls can provide
absolute assurance that all control issues and instances of fraud, if any,
within a company have been detected. Our disclosure controls and procedures are
designed to provide reasonable assurance of achieving our
objectives.
 
 Based upon their evaluation as of April
30, 2010, our Chief Executive Officer and Chief Financial and Accounting Officer
have concluded that our disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) were not
effective as of the end of the fiscal quarter ended April 30,
2010.  In making this evaluation, our Chief Executive Officer and
Chief Financial Officer considered, among other matters, the material weakness
in our internal control over financial reporting described in our Annual Report
on Form 10-K for the fiscal year ended October 31, 2009, as filed with the SEC
on February 5, 2010, as amended.
  Changes in Internal Control Over
Financial Reporting
  There have been no significant changes
in our internal controls over financial reporting during the quarter ended April
30, 2010 that have altered our conclusion as to the ineffectiveness of such
controls.
  10
  PART II. OTHER
INFORMATION
  ITEM 1.
              LEGAL
      PROCEEDINGS
  On May 22, 2009, we entered into a
Stipulation/Consent Order with CRP, referred to as the “Stipulation,” pursuant
to an Affidavit and Statement of Account, referred to as the “Affidavit,”
stating, as declared by a general manager of Jones Lang LaSalle, a property
management company and agent for CRP Holdings A-1, LLC, referred to as “CRP,”
the landlord of 14040 Park Center Road, Suite 210, Herndon, Virginia 20171,
referred to as the “Premises,” that CRP, as landlord, was seeking a judgment
against us for: (i) possession of the Premises, and (ii) monetary damages for
nonpayment of rent due under a sublease, referred to as the “Sublease,” dated
September 28, 2004, by and between us and NEC America, Inc., referred to as
“NEC,” and a subsequent assignment of the Sublease to CRP from NEC, dated
December 15, 2008.  In the Stipulation we acknowledged that the
balance due for rent and additional rent for the Premises was $168,637.96,
together with attorney’s fees and court expenses of $7,041.00 through May 22,
2009, referred to as the “Judgment Amount.”  Pursuant to the
Stipulation, we paid $30,000, referred to as the “Forbearance Payment,” on May
22, 2009 toward the Judgment Amount.  Further we agreed to, and have,
vacated the Premises.  CRP agreed to stay enforcement of the Judgment
Amount until the earlier of (a) our receipt of capital in the amount of at least
$500,000, or (b) May 31, 2010.  The matter was returned to the court’s
files pending our compliance with the terms of the
Stipulation.
  There are routine legal claims pending
against us that occur in the ordinary course of business, but in the opinion of
management, liabilities, if any, arising from such claims will not have a
material adverse effect on the financial condition and results of operation of
the Company.
  Other than the items previously
disclosed we are not a party to any other material legal
proceedings.
  ITEM 1A.
              RISK
  FACTORS
  Not applicable.
  ITEM 2.
              UNREGISTERED SALES OF EQUITY
      SECURITIES AND USE OF
PROCEEDS
 
 Not applicable.
  ITEM 3.
              DEFAULTS UPON SENIOR
      SECURITIES
  Not applicable.
  ITEM 4.
              REMOVED AND
      RESERVED
  Not applicable.
  ITEM 5.
              OTHER
      INFORMATION
  Not applicable.
  ITEM 6.
              EXHIBITS
  Exhibit
31.1
                
                Certification of Chief Executive
      Officer and President Pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002.Exhibit
31.2
                
                Certification of Chief Financial
      Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002.Exhibit
32.1
                
                Certification Pursuant to 18
      U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes –
      Oxley Act of 2002.Exhibit
32.2
                
                Certification Pursuant to 18
      U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes –
      Oxley Act of 2002.
  11
  SIGNATURES
  Pursuant to the requirements of the
Securities Exchange Act of 1934, as amended, the registrant has duly caused this
report to be signed on its behalf by the undersigned thereunto duly
authorized.
  June21,2010
                STEELCLOUD,
      INC.By:
                /s/ Brian H.
      HajostName: Brian H.
      HajostTitle: Chief Executive Officer and
      PresidentBy:
                /s/ Steven
      SnyderName: Steven
      SnyderTitle: Chief Financial Officer,
      Principal Accounting Officer and
  Controller
  12