UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-Q




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




For
the quarterly period ended September 30, 2010




OR




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




Commission
File Number 000-21825




SMF
ENERGY CORPORATION


(Exact
name of registrant as specified in its charter)




Delaware
              
              65-0707824(State
      of Incorporation)
              
              (IRS
      Employer Identification
                Number)





200
      West Cypress Creek Road, Suite 400, Fort Lauderdale,
      Florida
              
              33309(Address
      of principal executive offices)
              
              (Zip
      Code)





(954)
308-4200


(Registrant’s
telephone number, including area code)




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.     Yes x     No
 ̈





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or 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 definitions of “large
accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule
12b-2 of the Exchange Act.





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





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





As of
November 10, 2010 there were 8,527,336 shares of the registrant’s common stock
outstanding.





SMF
ENERGY CORPORATION




FORM
10-Q




INDEX




Form 10-Q Part and Item No.Part
      I
                  Financial
      Information:Item
      1.
                  Condensed
      Unaudited Consolidated Financial StatementsCondensed
      Consolidated Balance Sheets as of September 30, 2010 (unaudited) and June
      30, 2010
                  3Condensed
      Unaudited Consolidated Statements of Operations for the three-months ended
      September 30, 2010 and 2009
                  4Condensed
      Unaudited Consolidated Statements of Cash Flows for the three-months ended
      September 30, 2010 and 2009
                  5Notes
      to Condensed Unaudited Consolidated Financial Statements
                  7Item
      2.
                  Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                  16Item
      3.
                  Quantitative
      and Qualitative Disclosures About Market Risk
                  28Item
      4.
                  Controls
      and Procedures
                  29Part
      II
                  Other
      Information:Item
      1.
                  Legal
      Proceedings
                  30Item
      1A.
                  Risk
      Factors
                  30Item
      2.
                  Unregistered
      Sales of Equity Securities and Use of Proceeds
                  30Item
      3.
                  Defaults
      Upon Senior Securities
                  30Item
      4.
                  Removed
      and Reserved
                  30Item
      5.
                  Other
      Information
                  31Item
      6.
                  Exhibits
                  31Signatures
                  32Certifications


2





SMF
ENERGY CORPORATION AND SUBSIDIARIES




CONDENSED
CONSOLIDATED BALANCE SHEETS




(in
000’s, except share and per share data)





September30,2010
                                    
                                    
                                    June30,2010(Unaudited)ASSETSCurrent
      assets:Cash
      and cash equivalents
                                    
                                    $
                                    77
                                    
                                    
                                    $
                                    115Accounts
      receivable, net of allowances of $970 and $1,025
                                    
                                    
                                    16,176
                                    
                                    
                                    
                                    17,530Inventories,
      net of reserves of $89 and $98
                                    
                                    
                                    2,051
                                    
                                    
                                    
                                    1,744Prepaid
      expenses and other current assets
                                    
                                    
                                    359
                                    
                                    
                                    
                                    644Total
      current assets
                                    
                                    
                                    18,663
                                    
                                    
                                    
                                    20,033Property
      and equipment, net of accumulateddepreciation
      of $17,441 and $16,947
                                    
                                    
                                    6,862
                                    
                                    
                                    
                                    7,226Identifiable
      intangible assets, net of accumulatedamortization
      of $1,880 and $1,790
                                    
                                    
                                    1,573
                                    
                                    
                                    
                                    1,662Goodwill
                                    
                                    
                                    228
                                    
                                    
                                    
                                    228Deferred
      debt costs, net of accumulated amortization of $209 and
    $169
                                    
                                    
                                    315
                                    
                                    
                                    
                                    355Other
      assets
                                    
                                    
                                    74
                                    
                                    
                                    
                                    74Total
      assets
                                    
                                    $
                                    27,715
                                    
                                    
                                    $
                                    29,578LIABILITIES
      AND SHAREHOLDERS’ EQUITYCurrent
      liabilities:Line
      of credit payable
                                    
                                    $
                                    5,742
                                    
                                    
                                    $
                                    6,896Current
      portion of term loan
                                    
                                    
                                    1,000
                                    
                                    
                                    
                                    1,000Accounts
      payable
                                    
                                    
                                    6,358
                                    
                                    
                                    
                                    7,301Accrued
      expenses and other liabilities
                                    
                                    
                                    3,583
                                    
                                    
                                    
                                    3,191Total
      current liabilities
                                    
                                    
                                    16,683
                                    
                                    
                                    
                                    18,388Long-term
      liabilities:Term
      loan, net of current portion
                                    
                                    
                                    2,833
                                    
                                    
                                    
                                    3,083Promissory
      notes
                                    
                                    
                                    800
                                    
                                    
                                    
                                    800Other
      long-term liabilities
                                    
                                    
                                    247
                                    
                                    
                                    
                                    251Total
      liabilities
                                    
                                    
                                    20,563
                                    
                                    
                                    
                                    22,522ContingenciesShareholders’
      equity:Preferred
      stock, $0.01 par value; 10,000 Series A sharesauthorized,
      0 issued and outstanding
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Preferred
      stock, $0.01 par value; 2,000 Series B sharesauthorized,
      0 issued and outstanding
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Preferred
      stock, $0.01 par value; 2,000 Series C sharesauthorized,
      0 issued and outstanding
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Preferred
      stock, $0.01 par value; 5,000 Series D sharesauthorized,
      599 issued and outstanding
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Common
      stock, $0.01 par value; 50,000,000 shares authorized;8,594,814
      issued and 8,565,667 outstanding and 8,557,314 issued and outstanding,
      respectively
                                    
                                    
                                    86
                                    
                                    
                                    
                                    86Treasury
      stock (at cost) 29,147 and 0, respectively
                                    
                                    
                                    (39
                                    )
                                    
                                    
                                    -Additional
      paid-in capital
                                    
                                    
                                    36,678
                                    
                                    
                                    
                                    36,657Accumulated
      deficit
                                    
                                    
                                    (29,573
                                    )
                                    
                                    
                                    (29,687
                                    )Total
      shareholders’ equity
                                    
                                    
                                    7,152
                                    
                                    
                                    
                                    7,056Total
      liabilities and shareholders’ equity
                                    
                                    $
                                    27,715
                                    
                                    
                                    $
                                    29,578




The accompanying notes to the condensed
unaudited financial statements are an integral part of these condensed
consolidated balance sheets.


3




SMF
ENERGY CORPORATION AND SUBSIDIARIES




CONDENSED
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS




(in
000’s, except per share data)





Three Months Ended September 30,2010
                    
                    
                    2009Petroleum
      product sales and service revenues
                    
                    $
                    45,057
                    
                    
                    $
                    38,125Petroleum
      product taxes
                    
                    
                    6,004
                    
                    
                    
                    5,561Total
      revenues
                    
                    
                    51,061
                    
                    
                    
                    43,686Cost
      of petroleum product sales and service
                    
                    
                    41,219
                    
                    
                    
                    34,028Petroleum
      product taxes
                    
                    
                    6,004
                    
                    
                    
                    5,561Total
      cost of sales
                    
                    
                    47,223
                    
                    
                    
                    39,589Gross
      profit
                    
                    
                    3,838
                    
                    
                    
                    4,097Selling,
      general and administrative expenses
                    
                    
                    3,492
                    
                    
                    
                    3,839Operating
      income
                    
                    
                    346
                    
                    
                    
                    258Interest
      expense
                    
                    
                    (223
                    )
                    
                    
                    (230
                    )Interest
      and other income
                    
                    
                    2
                    
                    
                    
                    -Income
      before income taxes
                    
                    
                    125
                    
                    
                    
                    28Income
      tax expense
                    
                    
                    (11
                    )
                    
                    
                    (8
                    )Net
      income
                    
                    $
                    114
                    
                    
                    $
                    20Basic
      and diluted net income per share computation:Net
      income per share attributable to common shareholders:Basic
                    
                    $
                    0.01
                    
                    
                    $
                    0.00Diluted
                    
                    $
                    0.01
                    
                    
                    $
                    0.00Weighted
      average common shares outstanding:Basic
                    
                    
                    8,549
                    
                    
                    
                    8,248Diluted
                    
                    
                    8,683
                    
                    
                    
                    8,681




The
accompanying notes to the condensed unaudited financial statements are an
integral part of these condensed unaudited consolidated statements of
operations.


4




SMF
ENERGY CORPORATION AND SUBSIDIARIES




CONDENSED
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS




(in
000’s)





Three Months Ended September 30,2010
                  
                  
                  2009CASH
      FLOWS FROM OPERATING ACTIVITIES:Net
      income
                  
                  $
                  114
                  
                  
                  $
                  20Adjustments
      to reconcile net income to net cash provided byoperating
      activities:Depreciation
      and amortization:Cost
      of sales
                  
                  
                  266
                  
                  
                  
                  236Selling,
      general and administrative
                  
                  
                  318
                  
                  
                  
                  320Amortization
      of deferred debt costs
                  
                  
                  40
                  
                  
                  
                  42Amortization
      of stock-based compensation
                  
                  
                  21
                  
                  
                  
                  133Write-off
      of unamortized acquisition costs
                  
                  
                  -
                  
                  
                  
                  187Inventory
      reserve provision (recovery)
                  
                  
                  (9
                  )
                  
                  
                  7Provision
      for doubtful accounts
                  
                  
                  (5
                  )
                  
                  
                  25Changes
      in operating assets and liabilities:Decrease
      in accounts receivable
                  
                  
                  1,359
                  
                  
                  
                  792Increase
      in inventories, prepaid expenses and other assets
                  
                  
                  (14
                  )
                  
                  
                  (65
                  )Decrease
      in accounts payable and other liabilities
                  
                  
                  (573
                  )
                  
                  
                  (930
                  )Net
      cash provided by operating activities
                  
                  
                  1,517
                  
                  
                  
                  767CASH
      FLOWS FROM INVESTING ACTIVITIES:Purchases
      of property and equipment
                  
                  
                  (86
                  )
                  
                  
                  (42
                  )Net
      cash used in investing activities
                  
                  
                  (86
                  )
                  
                  
                  (42
                  )CASH
      FLOWS FROM FINANCING ACTIVITIES:Proceeds
      from line of credit
                  
                  
                  53,472
                  
                  
                  
                  45,916Repayments
      of line of credit
                  
                  
                  (54,626
                  )
                  
                  
                  (46,320
                  )Principal
      payments on term loan
                  
                  
                  (250
                  )
                  
                  
                  (167
                  )Repurchase
      of common stock
                  
                  
                  (39
                  )
                  
                  
                  -Payment
      of preferred stock dividends
                  
                  
                  (13
                  )
                  
                  
                  -Capital
      lease payments
                  
                  
                  (13
                  )
                  
                  
                  (17
                  )Net
      cash used in financing activities
                  
                  
                  (1,469
                  )
                  
                  
                  (588
                  )NET
      (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS
                  
                  
                  (38
                  )
                  
                  
                  137CASH
      AND CASH EQUIVALENTS, beginning of period
                  
                  
                  115
                  
                  
                  
                  123CASH
      AND CASH EQUIVALENTS, end of period
                  
                  $
                  77
                  
                  
                  $
                  260





(Continued)


5




SMF
ENERGY CORPORATION AND SUBSIDIARIES




CONDENSED
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS




(in
000’s)





(Continued)
                    
                    Three Months Ended September 30,2010
                    
                    
                    2009SUPPLEMENTAL
      DISCLOSURE OF CASH FLOW INFORMATION:Cash
      paid for interest
                    
                    $
                    220
                    
                    
                    $
                    176Cash
      paid for income tax
                    
                    $
                    40
                    
                    
                    $
                    -SUPPLEMENTAL
      DISCLOSURE OF NON-CASH ACTIVITIES:Capital
      leases
                    
                    $
                    45
                    
                    
                    $
                    22




The
accompanying notes to the condensed unaudited financial statements are an
integral part of these condensed unaudited consolidated statements of cash
flows.


6




SMF
ENERGY CORPORATION AND SUBSIDIARIES




NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS





1.
              NATURE OF
      OPERATIONS





SMF
Energy Corporation (the “Company”) provides petroleum product distribution
services, transportation logistics and emergency response services to the
trucking, manufacturing, construction, shipping, utility, energy, chemical,
telecommunications, and government services industries.  The Company
generates its revenues from commercial mobile and bulk fueling; the packaging,
distribution and sale of lubricants; integrated out-sourced fuel management;
transportation logistics, and emergency response services.  The
Company’s fleet of custom specialized tank wagons, tractor-trailer transports,
box trucks and customized flatbed vehicles delivers diesel fuel and gasoline to
customers’ locations on a regularly scheduled or as needed basis, refueling
vehicles and equipment, re-supplying fixed-site and temporary bulk storage
tanks, and emergency power generation systems; and distributes a wide variety of
specialized petroleum products, lubricants and chemicals to its
customers.




The
Company is a Delaware corporation formed in 2006.  In December 2006,
the shareholders of Streicher Mobile Fueling, Inc. (“Streicher”), a Florida
corporation formed in 1996, approved changing Streicher’s name to SMF Energy
Corporation and the reincorporation of Streicher in Delaware by merger into the
Company.  The merger was effective February 14, 2007.





At
September 30, 2010, the Company was conducting operations through 34 service
locations in the eleven states of Alabama, California, Florida, Georgia,
Louisiana, Mississippi, Nevada, North Carolina, South Carolina, Tennessee and
Texas.




2.
            CONDENSED
      SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES





Basis of
Presentation-
The condensed unaudited consolidated financial statements include the accounts
of SMF Energy Corporation and its wholly owned subsidiaries, SMF Services, Inc.,
H & W Petroleum Company, Inc., and Streicher Realty, Inc.  All
significant intercompany balances and transactions have been eliminated in
consolidation.





The
condensed unaudited consolidated financial statements included herein have been
prepared in accordance with the instructions to Form 10-Q, and do not include
all the information and footnotes required by generally accepted accounting
principles; however, they do include all adjustments of a normal recurring
nature that, in the opinion of management, are necessary to present fairly the
financial position and results of operations of the Company as of and for the
interim periods presented.





Operating
results for the three months ended September 30, 2010 are not necessarily
indicative of the results that may be expected for any subsequent period or the
fiscal year ending June 30, 2011.  These interim financial statements
should be read in conjunction with the Company’s audited consolidated financial
statements and related notes included in the Company’s Annual Report on Form
10-K for the year ended June 30, 2010, as filed with the United States
Securities and Exchange Commission (the “2010 Form 10-K”).





Fair
Value of Financial Instruments




The
Company carries certain of its assets and liabilities at fair value, measured on
a recurring basis, in the accompanying consolidated balance
sheets.  In fiscal 2010, the Company adopted ASC 825 Financial Instrumentswhich
establish a fair value hierarchy that prioritizes the inputs to valuation
techniques used to measure fair value into three broad levels which distinguish
between assumptions based on market data (observable inputs) and the Company’s
assumptions (unobservable inputs).  The level in the fair value
hierarchy within which the respective fair value measurement falls is determined
based on the lowest level input that is significant to the measurement in its
entirety.  Level 1 inputs are quoted market prices in active markets
for identical assets or liabilities, Level 2 inputs are other than quotable
market prices included in Level 1 that are observable for the asset or liability
either directly or indirectly through corroboration with observable market
data.  Level 3 inputs are unobservable inputs for the assets or
liabilities that reflect management’s own assumptions about the assumptions
market participants would use in pricing the asset or
liability.


7


SMF
ENERGY CORPORATION AND SUBSIDIARIES
  NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS


3.
            CASH
      AND CASH EQUIVALENTS





During
the first quarter of fiscal 2011, the Company paid down $1.2 million on its line
of credit payable.  Total cash and cash availability was approximately
$3.3 millionand
$4.6 million at September 30, 2010 and June 30, 2010, respectively and was
approximately $4.3 million on November 10, 2010.  Total cash and cash
availability includes cash and cash equivalents as presented in the Company’s
balance sheet and cash available to the Company through its line of credit,
described in Note 5 – Line of Credit Payable.





The
Company considers all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents.  The Company
maintains its cash balances at financial institutions, which at times may exceed
federally insured limits.  The Federal Deposit Insurance Corporation
currently insures balances up to $250,000.  The Company has not
experienced any losses in such bank accounts.




4.
            OUTSTANDING
      SHARES AND NET INCOME PER SHARE




As of
Sempember 30, 2010 there were 8,594,814 issued shares of the Company's common
stock of which 29,147 shares were held in treasury, resulting in 8,565,667
outstanding shares.  Included in the issued and outstanding shares were
31,500 shares of restricted shares which were issued on September 23,
2010.  The weighted average common shares used to calculate basic
earnings per share does not include the restricted shares.  The
restricted shares are evaluated under the treasury method for their dilutive
effect.   Basic net income per share is computed by dividing the
net income attributable to common shareholders by the weighted average number of
common shares outstanding during the period.




Diluted
earnings per share is computed by dividing net earnings attributable to common
shareholders by the weighted-average number of common shares outstanding,
increased to include the number of additional common shares that would have been
outstanding if the dilutive potential common shares had been
issued.  Conversion or exercise of the potential common shares is not
reflected in diluted earnings per share unless the effect is
dilutive.  The dilutive effect, if any, of outstanding common share
equivalents is reflected in diluted earnings per share by application of the
if-converted and the treasury stock method, as applicable.  In
determining whether outstanding stock options, restricted stock, and common
stock warrants should be considered for their dilutive effect, the average
market price of the common stock for the period has to exceed the exercise price
of the outstanding common share equivalent.




Diluted
net income per share for the three months ended September 30, 2010 and 2009, was
diluted by additional common stock equivalents as follows (in
thousands):




For the Three Months ended,September 30, 2010
                            
                            
                            September 30, 2009Incremental
      shares due to stock optionsawarded
      to employees and directors
                            
                            
                            1
                            
                            
                            
                            2Incremental
      shares due to preferred stockconversion
      rights
                            
                            
                            133
                            
                            
                            
                            431Total
      dilutive shares
                            
                            
                            134
                            
                            
                            
                            433




8


SMF
ENERGY CORPORATION AND SUBSIDIARIES
  NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS


Anti-dilutive
common stock equivalents outstanding and not included in the computation of
diluted net income per common share consisted of (in thousands):




For the Three Months ended,September 30, 2010
                    
                    
                    September 30, 2009Stock
      options
                    
                    
                    413
                    
                    
                    
                    410Common
      stock warrants
                    
                    
                    141
                    
                    
                    
                    141Promissory
      note conversion rights
                    
                    
                    89
                    
                    
                    
                    89Restricted
      shares
                    
                    
                    32
                    
                    
                    
                    -Total
      common stock equivalents outstanding
                    
                    
                    675
                    
                    
                    
                    640




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





For the Three Months ended,September 30, 2010
                            
                            
                            September 30, 2009Weighted
                            
                            
                            
                            
                            
                            
                            
                            
                            WeightedAverage
                            
                            
                            
                            
                            
                            
                            
                            
                            AverageCommon
                            
                            
                            Per Share
                            
                            
                            
                            
                            
                            Common
                            
                            
                            Per ShareEarnings
                            
                            
                            Shares
                            
                            
                            Amount
                            
                            
                            Earnings
                            
                            
                            Shares
                            
                            
                            AmountBasic
      net income per share attributableto
      common shareholders
                            
                            $
                            114
                            
                            
                            
                            8,549
                            
                            
                            $
                            0.01
                            
                            
                            $
                            20
                            
                            
                            
                            8,248
                            
                            
                            $
                            0.00Effect
      of dilutive securities:Stock
      options
                            
                            
                            -
                            
                            
                            
                            1
                            
                            
                            
                            
                            
                            
                            
                            -
                            
                            
                            
                            2Preferred
      stock conversion rights
                            
                            
                            -
                            
                            
                            
                            133
                            
                            
                            
                            
                            
                            
                            
                            -
                            
                            
                            
                            431Diluted
      net income per share attributableto
      common shareholders
                            
                            $
                            114
                            
                            
                            
                            8,683
                            
                            
                            $
                            0.01
                            
                            
                            $
                            20
                            
                            
                            
                            8,681
                            
                            
                            $
                            0.00




5.
            LINE OF CREDIT
      PAYABLE





The Company has a $25.0 million loan
facility, comprised of a three year $20.0 million asset based lending revolving
line of credit coupled with a $5.0 million, 60 month, fully amortized term
loan.  The Company’s $20.0 million line of credit has a maturity date
of July 1, 2012 and permits the Company to borrow up to 85% of the total amount
of eligible accounts receivable and 65% of eligible inventory, both as
defined.  Outstanding stand-by letters of credit reduce the maximum
amount available for borrowing.  Outstanding borrowings under the loan
facility are secured by substantially all Company assets.





Interest is payable monthly based on a
LIBOR rate and a pricing matrix.  At September 30, 2010, the interest
rate for the line of credit was 4.00%.  This rate was priced using a
minimum LIBOR floor of 0.75%, plus the applicable margin of
3.25%.  The applicable margin is determined quarterly based on a
predetermined fixed charge coverage ratio pricing matrix with the applicable
margins ranging from 3.00% to 3.75%.


9




SMF
ENERGY CORPORATION AND SUBSIDIARIES




NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS




As of
September 30, 2010 and June 30, 2010, the Company had outstanding borrowings of
$5.7 million and $6.9 million, respectively, under its line of credit which does
not include stand-by letters of credit which reduces the
availability.  The line of credit is classified as a current liability
in accordance with ASC 470, Debt. Based on eligible receivables and
inventories, and reduction from letters of credit outstanding at September 30,
2010 and June 30, 2010, the Company had $3.2 million and $4.6 million of cash
availability under the line of credit, respectively.





The
Company’s line of credit provides for certain affirmative and negative covenants
that may limit the total availability based upon the Company’s ability to meet
these covenants.  At September 30, 2010, the financial covenants
included a minimum daily availability of $250,000, a fixed charge coverage ratio
of 1.1 to 1.0, and a capital expenditure limitation for fiscal year 2011 of
$750,000.  At September 30, 2010 and June 30, 2010, the Company had a
sublimit of $1.75 million, on both dates, for which letters of credit could be
issued.  At September 30, 2010 and June 30, 2010, $1.5 million had
been issued in letters of credit, for both periods.   On October
14, 2010, the Company reduced its issued letters of credit to $1.150
million.





The Company’s loan agreement for the
line of credit and the Term Loan requires the Company to obtain the consent of
the lender prior to incurring additional debt, paying any cash dividends or
distributions, or entering into mergers, consolidations or sales of assets
outside the ordinary course of business.  Failure to comply with one
or more of the covenants in the future could affect the amount the Company can
borrow and thereby adversely affect the Company’s liquidity and financial
condition.  At September 30, 2010, the Company was in compliance with
its covenants under the loan facility agreement.




6.
            LONG-TERM
      DEBT (INCLUDES TERM LOAN AND PROMISSORY
NOTES)





Long-term
debt consists of the following (in thousands):





As ofSeptember 30, 2010
                
                
                June 30, 2010June
      2009 term loan (the “Term Loan”), fully
      amortized, 60 monthly principal payments of approximately $83,333
      commencing on August 1, 2009; variable interest due monthly, 4.75% at
      September 30, 2010; secured by substantially all Company
      assets.  For additional details, see below.
                
                $
                3,833
                
                
                $
                4,083June
      2009 unsecured convertible subordinated promissory note (the “June 2009
      Note”) (5.5% interest due semi-annually, January 15 and July 15, beginning
      January 15, 2011; interest accrued for the first 13 months was deferred
      and paid on August 12, 2010); matures July 1, 2014 in its
      entirety.  For additional details, see below.
                
                
                800
                
                
                
                800Total
      long-term debt
                
                
                4,633
                
                
                
                4,883Less:
      current portion (Term Loan)
                
                
                (1,000
                )
                
                
                (1,000
                )Long-term
      debt, net
                
                $
                3,633
                
                
                $
                3,883





On June 29, 2009, as a result of the
Recapitalization, the Company restructured all of its debt and
equity.  In connection therewith, the Company and its principal
lender, Wachovia Bank, N.A. (the “Bank”), amended the Company’s existing $25.0
million loan agreement to provide for a $25.0 million loan facility, which
included $5.0 million fully amortized 60 month term loan (the “Term
Loan”).  The proceeds of the Term Loan were used to pay down $4.867
million of the August 2007 Notes and $125,000 of the September 2008
Notes.  The interest on the Term Loan is payable monthly and the
interest rate is based on a pricing matrix with margins of 3.75% to 4.50% over
the LIBOR lending rate determined by the Company meeting certain EBITDA to fixed
charge coverage ratios, as defined.  At September 30, 2010, the
interest rate was 4.75%.


10


SMF
ENERGY CORPORATION AND SUBSIDIARIES
  NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS


Also in connection with the
Recapitalization, the Company extinguished $800,000 of the August 2007 Notes
through the issuance of a 5.5% interest only, unsecured convertible subordinated
promissory note in the principal amount of $800,000 (the “June 2009
Note”).  The June 2009 Note is subordinated to all other existing debt
of the Company, including any amounts owed now or in the future to our principal
lender.  The holder of the June 2009 Note entered into a debt
subordination agreement (the “Subordination Agreement”) with the Company and our
principal lender, whereby it expressly subordinated its rights under the June
2009 Note to our principal lender.





The
principal balance of the June 2009 Note is due at maturity on July 1,
2014.  Subject to the limitations in the Subordination
Agreement, interest will be paid semi-annually, except that the interest payment
for the first thirteen months was paid on August 12,
2010.  Thereafter, starting January 15, 2011, semi-annual
interest payments will be scheduled on or about each January 15th and July
15th.  The amounts due under the June 2009 Note will become due and
payable upon the occurrence of customary events of default, provided,
however, that the deferral of any payment in accordance with the Subordination
Agreement will not constitute an event of default.  If permitted under
the Subordination Agreement, the Company may pre-pay the June 2009 Note, in
whole or in part, without prepayment penalty or premium.





Twenty-five percent (25%) of the
original principal amount of the June 2009 Note, or $200,000, may be converted
into shares of the Company’s Common Stock at $2.25 per share (the “Conversion
Price”) at the option of the noteholder.  The Conversion Price has
been adjusted as a result of the October 1, 2009, reverse stock
split.  The number and kind of securities purchasable upon conversion
and the Conversion Price remain subject to additional adjustments for stock
dividends, stock splits and other similar events.


11




SMF
ENERGY CORPORATION AND SUBSIDIARIES




NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS




7.
            SHAREHOLDERS’
      EQUITY





The following reflects the change in
shareholders’ equity for the three months ended September 30, 2010 (in
thousands, except share data):





Preferred Stock
                                                
                                                
                                                Preferred Stock
                                                
                                                
                                                Preferred Stock
                                                
                                                
                                                Preferred Stock
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                AdditionalSeries A
                                                
                                                
                                                Series B
                                                
                                                
                                                Series C
                                                
                                                
                                                Series D
                                                
                                                
                                                Common Stock
                                                
                                                
                                                Paid-In
                                                
                                                
                                                Accumulated
                                                
                                                
                                                TreasuryShares
                                                
                                                
                                                Amount
                                                
                                                
                                                Shares
                                                
                                                
                                                Amount
                                                
                                                
                                                Shares
                                                
                                                
                                                Amount
                                                
                                                
                                                Shares
                                                
                                                
                                                Amount
                                                
                                                
                                                Shares
                                                
                                                
                                                Amount
                                                
                                                
                                                Capital
                                                
                                                
                                                Deficit
                                                
                                                
                                                Stock
                                                
                                                
                                                TotalBalance
      at June 30, 2010
                                                
                                                
                                                -
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                599
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                8,557,314
                                                
                                                
                                                $
                                                86
                                                
                                                
                                                $
                                                36,657
                                                
                                                
                                                $
                                                (29,687
                                                )
                                                
                                                $
                                                -
                                                
                                                
                                                $
                                                7,056Net
      income
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                114
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                114Repurchase
      of common stock
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                (39
                                                )
                                                
                                                
                                                (39
                                                )Issuance
      of vested restricted shares
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                6,000
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                8
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                8Issuance
      of unvested restricted shares
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                31,500
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -Stock-based
      compensationamortization
      expense
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                13
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                
                                                13Balance
      at September 30, 2010
                                                
                                                
                                                -
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                -
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                599
                                                
                                                
                                                $
                                                -
                                                
                                                
                                                
                                                8,594,814
                                                
                                                
                                                $
                                                86
                                                
                                                
                                                $
                                                36,678
                                                
                                                
                                                $
                                                (29,573
                                                )
                                                
                                                $
                                                (39
                                                )
                                                
                                                $
                                                7,152


12




SMF
ENERGY CORPORATION AND SUBSIDIARIES




NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS




Repurchase
Program





On July 28, 2010, the Board of
Directors of the Company approved a share repurchase program (the “Program”)
under which the Company may elect to purchase up to five percent of its
outstanding capital stock, or approximately 435,000 shares of common stock or
common stock equivalents, with available cash to the extent permitted by its
revolving line of credit with its principal lender.





On July
1, 2010, the lender had approved such repurchases, conditioned upon the
Company’s maintenance of (i) a ratio of EBITDA to Fixed Charges of 1.3 to 1.0,
based on the most recent twelve month period for which financial statements have
been provided to the Lender, after giving pro forma effect to any repurchases;
and (ii) Excess Availability of at least $2.25 million (A) immediately after
making any repurchase and (B) for the ninety (90) days preceding any
repurchase.  Subject to these conditions, the Lender approved a total
of $840,000 in capital stock repurchases by the Company under the Program,
including up to $200,000 in any one fiscal quarter.





During
the first quarter of fiscal 2011, the Company purchased an aggregate of 29,147
shares of the Company’s common stock for an aggregate amount of approximately
$39,000 at an average cost of $1.29 per share.  These shares and their
corresponding cost is reflected as Treasury Stock in the Shareholders’ Equity
section of the Balance Sheet. During the second quarter of fiscal 2011, the
Company has continued making purchases of its common stock.





Shared-Based
Compensation




The
Company currently has the authority to grant stock options to employees and
others under its 2009 Equity Incentive Plan which currently has 2,004 options
outstanding.  The Company no longer grants stock options under its
2000 Employee Stock Option Plan (“2000 Plan”) but stock options to purchase
325,573 shares of Common Stock remain outstanding under the 2000
Plan.  Options granted under the 2000 Plan generally vest over three
years of continuous service and expire no later than ten years from the date of
grant.  As of September 30, 2010, 311,394 of the 325,573 options that
remain outstanding under the 2000 Plan are vested and exercisable.




The
Company also no longer grants any stock options under its Directors Stock
Options Plan but stock options to purchase 85,777 shares of Common Stock remain
outstanding under the Directors Plan.  All outstanding stock options
under the Directors Plan are fully vested and presently
exercisable.




In
September 2009, the exercise prices of all outstanding employee stock options
previously granted under the 2000 Plan were amended by the Compensation
Committee of the Company’s Board of Directors to have an exercise price of $2.48
per share (the “Amendments”), which  was $0.77 above the $1.71
official closing price on the Nasdaq Capital Market on the last trading day
before the Amendments.  The Amendments did not change the vesting
schedules or any of the other terms of the respective stock
options.  As a result of the repricing of the options effected by the
Amendments, the Company incurred a non-cash charge of $93,000 to stock-based
compensation amortization expense during the first quarter of fiscal year 2010
and an additional $5,000 which is being amortized over the remaining vesting
period of the related options.  The Amendments affected 31 employees
holding 327,614 stock options on June 30, 2009.





In
September 2010, the Company issued 6,000 shares of restricted and fully vested
shares to each of the six non-employee members of the Board of Directors under
the Company’s 2009 Equity Incentive Plan.  These shares were valued at
$1.40 per share, the market closing price on the last trading day prior to their
issuance.  Also in September 2010, the Company issued 31,500 shares of
unvested restricted stock to the Company’s Chairman, Chief Executive Officer and
President, which were valued at $1.31 per share, the market closing price on the
last trading day prior to their issuance.  These shares will vest when
the Chief Executive Officer’s 111,113 stock options expire on December 21, 2010,
and their cost is being recognized ratably as stock-based compensation expense
over their vesting period.





During
the three months ended September 30, 2010, and September 30, 2009, the Company
recorded amortization of share-based compensation expense related to the stock
option plans and the restricted shares for an aggregate of $21,000 and $133,000,
respectively.


13


SMF
ENERGY CORPORATION AND SUBSIDIARIES
  NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS


8.
            CONTINGENCIES





The
Company and its subsidiaries are from time to time parties to legal proceedings,
lawsuits and other claims incident to their business activities.  Such
matters may include, among other things, assertions of contract breach, claims
for indemnity arising in the course of the business and claims by persons whose
employment with us has been terminated.  Such matters are subject to
many uncertainties, and outcomes are not predictable with
assurance.  Consequently, management is unable to ascertain the
ultimate aggregate amount of monetary liability, amounts which may be covered by
insurance or recoverable from third parties, or the financial impact with
respect to these matters as of September 30, 2010.  Therefore no
contingency gains or losses have been recorded as of September 30,
2010.




On May
26, 2009, the Company filed a Demand for Arbitration with the American
Arbitration Association in Broward County, Florida, under which the Company
brought claims against various members of the Harkrider family arising out of
the Company’s October 1, 2005 purchase of H & W Petroleum Company, Inc. (“H
& W”) from the Harkrider family and H & W’s purchase of certain assets
of Harkrider Distributing Company, Inc. (“HDC”) immediately prior to the
Company’s purchase of H & W.  In that action, Case No. 32 198 Y
00415 09 (the “Arbitration”), the Company and H & W, which is now the
Company’s wholly owned subsidiary, sought damages for breaches of, and
indemnification under, the October 1, 2005, Stock Purchase Agreement between
various Harkrider family members and the Company and under the September 29,
2005, Asset Purchase Agreement between HDC and various members of the Harkrider
family, on the one hand, and H & W on the other, along with various other
claims arising from the transaction.  Also on May 26, 2009, H & W
filed a second action against various members of the Harkrider family in the
District Court in Harris County, Texas, Civil Action No. 2009-32909 (the “Harris
County Action”), seeking damages and declaratory relief for various breaches of
H & W’s lease of its Houston, Texas facility by H & W’s landlord, the
Harkrider Family Partnership, and other related claims.  On June 24,
2009, the parties to the Arbitration and the Harris County Action agreed that
all of the claims brought in the Arbitration would be dismissed and all of those
claims would be added to the Harris County Action.  On June 29, 2009,
in accordance with the stipulation of the parties to consolidate the Arbitration
with the Harris County Action, the American Arbitration Association closed the
Arbitration.  The Harris County Action is currently in the discovery
phase but the case is inactive, since the parties have entered into a standstill
agreement while they engage in settlement discussions.




9.
            RECENT
      ACCOUNTING PRONOUNCEMENTS




Accounting for
Transfers of Financial Assets


(Included in ASC 860 “Transfers and
Servicing”, previously FAS No. 166, “Accounting for Transfers of Financial
Assets, an amendment to FAS No. 140”)





In
June 2009, the FASB issued FAS Statement No. 166, “Accounting for Transfers of
Financial Assets, an amendment to FAS No. 140” (“FAS No.
166”).  FAS No. 166 eliminates the concept of a qualifying
special-purpose entity, changes the requirements for derecognizing financial
assets including limiting the circumstances in which a company can derecognize a
portion of a financial asset, and requires additional
disclosures.  FAS No. 166 is effective for financial statements issued
for fiscal years beginning after November 15, 2009, and interim periods within
those fiscal years.  The Company’s adoption of this standard in the first
quarter of fiscal 2011 had no impact on the Company’s consolidated financial
condition, results of operations or cash flows.


14


SMF
ENERGY CORPORATION AND SUBSIDIARIES
  NOTES
TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS


Fair
Value Measurement and Disclosures Topic 820 – Improving Disclosures about Fair
Value Measurements





In
January 2010, the FASB issued the FASB Accounting Standards Update No. 2010-06
“Fair Value Measurement and
Disclosures Topic 820 – Improving Disclosures about Fair Value Measurements”
(“ASU No. 2010-06”), which provides amendments to subtopic 820-10, Fair
Value Measurements and Disclosures – Overall, for the fair value measurement of
liabilities.  This update provides amendments to Topic 820 that will
provide more robust disclosures about (1) the different classes of assets and
liabilities measured at fair value, (2) the valuation techniques and inputs
used, (3) the activity in Level 3 fair value measurements, and (4) the transfers
between Levels 1, 2, and 3.  The new disclosures and clarification of
existing disclosures are effective for interim and annual reporting periods
beginning after December 15, 2009, except for the disclosures about purchases,
sales, issuances and settlement in the rollforward of activity in Level 3 fair
value measurements.  Those disclosures are effective for fiscal years
beginning after December 15, 2010, and for interim periods within those fiscal
years.  The Company’s adoption of the ASU No. 2010-06 in the first
quarter of fiscal 2011 did not have an impact on the Company’s consolidated
financial position, results of operations or cash flows.


15


ITEM
2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS





Forward Looking
Statements





This report, including but not limited
to this Item 2 and the notes to the condensed consolidated financial statements
in Item 1, contains “forward looking statements” within the meaning of Section
21E of the Securities Exchange Act of 1934, as amended (the “Exchange
Act”).  These statements concern expectations, beliefs, projections,
future plans and strategies, anticipated events or trends and similar
expressions concerning matters that are not historical
facts.  Statements preceded by, followed by, or that include the words
“believes,” “expects,” “anticipates,” or similar expressions are generally
considered to be forward-looking statements.





The
forward-looking statements reflect our current view about future events and are
subject to risks, uncertainties and assumptions.  A number of
important factors may affect our actual results and could cause them to differ
significantly from those expressed in any forward-looking
statement.  In addition to the Risk Factors included in Part I, Item
1A, of the Company’s Annual Report on Form 10-K for the year ended June 30,
2010, as filed with the United States Securities and Exchange Commission, the
inaccuracy of any of the following assumptions could prevent us from achieving
our goals, and cause the assumptions underlying the forward-looking statements
and the actual results to differ materially from those expressed in or implied
by those forward-looking statements:





·
            The
      avoidance of unanticipated net
losses;




·
            The
      avoidance of significant provisions for bad debt reserves on our accounts
      receivable;




·
            The
      continuing demand for our products and services at competitive prices and
      acceptable margins;




·
            The
      avoidance of negative customer reactions to new or existing marketing
      strategies;




·
            The
      avoidance of significant inventory reserves for slow moving
      products;




·
            Our
      continuing ability to acquire sufficient trade credit from fuel and
      lubricants suppliers and other
vendors;




·
            The
      successful execution of our acquisition and diversification strategy,
      including the availability of sufficient capital to acquire additional
      businesses and to support the infrastructure requirements of a larger
      combined company;




·
            Our
      success in responding to competition from other providers of similar
      services; and




·
            Our
      continuing success in minimizing of the negative impact on our operations,
      revenues and profitability from current and future unfavorable economic
      and market conditions.




OUR
BUSINESS





We are a
supplier of specialized transportation and distribution services for petroleum
products and chemicals.  We provide commercial mobile and bulk
fueling, lubricant and chemical distribution, emergency response services and
transportation logistics to the trucking, manufacturing,
construction, shipping, utility, energy, chemical, telecommunications and
government services industries.At September 30, 2010, the
Company was conducting operations through 34 service locations in the eleven
states of Alabama, California, Florida, Georgia, Louisiana, Mississippi, Nevada,
North Carolina, South Carolina, Tennessee and Texas.


16





We
provide commercial mobile and bulk fueling, integrated out-sourced fuel
management, packaging, distribution and sale of lubricants and chemicals,
transportation logistics, and emergency response services.  Our
specialized equipment fleet distributes diesel fuel and gasoline to customer
locations on a regularly scheduled or as needed basis, refueling vehicles and
equipment, re-supplying bulk storage tanks, and providing fuel for emergency
power generation systems.  Our fleet also handles the movement of
customer equipment and storage tanks we provide for use by our
customers.  We also distribute a wide variety of specialized petroleum
products, lubricants and chemicals to our customers in Texas and in certain
other markets.




We
compete with several large and numerous small distributors, jobbers and other
companies offering services and products in the same markets in which we
operate.  We believe that the industry and these markets offer us
opportunities for consolidation, as customers increasingly demand one-stop
shopping for their petroleum based needs and seek reliable supply distribution
services particularly to prevent business interruptions during
emergencies.  We believe that certain factors, such as our ability to
provide a range of services and petroleum based products and services, create
advantages for us when compared to our competitors.




An
objective of our business strategy is to become the leading “single source”
provider of petroleum products and services in the markets we currently operate
in, as well as expanding into additional contiguous markets.  To
achieve this objective we plan to focus on increasing revenues in our core
operations and in expanding through selective acquisitions.




OVERVIEW





We begin fiscal 2011 with an expected
positive trend of financial performance, achieving during the first quarter of
fiscal 2011, net income of $114,000, operating income of $346,000, and
EBITDA1, a
non-GAAP measure, of $953,000 compared to net income of $20,000, operating
income of $258,000 and EBITDA of $1.1 million a year ago.  While the
economic environment continues to be challenging, we have increased our volumes
by 6% from 16.9 million during the first quarter of fiscal 2010 to 17.9 million
during the first quarter this fiscal year.  The increase in volumes is
primarily the result of the expansion into three new markets that we initiated
during the second quarter of last year.  We continue to seek new
customers in our existing markets, and expansion of our services to our existing
customers in markets where we may not be currently serving
them.  Additionally, since we have yet to see any recovery of the 14%
drop off in demand from existing customers that we saw the fall of 2008, we
continue to believe that, when the economy strengthens, the resulting growth in
the business of those existing customers will result in further volume increases
for us.





We achieved net margin of $4.1 million
and net margin per gallon of 22.9 cents during the first quarter of fiscal 2011
compared to $4.3 million, and 25.6 cents, respectively, a year
ago.  The $230,000 decrease in net margin was primarily due to higher
repair and maintenance expenses of our fleet, which is also the principal cause
of the $181,000 decrease in EBITDA.  These higher expenses help
explain why we have recently invested in new trucks and equipment to modernize
and increase the size of our fleet.  The new trucks will create
additional capacity, permitting us to expand in new or existing markets, reduce
our repair and maintenance costs, improve fleet fuel economy and satisfy new
emission standards.





During
the first quarter of this fiscal year, we offset the lower net margin with a
decrease in selling, general and administrative expenses, which were $347,000
lower when compared to the prior year, due to the lack of unamortized
acquisition costs and lower legal expenses, property taxes and other fees in
fiscal 2011.





At
September 30, 2010, our balance sheet remained strong, as evidenced by our debt
to equity ratio of 1.5 this quarter compared to 1.7 at June 30,
2010.  We continue to reduce our long term debt, paying down an
additional $250,000 of our term loan this quarter.  Our fixed coverage
ratio as of September 30, 2010 was 1.61 and 1.66 as of September 30, 2009, well
above the 1.1 required by our bank covenants1.  During the
most recent trailing twelve months ended September 30, 2010, we made increased
capital expenditures to further improve our business operations.  Our
trailing twelve months EBITDA exceeded the trailing twelve months fixed charges
by $1.5 million at both September 30, 2010 and 2009.





1 EBITDA, fixed charges and fixed
coverage ratio are non-GAAP measures within the meaning of SEC Regulation
G.  See "Non-GAAP Measures and Definitions"below.


17





We
recently began a stock repurchase program, and during the first quarter of 2011,
we purchased 29,147 shares of our common shares for an aggregate amount of
approximately $39,000.  We are authorized to purchase up to $840,000
of capital stock.  We have continued making purchases pursuant to the
program during the second quarter of fiscal 2011 and intend to continue doing
so, subject to limitations imposed by law, since we believe that the cost for
the acquisition of our shares, at current prices of our common shares, is a
reasonable and prudent allocation of our financial resources.





Our net
income is reduced by a series of charges that do not represent cash outlays
during the period.  We are reporting net income for the first quarter
of fiscal 2011 of $114,000.  The $114,000 net income included $631,000
in non-cash charges, such as depreciation and amortization of assets, debt
costs, stock-based compensation, slow moving inventory reserve, and provision
for doubtful accounts.  Additionally, the net income also included
stated interest expense associated with servicing of our debt of $223,000, legal
expenses of $186,000 and public company costs of $221,000.





The
following table presents certain operating results for the last eight sequential
quarters (in thousands, except net margin per gallon):





FortheThreeMonthsEnded,September 30,
                                        
                                        
                                        June 30,
                                        
                                        
                                        March 31,
                                        
                                        
                                        December 31,
                                        
                                        
                                        September 30,
                                        
                                        
                                        June 30,
                                        
                                        
                                        March 31,
                                        
                                        
                                        December31,2010
                                        
                                        
                                        2010
                                        
                                        
                                        2010
                                        
                                        
                                        2009
                                        
                                        
                                        2009
                                        
                                        
                                        2009
                                        
                                        
                                        2009
                                        
                                        
                                        2008Revenues
                                        
                                        $
                                        51,061
                                        
                                        
                                        $
                                        53,704
                                        
                                        
                                        $
                                        49,152
                                        
                                        
                                        $
                                        46,305
                                        
                                        
                                        $
                                        43,686
                                        
                                        
                                        $
                                        39,884
                                        
                                        
                                        $
                                        34,982
                                        
                                        
                                        $
                                        45,112Gross
      profit
                                        
                                        $
                                        3,838
                                        
                                        
                                        $
                                        4,320
                                        
                                        
                                        $
                                        3,398
                                        
                                        
                                        $
                                        3,381
                                        
                                        
                                        $
                                        4,097
                                        
                                        
                                        $
                                        3,539
                                        
                                        
                                        $
                                        3,790
                                        
                                        
                                        $
                                        3,292Selling,
      general andadministrative
                                        
                                        $
                                        3,492
                                        
                                        
                                        $
                                        3,678
                                        
                                        
                                        $
                                        3,555
                                        
                                        
                                        $
                                        2,673
                                        
                                        
                                        $
                                        3,839
                                        
                                        
                                        $
                                        3,401
                                        
                                        
                                        $
                                        3,455
                                        
                                        
                                        $
                                        3,267Operating
      income (loss)
                                        
                                        $
                                        346
                                        
                                        
                                        $
                                        642
                                        
                                        
                                        $
                                        (157
                                        )
                                        
                                        $
                                        708
                                        
                                        
                                        $
                                        258
                                        
                                        
                                        $
                                        138
                                        
                                        
                                        $
                                        335
                                        
                                        
                                        $
                                        25Interest
      expense andother
      income, net
                                        
                                        $
                                        (221
                                        )
                                        
                                        $
                                        (215
                                        )
                                        
                                        $
                                        (254
                                        )
                                        
                                        $
                                        (255
                                        )
                                        
                                        $
                                        (230
                                        )
                                        
                                        $
                                        (454
                                        )
                                        
                                        $
                                        (570
                                        )
                                        
                                        $
                                        (677
                                        )Non-cash
      ASC 470-20(formerly
      FAS No. 84)inducement on extinguishment 2
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        (1,651
                                        )
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -Gain
      on extinguishmentof
      promissory notes
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        27
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -Net
      income (loss)
                                        
                                        $
                                        114
                                        
                                        
                                        $
                                        419
                                        
                                        
                                        $
                                        (419
                                        )
                                        
                                        $
                                        445
                                        
                                        
                                        $
                                        20
                                        
                                        
                                        $
                                        (1,948
                                        )
                                        
                                        $
                                        (243
                                        )
                                        
                                        $
                                        (660
                                        )Less:  Non-cash
      write-off ofunamortized
      acquisition costs
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        187
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -Less:  Non-cash
      stock optionsrepricing
      costs
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        93
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -Less:  Non-cash
      ASC 470-20(formerly
      FAS No. 84)inducement on extinguishment 1
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        1,651
                                        
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        -Adjusted
      net income (loss)before
      non-cash, non-recurringcharges 1
                                        
                                        $
                                        114
                                        
                                        
                                        $
                                        419
                                        
                                        
                                        $
                                        (419
                                        )
                                        
                                        $
                                        445
                                        
                                        
                                        $
                                        300
                                        
                                        
                                        $
                                        (297
                                        )
                                        
                                        $
                                        (243
                                        )
                                        
                                        $
                                        (660
                                        )EBITDA 1
                                        
                                        $
                                        953
                                        
                                        
                                        $
                                        1,189
                                        
                                        
                                        $
                                        398
                                        
                                        
                                        $
                                        1,289
                                        
                                        
                                        $
                                        1,134
                                        
                                        
                                        $
                                        876
                                        
                                        
                                        $
                                        974
                                        
                                        
                                        $
                                        690Net
      margin
                                        
                                        $
                                        4,103
                                        
                                        
                                        $
                                        4,529
                                        
                                        
                                        $
                                        3,616
                                        
                                        
                                        $
                                        3,609
                                        
                                        
                                        $
                                        4,333
                                        
                                        
                                        $
                                        3,795
                                        
                                        
                                        $
                                        4,027
                                        
                                        
                                        $
                                        3,534Net margin per gallon 1
                                        
                                        $
                                        0.23
                                        
                                        
                                        $
                                        0.25
                                        
                                        
                                        $
                                        0.21
                                        
                                        
                                        $
                                        0.21
                                        
                                        
                                        $
                                        0.26
                                        
                                        
                                        $
                                        0.23
                                        
                                        
                                        $
                                        0.25
                                        
                                        
                                        $
                                        0.21Gallons
      sold
                                        
                                        
                                        17,912
                                        
                                        
                                        
                                        18,385
                                        
                                        
                                        
                                        17,382
                                        
                                        
                                        
                                        16,956
                                        
                                        
                                        
                                        16,945
                                        
                                        
                                        
                                        16,709
                                        
                                        
                                        
                                        16,041
                                        
                                        
                                        
                                        16,602




1 Non-GAAP
measure.  See “Non-GAAP Measures and Definitions” below.





2 See
“Non-GAAP Measures and Definitions” below.


18




Non-GAAP
Measures and Definitions




EBITDA is
defined as earnings before interest, taxes, depreciation, and amortization, a
non-GAAP financial measure within the meaning of Regulation G promulgated by the
Securities and Exchange Commission.  To the extent that gain and the
non-cash ASC 470-20 (formerly FAS No. 84) inducement on extinguishment of
promissory notes constitutes the recognition of previously deferred
interest or finance cost, it is considered interest expense for the calculation
of certain interest expense amounts.  Both stock-based compensation
amortization expense and the write-off of unamortized acquisition costs are
considered amortization items to be excluded in the EBITDA
calculation.  We believe that EBITDA provides useful information to
investors because it excludes transactions not related to the core cash
operating business activities, allowing meaningful analysis of the performance
of our core cash operations.





The
following table reconciles EBITDA (non-GAAP measure) to the reported Net income
(loss) for each of the eight quarterly periods presented above (in
thousands):




FortheThreeMonthsEnded,September 30,
                            
                            
                            June 30,
                            
                            
                            March 31,
                            
                            
                            December 31,
                            
                            
                            September 30,
                            
                            
                            June 30,
                            
                            
                            March 31,
                            
                            
                            December31,2010
                            
                            
                            2010
                            
                            
                            2010
                            
                            
                            2009
                            
                            
                            2009
                            
                            
                            2009
                            
                            
                            2009
                            
                            
                            2008Net
      income (loss)
                            
                            $
                            114
                            
                            
                            $
                            419
                            
                            
                            $
                            (419
                            )
                            
                            $
                            445
                            
                            
                            $
                            20
                            
                            
                            $
                            (1,948
                            )
                            
                            $
                            (243
                            )
                            
                            $
                            (660
                            )Add
      back:Interest
      expense
                            
                            
                            223
                            
                            
                            
                            227
                            
                            
                            
                            260
                            
                            
                            
                            261
                            
                            
                            
                            230
                            
                            
                            
                            545
                            
                            
                            
                            575
                            
                            
                            
                            680Income
      tax expense
                            
                            
                            11
                            
                            
                            
                            8
                            
                            
                            
                            8
                            
                            
                            
                            8
                            
                            
                            
                            8
                            
                            
                            
                            8
                            
                            
                            
                            8
                            
                            
                            
                            8Depreciation and
      amortizationexpense
      within:Cost
      of sales
                            
                            
                            266
                            
                            
                            
                            208
                            
                            
                            
                            218
                            
                            
                            
                            228
                            
                            
                            
                            236
                            
                            
                            
                            254
                            
                            
                            
                            239
                            
                            
                            
                            242Selling,
      general andadministrative
      expenses
                            
                            
                            318
                            
                            
                            
                            316
                            
                            
                            
                            316
                            
                            
                            
                            316
                            
                            
                            
                            320
                            
                            
                            
                            344
                            
                            
                            
                            334
                            
                            
                            
                            342Stock-based
      compensation expense
                            
                            
                            21
                            
                            
                            
                            11
                            
                            
                            
                            15
                            
                            
                            
                            31
                            
                            
                            
                            133
                            
                            
                            
                            49
                            
                            
                            
                            61
                            
                            
                            
                            78Write-off
      of unamortizedacquisition
      costs
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            187
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -Non-cash
      ASC 470-20(formerly
      FAS No. 84)inducement
      on extinguishment
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            1,651
                            
                            
                            
                            -
                            
                            
                            
                            -Gain
      on extinguishmentof
      promissory notes
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            (27
                            )
                            
                            
                            -
                            
                            
                            
                            -EBITDA
                            
                            $
                            953
                            
                            
                            $
                            1,189
                            
                            
                            $
                            398
                            
                            
                            $
                            1,289
                            
                            
                            $
                            1,134
                            
                            
                            $
                            876
                            
                            
                            $
                            974
                            
                            
                            $
                            690




19




Adjusted net income (loss) before
non-cash, non-recurring charges is a non-GAAP measure that demonstrates the
economic performance of the Company before the impact of charges that do not
reflect the ongoing performance of its operations, such as the non-cash
accounting charge of $1.7 million in the fourth quarter of fiscal 2009 resulting
from the Company’s June 2009 recapitalization, non cash stock option repricing
costs and the write-off incurred in the first quarter of fiscal 2010 as the
result of a new accounting ruling was applied.  We believe that this
is a meaningful non-GAAP representation of the ongoing performance of the
operations.




The
following table reconciles Adjusted net income (loss) before non-cash,
non-recurring charges(non-GAAP measure) to the
reported Net income (loss) for each of the eight quarterly periods presented
above (in thousands):




FortheThreeMonthsEnded,September 30,
                                    
                                    
                                    June 30,
                                    
                                    
                                    March 31,
                                    
                                    
                                    December 31,
                                    
                                    
                                    September 30,
                                    
                                    
                                    June 30,
                                    
                                    
                                    March 31,
                                    
                                    
                                    December31,2010
                                    
                                    
                                    2010
                                    
                                    
                                    2010
                                    
                                    
                                    2009
                                    
                                    
                                    2009
                                    
                                    
                                    2009
                                    
                                    
                                    2009
                                    
                                    
                                    2008Net
      income (loss)
                                    
                                    $
                                    114
                                    
                                    
                                    $
                                    419
                                    
                                    
                                    $
                                    (419
                                    )
                                    
                                    $
                                    445
                                    
                                    
                                    $
                                    20
                                    
                                    
                                    $
                                    (1,948
                                    )
                                    
                                    $
                                    (243
                                    )
                                    
                                    $
                                    (660
                                    )Less:  Non-cash
      write-off ofunamortized
      acquisition costs
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    187
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -Less:  Non-cash
      stock optionsrepricing
      costs
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    93
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -Less:  Non-cash
      ASC 470-20(formerly
      FAS No. 84)inducement
      on extinguishment
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    1,651
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -Adjusted
      net income (loss)before
      non-cash, non-recurringcharges
                                    
                                    $
                                    114
                                    
                                    
                                    $
                                    419
                                    
                                    
                                    $
                                    (419
                                    )
                                    
                                    $
                                    445
                                    
                                    
                                    $
                                    300
                                    
                                    
                                    $
                                    (297
                                    )
                                    
                                    $
                                    (243
                                    )
                                    
                                    $
                                    (660
                                    )




20




Fixed
charges and fixed coverage ratio are non-GAAP measures that are used by our
principal lender and others to help assess the Company’s ability to satisfy cash
payments other than those made for operating activities.  Fixed
charges are comprised of repayments of principal on debt, purchases of property
and equipment, cash paid for interest, payments for dividends and repurchases of
stock.  The fixed charge coverage ratio is used to measure the extent
to which EBITDA exceeds the cash requirements, or fixed charges, of the
business.  These measurements are made on a rolling trailing twelve
month basis.




The
following table reconciles fixed charges and fixed coverage ratio (non-GAAP
measures) to the Net income (loss) for each of the trailing twelve months ended
September 30 (in thousands):




Trailing Twelve Months Ended September 30,2010
                      
                      
                      2009Net
      income (loss)
                      
                      $
                      559
                      
                      
                      $
                      (2,831
                      )Add
      back:Interest
      expense
                      
                      
                      971
                      
                      
                      
                      2,030Income
      tax expense
                      
                      
                      35
                      
                      
                      
                      32Depreciation
      and amortization expense within:Cost
      of sales
                      
                      
                      920
                      
                      
                      
                      971Selling,
      general and administrative expenses
                      
                      
                      1,266
                      
                      
                      
                      1,340Stock-based
      compensation amortization expense
                      
                      
                      78
                      
                      
                      
                      321Write-off
      of unamortized acquisition costs
                      
                      
                      -
                      
                      
                      
                      187Non-cash
      ASC 470-20 (formerly FAS No. 84) inducement onextinguishment
                      
                      
                      -
                      
                      
                      
                      1,651Gain
      on extinguishment of promissory notes
                      
                      
                      -
                      
                      
                      
                      (27
                      )EBITDA
                      
                      $
                      3,829
                      
                      
                      $
                      3,674Less
      fixed charges:Principal
      payments on term and promissory notes
                      
                      
                      1,000
                      
                      
                      
                      5,160Purchases
      of property and equipment
                      
                      
                      459
                      
                      
                      
                      187Capital
      lease payments
                      
                      
                      58
                      
                      
                      
                      63Cash
      paid for interest
                      
                      
                      809
                      
                      
                      
                      1,452Payment
      of dividends
                      
                      
                      13
                      
                      
                      
                      390Principal
      and interest payments made as a result of the
    Recapitalization
                      
                      
                      -
                      
                      
                      
                      (5,045
                      )Repurchase
      of common shares
                      
                      
                      39
                      
                      
                      
                      -Total
      fixed charges
                      
                      $
                      2,378
                      
                      
                      $
                      2,207Difference
      (EBITDA less fixed charges)
                      
                      $
                      1,451
                      
                      
                      $
                      1,467Fixed
      charge coverage ratio (EBITDA divided by fixed charges)
                      
                      
                      1.61
                      
                      
                      
                      1.66







Net margin per gallon is calculated by
adding gross profit to the cost of sales depreciation and amortization and
dividing that sum by the number of gallons sold.





Non-cash
ASC 470-20 inducement on extinguishment is a non-cash charge we incurred as a
result of the June 29, 2009 Recapitalization.  The Company
extinguished a portion of the August 2007 and the September 2008 Notes (“the
Notes”) through the issuance of approximate 1.2 million shares and approximate
278,000 shares, respectively, at the negotiated price of $1.71 per share, which
was greater than the $1.67 per share closing bid price the day prior to the
Recapitalization, but lower than the conversion price applicable to the
convertible debt instruments, which resulted in the issuance of more shares in
the exchange than would have been issued upon a
conversion.  The  prevalent interpretation of ASC 470-20 is
that an inducement occurs any time when additional shares are issued in the
extinguishment of convertible debt regardless of the absence of an economic loss
or economic intent of the parties to the transaction.  As a result,
irrespective of the economic reality of the transaction, ASC 470-20 required the
recording of a non-cash “conversion inducement” charge of $1.7 million, based on
the difference between the approximate aggregate 471,000 common shares issuable
to the applicable note holder under the original conversion rights that existed
upon a conversion and the approximate 1.5 million common shares exchanged at
$1.71 cents in the transaction that extinguished all of the
Notes.  This non-cash charge is deemed a financing expense to
extinguish the Notes.  To the extent that the ASC 470-20 inducement on
extinguishment of promissory notes constitutes the recognition of a finance
cost, it is considered interest expense for the calculation of EBITDA and other
interest expense amounts.


21




RESULTS
OF OPERATIONS:





To
monitor our results of operations, we review key financial information,
including net revenues, gross profit, selling, general and administrative
expenses, net income or losses, and non-GAAP measures, such as
EBITDA.  We continue to seek ways to more efficiently manage and
monitor our business performance.  We also review other key operating
metrics, such as the number of gallons sold and net margins per gallon
sold.  As our business is dependent on the supply of fuel and
lubricants, we closely monitor pricing and fuel availability from our suppliers
in order to purchase the most cost effective products.  We calculate
our net margin per gallon by adding gross profit and the depreciation and
amortization components of cost of sales, and dividing that sum by the number of
gallons sold.




Comparison
of Three Months Ended September 30, 2010 (“first quarter of fiscal 2011”) to
Three Months Ended September 30, 2009 (“first quarter of fiscal
2010”)





Revenues





Revenues
were $51.1 million in the first quarter of fiscal 2011, as compared to $43.7
million in the same period of the prior year, an increase of $7.4 million, or
17%.  Price variances in market prices of petroleum products provided
$4.6 million of the increase in revenues.  The $2.8 million remainder
of the increase is due to a 6% increase in gallons sold compared to a year ago
as a result of the stabilization in the demand for our services from existing
customers and an increase in new customer business.  We remain
optimistic that we can maintain or increase present volume levels by continuing
to attract new customers.




Gross
Profit





Gross
profit was $3.8 million in the first quarter of fiscal 2011, as compared to $4.1
million in the same period of the prior year, a decrease of $259,000, or
6%.  The net margin per gallon for the first quarters of fiscal 2011
and 2010 was 22.9 cents and 25.6 cents, respectively, a decrease of 2.7
cents.  The decrease in gross profit and net margin per gallon is
attributed primarily to an increase in direct operating expenses, mostly related
to an increase of $175,000 in repairs and maintenance of our fleet and an
increase of $62,000 in employee expenses attributable to additional operations
management personnel.




Selling,
General and Administrative Expenses




Selling,
general and administrative (“SG&A”) expenses were $3.5 million in the first
quarter of fiscal 2011 and $3.8 million in the first quarter of fiscal 2010, a
decrease of $347,000, or 9%.  The decrease in SG&A is primarily
due to the write-off of $187,000 of unamortized acquisition costs that we
incurred last year as a result of the adoption of ASC 805, lower professional
fees of $119,000 this year, and lower property taxes and other fees of $37,000
in fiscal 2011.




22




Interest
Expense





Interest
expense was $223,000 in the first quarter of fiscal 2011, as compared to
$230,000 in the same period of the prior year, a decrease of
$7,000.  Our interest rate terms remain basically the same for both
periods, which is currently around 4.5%.





The
components of interest expense were as follows (in thousands):





Three Months EndedSeptember 30,2010
                    
                    
                    2009Stated
      Rate Interest Expense:Line
      of credit
                    
                    $
                    116
                    
                    
                    $
                    110Long-term
      debt
                    
                    
                    59
                    
                    
                    
                    69Other
                    
                    
                    8
                    
                    
                    
                    9Total
      stated rate interest expense
                    
                    
                    183
                    
                    
                    
                    188Non-Cash
      Interest Amortization:Amortization
      of deferred debt costs
                    
                    
                    40
                    
                    
                    
                    42Total
      interest expense
                    
                    $
                    223
                    
                    
                    $
                    230




Income
Taxes




State
income tax expense of $11,000 and $8,000 was recorded for the first
quarters of fiscal 2011 and 2010, respectively.  No federal income tax
expense was recorded for these periods.  The federal net operating
loss carryforward at September 30, 2010 was $29.5 million, which includes a $2.2
million net operating loss carryforward acquired in connection with the H &
W acquisition.  Although net income was generated in the first
quarters of fiscal 2011 and 2010, there is no provision for federal income taxes
due to the availability of net operating loss carryforwards.  The $9.1
million net deferred tax asset remains fully reserved at September 30,
2010.




Net
Income




Net
income was $114,000 in the first quarter of fiscal 2011, as compared to net
income of $20,000 in the same period in the prior year.  The $94,000
or 470% increase was primarily attributable to the lower selling, general and
administrative expenses of $347,000 described above.  The decrease in
SG&A was offset by the lower gross profit of $259,000.




EBITDA




EBITDA
was $953,000 in the first quarter of fiscal 2011, as compared to $1.1 million in
the same period of the prior year, a decrease of $181,000, or
16%.  The decrease was primarily due to the decrease in gross profit,
partially offset by the reduction in selling, general and administrative
expenses.


23





The
reconciliation of EBITDA to Net income for the first quarters of fiscals 2011
and 2010 was as follows (in thousands):




Three Months EndedSeptember 30,2010
                    
                    
                    2009Net
      income
                    
                    $
                    114
                    
                    
                    $
                    20Add
      back:Interest
      expense
                    
                    
                    223
                    
                    
                    
                    230Income
      tax expense
                    
                    
                    11
                    
                    
                    
                    8Depreciation
      and amortization expense within:Cost
      of sales
                    
                    
                    266
                    
                    
                    
                    236Selling,
      general and administrative expenses
                    
                    
                    318
                    
                    
                    
                    320Stock-based
      compensation amortization expense
                    
                    
                    21
                    
                    
                    
                    133Write-off
      of unamortized acquisition costs
                    
                    
                    -
                    
                    
                    
                    187EBITDA
                    
                    $
                    953
                    
                    
                    $
                    1,134




As noted above, EBITDA is a non-GAAP
financial measure within the meaning of Regulation G promulgated by the
Securities and Exchange Commission.  EBITDA is defined as earnings
before interest, taxes, depreciation, and amortization, a non-GAAP financial
measure within the meaning of Regulation G promulgated by the Securities and
Exchange Commission.  Recapture of previously deferred interest
expense is considered interest expense and stock-based compensation amortization
is considered an amortization item for purposes of the EBITDA
calculation.  We believe that EBITDA provides useful information to
investors because it excludes transactions not related to the core cash
operating business activities.  We believe that excluding these
transactions allows investors to meaningfully trend and analyze the performance
of our core cash operations.




Capital
Resources and Liquidity





At
September 30, 2010, we had total cash and cash availability of $3.3 million,
which consisted of cash and cash equivalents of $77,000 and additional cash
availability of approximately $3.2 million through our line of
credit.  As of November 10, 2010, our cash and cash availability was
approximately $4.3 million.  We are able to draw on our line of credit
on a daily basis subject to debt covenant requirements.





At
September 30, 2010, our trailing twelve months EBITDA was $3.8 million and our
fixed charge coverage ratio was 1.61 and the trailing twelve months EBITDA after
fixed charges was $1.5 million.  We have a $9.1 million deferred tax
asset at September 30, 2010 that remains fully reserved but we have used
approximately $1.0 million of the net operating loss carryforward to offset
taxable income due in the last two years.




We have
recently ordered new trucks on order to modernize and increase the size of our
fleet.  This additional equipment will generate expanded capacity to
our system, help us improve fuel economy and satisfy new emission standards,
give us further opportunity to expand in new markets and reduce our repairs and
maintenance.  Our principal lender has given us approval to incur up
to $2.0 million in new debt to finance this fleet expansion, conditioned upon
our continuing satisfaction of specified financial thresholds.




On July 28, 2010, our Board of
Directors  approved a share repurchase program (the “Program”) under
which we may elect to purchase up to five percent of our outstanding capital
stock, or approximately 435,000 shares of common stock or common stock
equivalents.  Repurchases of capital stock, including shares of common
stock and Series D convertible preferred stock, may be made on the open market
at prevailing market prices or in block trades, subject to the restrictions
relating to volume, price, and timing set forth in Securities Exchange Act of
1934 Rule 10b-18, or in privately negotiated transactions.  We will
fund the repurchases from our available cash under our revolving line of credit
with our principal lender.  During the first quarter of fiscal 2011,
we began the Program by purchasing 29,147 shares of our common stock for an
aggregate purchase price of approximately $39,000.  We have made
additional purchases pursuant to the Program during the second quarter of fiscal
2011 and intend to continue doing so.


24





Our principal lender has approved a
total of $840,000 in capital stock repurchases under the Program, including up
to $200,000 in any one fiscal quarter, conditioned upon
our  maintenance of (i) a ratio of EBITDA to Fixed Charges of 1.3 to
1.0, based on the most recent twelve (12) month period for which financial
statements have been provided to the lender, after giving pro forma effect to
any repurchases; and (ii) Excess Availability of at least $2.25 million (A)
immediately after making any repurchase and (B) for the ninety (90) days
preceding any repurchase.





We do not
believe that our purchases of capital stock under the Program will meaningfully
impair our capital resources or our ability to support the cash needs of our
business.  Moreover, while there can be no certainty in today’s
volatile and uncertain economy, we believe that, as a result of the current
trend and last year’s net income, EBITDA and cash flow as well as the June 2009
Recapitalization, we have established adequate credit enhancements to
meaningfully respond to potential increases in volumes, irrespective of whether
they are accompanied by fuel price increases.





Sources
and Uses of Cash





We
currently have a loan facility with our principal lender, comprised of a $20.0
million revolver coupled with a $5.0 million, 60 month, fully amortized term
loan.





Our $20.0
million line of credit permits us to borrow up to 85% of the total amount of
eligible accounts receivable and 65% of eligible inventory, both as
defined.  Outstanding letters of credit reduce the maximum amount
available for borrowing.  Outstanding borrowings under the line are
secured by substantially all Company assets including our transportation fleet
and related field equipment.  Our line of credit finances the timing
difference between petroleum product purchases, payable generally in 10 to 12
days from date of delivery, and the collection of receivables from our
customers, generally in 10 to 45 days from date of delivery.  The line
of credit has a renewal date of July 1, 2012.





Interest
is payable monthly based on a pricing matrix.  At September 30, 2010,
the interest rate for the line of credit was 4.0%.  This rate was
priced using a minimum LIBOR floor of 0.75%, plus the applicable margin of
3.25%.  The applicable margin is determined quarterly based on a
predetermined fixed charge coverage ratio pricing matrix with the applicable
margins ranging from 3.00% to 3.75%.





As
of September 30, 2010, we have outstanding letters of credit for an aggregate
amount of $1.5 million.  On October 14, 2010, we reduced our issued
letter of credit to $1.150 million.  These letters of credit were
issued so that we could obtain better purchasing terms and pricing than were
otherwise available in certain markets.  The letters of credit have
twelve-month expirations and renew automatically.  No amounts have
been drawn on any of the letters of credit; however, as described above,
outstanding letters of credit reduce our cash availability under our line of
credit facility.





As of
September 30, 2010 and June 30, 2010, we had outstanding borrowings of $5.7
million and $6.9 million, respectively, under our line of
credit. Outstanding borrowings under the line of credit are classified as a
current liability in accordance with ASC 470, Debt.  Based on eligible
receivables and inventories, and letters of credit outstanding at September 30,
2010 and June 30, 2010, we had $3.2 million and $4.6 million respectively, of
cash availability under the line of credit.





The term
loan, with an original amount of $5.0 million is fully amortized, 60 monthly
principal payments of approximately $83,333 commencing on August 1, 2009 with
variable interest due monthly (4.75% at September 30, 2010) is secured by
substantially all Company assets.  During the first quarter of fiscal
2011, we have paid down $250,000 of the principal balance, and at September 30,
2010, the outstanding balance was $3.8 million.


25





In
addition to the loan facility described above, we have an $800,000 unsecured
5.5% interest only, subordinated promissory note (the “June 2009 Note”) issued
to an existing institutional investor in exchange for $800,000 of one of the
Secured Notes during the June 2009 Recapitalization.  The June 2009
Note is subordinated to all our other existing debt, including any amounts owed
now or in the future to our principal lender.  The holder of the June
2009 Note entered into a debt subordination agreement (the “Subordination
Agreement”) with us and our principal lender, whereby it expressly subordinated
its rights under the June 2009 Note to our principal lender.   The
principal balance of the June 2009 Note is due at maturity on July 1,
2014.  Subject to the limitations in the Subordination
Agreement, interest is payable semi-annually, except that accrued interest
payments for the first thirteen months was deferred until, and paid on, August
12, 2010.  Thereafter, starting in 2011, semi-annual interest payments
will be made on or about each January 15th and
July 15th until
maturity.  The amounts due under the June 2009 Note will become due
and payable upon the occurrence of customary events of default, provided,
however, that the deferral of any payment in accordance with the Subordination
Agreement will not constitute an event of default.  If permitted under
the Subordination Agreement, we may pre-pay the June 2009 Note, in whole or in
part, without prepayment penalty or premium. Twenty-five percent (25%) of the
original principal amount of the June 2009 Note, or $200,000, may be converted
into shares of our Common Stock at $2.25 per share (the “Conversion Price”) at
the option of the noteholder.  The number and kind of securities
purchasable upon conversion and the Conversion Price are subject to customary
adjustments for stock dividends, stock splits and other similar
events.




The June
2009 Recapitalization of all of our debt and equity securities strengthened our
balance sheet and financial position, immediately lowering our total debt by
$4.5 million, increasing shareholders’ equity by approximately $4.1 million and
reducing our debt to equity ratio from approximately 9:1 to 2:1 over the prior
year.  The June 2009 Recapitalization reduced our cash interest
expense and dividends cash usage, as reflected in our results for fiscal 2010
and the first quarter of fiscal 2011.





We
continue to concentrate our efforts on reducing costs and conserving cash
availability in order to meet the challenges of the ongoing recession and
economic downturn.  We believe the improvements in our balance sheet
from the Recapitalization helped us establish credit enhancements in fiscal 2010
and continuing in fiscal 2011 that will permit us to effectively respond to
potential increases in volumes and fuel prices.  We have also sought
to offset the reduced demand from existing customers by aggressively seeking new
customers, including our investment in three new service locations during fiscal
2010.





Our debt
agreements have covenants that define certain financial requirements and
operating restrictions.  Our failure to comply with any covenant or
material obligation contained in these debt agreements, absent a waiver or
forbearance from the lenders, would result in an event of default which could
accelerate debt repayment terms under the debt agreements.  Due to
cross-default provisions contained in our debt agreements, an event of default
under one agreement could accelerate repayment terms under the other agreements,
which would have a material adverse effect on our liquidity and capital
resources.  At the date of this filing, we are in compliance with the
requirements of the applicable covenants required by our debt
agreements.





Cash
Flows





During
the three months ended September 30, 2010 and 2009, cash and cash equivalents
decreased $38,000 and increased $137,000, respectively.





We
generated cash from the following sources (in thousands):





Three Months EndedSeptember 30,2010
                        
                        
                        2009Cash
      provided by operating activities
                        
                        $
                        1,517
                        
                        
                        $
                        767




26





We used
cash primarily for (in thousands):





Three Months EndedSeptember 30,2010
                  
                  
                  2009Net
      payments on line of credit payable
                  
                  $
                  (1,154
                  )
                  
                  $
                  (404
                  )Principal
      payments on term loan
                  
                  
                  (250
                  )
                  
                  
                  (167
                  )Purchases
      of property and equipment
                  
                  
                  (86
                  )
                  
                  
                  (42
                  )Repurchase
      of common stock
                  
                  
                  (39
                  )
                  
                  
                  -Capital
      lease payments
                  
                  
                  (13
                  )
                  
                  
                  (17
                  )Payment
      of dividends
                  
                  
                  (13
                  )
                  
                  
                  -$
                  (1,555
                  )
                  
                  $
                  (630
                  )Net
      change in cash and cash equivalents
                  
                  $
                  (38
                  )
                  
                  $
                  137




As of
September 30, 2010, we had $5.7 million outstanding under our line of
credit.  The amounts disclosed in the captions titled “Proceeds from
line of credit” and “Repayments of line of credit” in the accompanying condensed
unaudited consolidated statements of cash flows for the three months ended
September 30, 2010 include the cumulative activity of the daily borrowings and
repayments, $53.5 million and $54.6 million, respectively, under the line of
credit.  The net cash borrowings from, or repayments of, the line of
credit during the three months ended September 30, 2010 and 2009, respectively,
have been included as sources or uses of cash in the tables above.




Adequacy
of Capital Resources





Our
liquidity and ability to meet financial obligations is dependent on, among other
things, the generation of cash flow from operating activities, obtaining or
maintaining sufficient trade credit from vendors, complying with our debt
covenants, continuing renewal of our line of credit facility, and/or raising any
required additional capital through the issuance of debt or equity securities or
additional borrowings.





Our
sources of cash during the remainder of fiscal 2011 are expected to be cash on
hand, cash generated from operations, borrowings under our revolving line of
credit, and any other capital sources that may be deemed
necessary.  There is no assurance, however, that if additional capital
is required, it will be available to us or available on acceptable
terms.




Our uses
of cash over the next twelve months are expected to be principally for operating
working capital needs, maintaining our line of credit,  servicing any
principal and interest on our debt, our ongoing stock repurchase program,
payment of preferred stock dividends, and costs incurred to expand or enhance
our operations including the purchase of new trucks.  Our line of
credit with our principal lender matures on July 1, 2012.




Off-Balance
Sheet Arrangements





At
September 30, 2010, we do not have any material off-balance sheet
arrangements.




Recent
Accounting Pronouncements




See Note
9 in the footnotes to financial statements included in this Form 10-Q for
accounting pronouncements that have been already effective.


27




Critical
Accounting Policies




We
believe there are several accounting policies that are critical to understanding
our historical and future performance as these policies affect the reported
amount of revenues and expenses and other significant areas involving
management's judgments and estimates.  On an ongoing basis, management
evaluates and adjusts its estimates and judgments, if necessary.  The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses and the disclosure of
contingencies.  Due to the inherent uncertainty involved in making
estimates, actual results reported in future periods may be materially different
from those estimates.  There were no changes to our critical
accounting policies as previously disclosed in our Annual Report on Form 10-K
for the fiscal year ended June 30, 2010.




ITEM
3.  QUANTITIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK





Not
applicable.


28





ITEM
4.  CONTROLS AND PROCEDURES





Evaluation
of disclosure controls and procedures





We
carried out an evaluation, under the supervision and with the participation of
our management, including the Chief Executive Officer and the Chief Financial
Officer, of the effectiveness of the design and operation of our disclosure
controls and procedures as defined in the Exchange Act Rules 13a-15(e) and
15d-15(e), as of the end of the period covered by this Quarterly Report on Form
10-Q.  Based upon this evaluation, the Chief Executive Officer and the
Chief Financial Officer concluded that the Company’s disclosure controls and
procedures were effective as of September 30, 2010.





Changes
in Internal Control over Financial Reporting





No change
in our internal control over financial reporting, as defined in Rules 13a-15(f)
and 15d-15(f) under the Exchange Act, occurred during the quarter ended
September 30, 2010 that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.




Inherent
Limitations on Effectiveness of Controls




Due to
its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements.  In addition, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions or that the
degree of compliance with the policies or procedures may
deteriorate.




A control
system, no matter how well designed and operated, can provide only reasonable,
not absolute, assurance that the control system’s objectives will be
met.  The design of a control system must reflect the fact that there
are resource constraints, and the benefits of controls must be considered
relative to their costs.  Furthermore, due to the inherent limitations
in all control systems, no evaluation of controls can provide absolute assurance
that misstatements due to error or fraud will not occur or that all control
issues and instances of fraud, if any, within the Company have been
detected.  These inherent limitations include the realities that
judgments in decision-making can be faulty and that breakdowns can occur because
of a simple error or mistake.  Controls can also be circumvented by
the individual acts of some persons, by collusion of two or more people, or by
management override of the controls.  The design of any system of
controls is based in part on certain assumptions about the likelihood of future
events, and there can be no assurance that any system’s design will succeed in
achieving its stated goals under all potential future
conditions.


29





PART
II.  Other Information





ITEM 1.    LEGAL PROCEEDINGS





Not
applicable.





ITEM
1A. RISK FACTORS





Not
applicable.





ITEM
2.    UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS





On July 28, 2010, our Board of
Directors  approved a share repurchase program (the “Program”) under
which we may elect to purchase up to five percent of our outstanding capital
stock, or approximately 435,000 shares of common stock or common stock
equivalents.  Repurchases of capital stock, including shares of common
stock and Series D convertible preferred stock, may be made on the open market
at prevailing market prices or in block trades, subject to the restrictions
relating to volume, price, and timing set forth in Securities Exchange Act of
1934 Rule 10b-18, or in privately negotiated transactions.  We will
fund the repurchases from our available cash under our revolving line of credit
with our principal lender.  During the first quarter of fiscal 2011,
we began the Program by purchasing 29,147 shares of our common stock for an
aggregate purchase price of approximately $39,000.





Stock
repurchases for the quarter ended September 30, 2010 were as
follows:





Total number of
                                    
                                    Approximate dollarshares purchased
                                    
                                    value of shares thatTotal number of
                                    
                                    Average price
                                    
                                    as part of publicly
                                    
                                    may yet bepurchasedPeriod
                                    
                                    sharespurchased
                                    
                                    paid per share
                                    
                                    announced programs
                                    
                                    under the programAugust
      1 through August 31, 2010
                                    
                                    8,141
                                    
                                    $
                                    1.24
                                    
                                    8,141September
      1 through September 30, 2010
                                    
                                    21,006
                                    
                                    $
                                    1.31
                                    
                                    21,006
                                    
                                    $
                                    579,592Total
                                    
                                    29,147
                                    
                                    $
                                    1.29
                                    
                                    29,147





In September 2010, each of the six
non-employee members of the Company’s Board of Directors received a grant of
1,000 shares of restricted stock under the Company’s 2009 Equity Incentive Plan
pursuant to an automatic grant program calling for such a grant on the last day
of each fiscal quarter.  The Company’s Chairman, Chief Executive
Officer and President was granted 31,500 shares of restricted stock that will
vest on December 21, 2010, when his existing stock options
expire.  These grant were made pursuant to the Company’s 2009 Equity
Incentive Plan and were exempt from registration under Section 4(2) of the
Securities Act of 1933, as amended.





ITEM
3.    DEFAULTS UPON SENIOR SECURITIES





Not
applicable.





ITEM
4.    REMOVED AND RESERVED


30





ITEM
5.    OTHER INFORMATION





Not
applicable.





ITEM
6.    EXHIBITS





Exhibits





ExhibitNo.
              
              Description10.66
              
              Third
      amended and Restated Employment Agreement by and between SMF Energy
      Corporation and Richard E. Gathright executed effective September 23,
      201031.1
              
              Certification
      of Principal Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 200231.2
              
              Certification
      of Principal Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 200232.1
              
              Certification
      of Principal Executive Officer and Principal Financial Officer pursuant to
      Section 906 of the Sarbanes-Oxley Act of
2002




31


SIGNATURES




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







SMF
      ENERGY CORPORATIONNovember
      15, 2010
              By:
              /s/ Richard E. GathrightRichard
      E. GathrightChairman
      of the Board, Chief Executive Officer and President (Principal Executive
      Officer)





By:
              /s/ Michael S. ShoreMichael
      S. ShoreChief
      Financial Officer, Treasurer and Senior Vice President (Principal
      Financial Officer)




32


INDEX
OF EXHIBITS





10.66
            
            Third
      amended and Restated Employment Agreement by and between SMF Energy
      Corporation and Richard E. Gathright executed effective September 23,
      201031.1
            
            Certification
      of Principal Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 200231.2
            
            Certification
      of Principal Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 200232.1
            
            Certification
      of Principal Executive Officer and Principal Financial Officer pursuant to
      Section 906 of the Sarbanes-Oxley Act of
2002




33