UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

þ		Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

o		Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Commission File Number 000-08193

ARGON ST, INC.

(Exact Name of Registrant as Specified in its Charter)

Delaware		38-1873250
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

12701 Fair Lakes Circle, Suite 800, Fairfax Virginia 22033
(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code (703) 322-0881

		Securities registered pursuant to Section 12(b) of the Act:

		Name of Exchange on
Title of Class		Which Registered
Common Stock, par value $.01 per share		The NASDAQ Stock Market LLC

		Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15 (d) of the Act. Yes o No þ

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 þ No o

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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of the Form 10-K or any amendment to this Form 10-K. o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, or a smaller reporting company.

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

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

 

 

     As of November 16, 2009, there were 21,748,596 shares of the registrant’s common stock, par value $.01 per share, outstanding. The aggregate market value of the Registrant’s common stock held by non-affiliates as of March 29, 2009 was approximately $264.4 million, computed by reference to the closing sales price of such stock on the NASDAQ Global Select Market as of March 27, 2009.

DOCUMENTS INCORPORATED BY REFERENCE

     Part III of this report incorporates by reference specific portions of the registrant’s proxy statement relating to the Annual Meeting of Stockholders to be filed within 120 days after the registrant’s fiscal year end.

ARGON ST, INC. AND SUBSIDIARIES

For the Fiscal Year Ended September 30, 2009

TABLE OF CONTENTS

PART I
Item 1. Business			4
Item 1A. Risk Factors			16
Item 1B. Unresolved Staff Comments			30
Item 2. Properties			30
Item 3. Legal Proceedings			31
Item 4. Submission of Matters to a Vote of Security Holders			31
Supplemental Item. Executive Officers of the Registrant			31
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Purchases of Equity Securities			32
Item 6. Selected Financial Data			34
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations			35
Item 7A. Quantitative and Qualitative Disclosures About Market Risk			48
Item 8. Financial Statements and Supplementary Data			49
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure			75
Item 9A. Controls and Procedures			75
Item 9B. Other Information			75
PART III
Item 10. Directors, Executive Officers and Corporate Governance			76
Item 11. Executive Compensation			76
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters			76
Item 13. Certain Relationships and Related Transactions and Director Independence			76
Item 14. Principal Accounting Fees and Services			76
PART IV
Item 15. Exhibits, Financial Statement Schedules			77
Signatures			79
Exhibits			81

PART I

ITEM 1. BUSINESS

Business Description.

     We are a leading systems engineering, development and services company providing full-service C5ISR (command, control, communications, computers, combat systems, intelligence, surveillance and reconnaissance) systems and services, which address several markets including, but not limited to, maritime defense, airborne reconnaissance, ground systems, tactical communications and network systems and security. We serve a wide range of defense and intelligence customers as well as commercial enterprises.

     We design, develop and deploy sensors and countermeasures, information operation and electronic attack systems, communication systems and networks, navigation systems, geolocation systems, and net centric systems that integrate potentially all of these capabilities.

     Our systems leverage core capabilities that allow end users to find, fix, track, target, engage, and assess the threat, develop situational awareness and understanding, deliver the intelligence to make decisions, and deny understanding of the environment to our enemies. Our core capabilities include:

•

Signals Intelligence (“SIGINT”): Collecting information and producing intelligence from the detection, interception and evaluation of signals, including communication signals (“COMINT”) and electromagnetic signals, such as radar (“ELINT”).

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Electronic Warfare (“EW”): Detecting, identifying and countering adversary forces, weapons and sensors through collection of adversary signals. Measures include launching deceptive signals and electronic counter-measures and using electronic support measures (“ESM”) to identify and locate emitters on both platforms and weapons.

•

Information Operations (“IO”): Employment of non-lethal measures to exploit, influence and manipulate an enemy’s C5ISR processes, including radio and network communications and measures, to protect own force and friendly information and sensors.

•

Acoustic Operations: Employment of acoustic sensors and signals to detect, identify and counter undersea threats including, but not limited to, enemy torpedoes and to sense and find undersea targets.

•

Tactical Communications and Networking: Deployment of mobile, terrestrial, and satellite radio receivers and transmitters, to include point to point links and extensive networks, supporting tactical operations, intelligence production and dissemination, movement of data and information, and management of the radio frequency spectrum.

•

Threat Simulation: The use of computer and virtual based replication of signals and sensors for training and analysis of adversary capabilities.

•

Imaging: Production and analysis of information from light spectrum sources, including multispectral, hyperspectral, infra-red, electro-optical and visible light.

•

Services: The provision of material, training and support engineering expertise to enable and sustain readiness, systems operations and mission success.

•

Cyber Operations: Leveraging Argon’s strength in offensive information operations, SIGINT engineering, software development, and with a focus on the emerging 3G and 4G wireless domain,

we provide unique and sophisticated solutions to the most demanding operational cyber environments to include Computer Network Exploit and Attack. This technology aligns well with our core technical competencies and recognizes that truly elegant attacks require sophisticated sensors.

     Our systems are used on a broad range of military and strategic platforms including surface ships, submarines, unmanned underwater vehicles (“UUV”), aircraft, unmanned aerial vehicles (“UAV”), land mobile vehicles, fixed site installations and relocatable land sites.

     We develop many of our systems using innovative design methodologies that incorporate proprietary software and design processes and commercially available hardware and software in configurations capable of being more readily deployed, adapted or upgraded by us or the customer. This system design methodology allows us to adapt our software modules and processes to meet complex specifications on varied platforms without significant re-design efforts. The benefits of our system design methodology include shorter development and implementation schedules, system flexibility, improved interoperability with systems not developed by us, and reduced system and upgrade costs to our customers. Our communications systems provide state of the art capabilities from simple and secure data transfer between tactical platforms to the high impact realization of complex network centricity. Our delivery of expert services, systems engineering, and pivotal domain knowledge complements and sustains the operational success of our systems.

     Our business is conducted primarily through contracts with the U.S. government. For the fiscal year ended September 30, 2009, 71% of our revenues were from contracts for which we were the prime contractor, 54% of our revenues were from fixed-price contracts and 57% of our revenues were from sole-source contracts. Our primary customer is the Department of Defense. We derive nearly half of our revenues from various agencies and commands within the U.S. Navy. We also provide systems and products to other U.S. government agencies and major domestic prime contractors, and to certain U.S. government-approved foreign governments, agencies and defense contractors as well as commercial enterprises.

Available Information

     Our headquarters are located at 12701 Fair Lakes Circle, Fairfax, VA 22033. Our website address is http://www.argonst.com. The information contained on our website is not incorporated by reference into this Annual Report. All reports we file electronically with the Securities and Exchange Commission (“SEC”), including our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements, and other information and amendments to those reports filed electronically (if applicable), are accessible at no cost on our website as soon as reasonably practicable after such reports have been filed or furnished to the SEC. These filings are also accessible on the SEC’s Web site at http://www.sec.gov. The public may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information from the Public Reference Room by calling the SEC at 1-800-SEC-0330.

Corporate History

     Our company resulted from the September 2004 merger of privately-held Argon Engineering Associates, Inc. (“Argon Engineering”) and publicly-held Sensytech, Inc. (“Sensytech”). Argon Engineering was founded in 1997 by Terry Collins, Victor Sellier and Thomas Murdock to develop advanced signal intelligence systems for the U.S. Navy. During the following years, Argon Engineering grew rapidly and expanded its technical expertise and customer base.

     Sensytech was formed by the 1998 merger of S.T. Research Corporation (founded in 1972) and Daedalus Enterprises (founded in 1968). S.T. Research produced communications signals intelligence and passive electronic warfare systems, while Daedalus Enterprises produced airborne imaging systems and services. In 2002, Sensytech acquired substantially all of the assets of FEL Corporation, adding capabilities in electronic warfare, radar simulator products, communications data links, naval mine warfare and anti-submarine warfare systems. In 2004, Sensytech acquired Imaging Sensors and Systems, Inc. in Winter Park, FL to add a line of ground, shipboard, and airborne

forward looking infra-red (“FLIR”) and visible spectrum imaging systems. Also in 2004, Sensytech formed ST Productions in Smithfield, PA to expand Sensytech’s manufacturing and test capabilities.

     The Argon Engineering/Sensytech merger combined Argon Engineering’s innovative communications signal intercept and processing systems with Sensytech’s broad and complementary range of electronic intelligence, electronic warfare and imaging systems, resulting in a broad based C5ISR provider for the defense and intelligence markets. The merger expanded our base of existing and potential new customers, allowed us to enact several initiatives using the combined company’s technological expertise and experience, and enabled us to use our manufacturing capacity more efficiently.

     During the fiscal year ended September 30, 2006, we acquired all the common stock of Radix Technologies, Inc. and San Diego Research Center, Inc. During the fiscal year ended September 30, 2007, we acquired certain tangible and intangible assets of Coherent Systems International Corp. in a transaction in which we purchased 100% of the equity of CSIC Holdings LLC, an entity that was 100% owned by Coherent Systems International Corp. As one of our key growth strategies, we intend to pursue additional strategic acquisitions in the future.

Recent Developments

     In 2009, we continued our success in the development and delivery of advanced C5ISR technologies, systems, products and services. We continued to expand our customer base and further diversified our products and services among our existing customer relationships. Given the current economic conditions and changes in governmental priorities, we faced similar challenges to those faced by our competitors in efforts to grow our business as a leading provider of state-of-the-art C5ISR systems. Among the significant developments over the year are the following:

Investment in New Business Pipeline, Market Penetration and Market Extension

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Shifts in priorities for our airborne technologies. The airborne intelligence market is a strategically important part of our business, and potentially the fastest growing. Recently, the number and size of our contracts relating to these technologies have increased, despite delays in contract awards and activity on the large EP-X and ACS programs. This market evolved into a very dynamic area with immediate demands for technologies and systems to assist warfighters that require no development. The recent and anticipated continued demand for these quickly-needed systems, along with our ability to provide an integrated suite of advanced capabilities for the large and long-term EP-X and ACS programs position us for continued success in the airborne markets.

•

Continued Investment in our Pipeline. In fiscal 2009, we invested heavily in our business development process, including investments in available business development resources, additional capabilities for available resources, and training for all personnel involved in the business development process. With these resources and capabilities, we have focused on certain strategic areas such as cyber-security, airborne reconnaissance arenas, and work for the intelligence communities. While we believe these resources and capabilities will ultimately build a strong foundation for both development and production work in these key business areas and programs, we continue to believe that the rate of new orders this fiscal year was greatly impacted by delays in program competitions and awards.

•

Award of Certain Large and Open Contract Vehicles. In fiscal year 2009, and as a result of investment in our business development resources, we were awarded and we are continuing to participate in certain large and flexible type contract vehicles. Included in this contract portfolio is a $49 million NAVAIR contract pursuant to which we will be tasked various development and production-type programs with a wide customer base. We believe these types of contracts will add to our ability to quickly deliver technologies and products to our growing customer base.

Continued Success on Core Technologies

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SSEE Increment E and SSEE Increment F. During fiscal year 2009, we continued to execute and deliver our SSEE Increment E systems while commencing work on the sixth lot of full rate production. The SSEE Increment F development program is approaching the finalization of the integration and test phase and the development model was installed on a U.S. Navy ship during the year. The SSEE Increment F technology is the flagship program providing state-of-the-art technology insertions focused on future threats as well as a service-oriented architecture to transform the sensor data into actionable information made available across the network. We expect to continue to leverage the LIGHTHOUSE capabilities from the SSEE Increment F technology into new capabilities across a multitude of programs in the near future. Further, we expect that these core technologies will continue to provide a robust, multi-year pipeline of both domestic and international sales and opportunities.

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Expanding Acoustic Sensor Technologies. We have been active in our efforts to expand sensor technologies from our torpedo defense technologies into related markets. We completed the successful delivery of three sonar array design models to complete phase two of the MK 54 torpedo production effort and we have been awarded a long-lead material contract for such efforts.

Improved Margin, Cash Generation and Cost Savings

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Margin and Cost Savings. During fiscal year 2008 and early parts of fiscal year 2009, we engaged in efforts to reduce costs in the business through the integration of accounting efforts and conversion of our systems to a common enterprise resource planning system. With these efforts and increased labor utilization, our margins improved in fiscal year 2009 despite an increase in the overall portion of cost-type work.

•

Cash Generation. Fiscal year 2009 proved an important year in the generation of cash into our business. We will continue to critically evaluate strategic uses of our cash-on-hand and future cash generation, including acquisitions.

Segments

     We have reviewed our business operations and determined that we operate in a single homogeneous business segment. Our financial information is reviewed and evaluated by our chief operating decision maker on a consolidated basis relating to the single business. Technology critical to many of our programs and engineering resources are centrally controlled and used in programs across the Company. We sell similar products and services that exhibit similar economic characteristics to similar classes of customers, primarily the U.S. government. Our revenue is internally reviewed monthly by management on an individual contract by contract basis as a single business.

Technology and Applications

     Most of our systems involve the detection and geolocation of threats and processing of information collected from the radio frequency portion of the electromagnetic spectrum, particularly communications and radar signals. We also provide underwater acoustic systems, imaging systems and systems that detect, intercept and process information passed on networks. Our systems typically require significant amounts of complex software that implement control and interface functions as well as real-time digital signal processing algorithms that are often classified. The software must track, analyze and manage large databases, platform location and orientation, precise time, and many other factors that can affect performance.

     Typically, our system development for each potential platform is contracted and managed independently by the government and has a unique set of specifications driven by particular system requirements, including intended functionality and platform, geographic region of use, and source of intelligence. Our contracts generally require full life system development and test, platform integration, and life cycle support. After we have developed a system to

customer specifications, the customer often purchases an additional number of these systems that are identical and meet its specifications. In these situations, production requires minimal additional engineering services or effort and results in efficient, lower-cost production. In some cases, standardized systems can also be sold to other customers without modification.

     We develop many of our systems using methodologies that incorporate industry leading software product line processes and commercially available hardware and software in configurations capable of being more readily deployed, adapted or upgraded by us or the customer. Our system design methodology allows us to adapt software modules and processes to meet complex specifications on varied platforms without significant re-design efforts. The benefits of our system design methodology include shorter development and implementation schedules, system flexibility, improved interoperability with systems not developed by us, and reduced system and upgrade costs to our customers.

     We actively pursue new technology for future C5ISR applications. Some new technology is developed through our internally funded research and development programs, but a larger percentage is developed under research and development contracts with government laboratories, agencies, military and intelligence organizations, and research facilities such as the Defense Advanced Research Project Agency, the Air Force Research Lab, the Office of Naval Research, Communications-electronics Research, Development and Engineering Center, and others. This research aims to prove concepts, reduce risk, and demonstrate feasibility of new technology for use in future system developments and procurements, which improve our ability to support our customers’ missions. The knowledge and understanding we gain from this research often can be an advantage in our efforts to win additional contracts, including production contracts. Recently, we have been performing research and development on areas such as advanced satellite communication systems, navigation systems, networked cryptologic operations, multi-intelligence sensors for small airborne reconnaissance, laser detection (“LADAR”) systems for precise imaging, cognitive radios, and other classified technologies.

Customers

     Our systems are currently sold primarily for the ultimate use of either the U.S. government or certain U.S. government-approved foreign governments. As a result, most of our contracts are either directly with the U.S. government or a prime contractor whose contact is directly with the U.S. government.

     The table below identifies the ultimate sources of our historical revenues. Although our revenue is dominated by our work with various agencies and commands within the U.S. Navy, other current U.S. government customers include the U.S. Army, the National Security Agency (“NSA”), the U.S. Air Force, the Defense Advanced Research Projects Agency (“DARPA”), the National Reconnaissance Office, the U.S. Marines, U.S. Special Operations Command (“SOCOM”), the Central Intelligence Agency (“CIA”), the Defense Intelligence Agency (“DIA”), the U.S. Coast Guard, and the Department of Homeland Security (“DHS”). Foreign customer sales typically involve U.S. government allies and are often funded by the U.S. government. In the current year filing we reclassified certain 2008 contracts from U.S. Navy and other U.S. governmental agencies as foreign sales. While Argon delivered to the U.S. Navy or other U.S. governmental agencies, the deliverables were ultimately part of a foreign military sale.

		Years Ended September 30,
		2009				2008				2007
United States Navy			49	%			55	%			61	%
United States Army			13	%			10	%			11	%
Other U.S. government agencies			18	%			21	%			22	%
Foreign			11	%			10	%			5	%
Commercial and other			9	%			4	%			1	%

Government Contracts

     Most of our business is conducted under contracts related to U.S. government defense, intelligence and security requirements. Certain important aspects of our government contracts are described below.

Bidding Process

     We are awarded government contracts either on a sole-source basis or through a competitive bidding process.

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Sole-source contracts. The U.S. government awards sole-source contracts when it determines that a single contractor has an expertise or technology that is superior to that of other available contractors. Sole-source contracts are awarded without a formal competition. Potential suppliers compete informally for sole-source contracts through research and development investment and marketing efforts. To obtain a sole-source contract, a contractor must identify the government’s requirements early and demonstrate a distinguishing expertise or technology promptly after the government has identified a requirement.

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Competitive-bid contracts. The U.S. government awards competitive-bid contracts based on proposal evaluation criteria established by the procuring agency. Competitive-bid contracts are awarded after a formal bid and proposal competition among providers. Interested contractors prepare a bid and proposal in response to the agency’s request for proposal or request for information. A bid and proposal is usually prepared in a short time period in response to a deadline, and requires the extensive involvement of numerous technical and administrative personnel. Following award, competitive-bid contracts may be challenged by unsuccessful bidders in a variety of ways.

     The table below shows the proportion of our revenues under sole-source and competitive-bid contracts for the periods indicated:

		Years Ended September 30,
		2009				2008				2007
Sole-Source Contracts			57	%			52	%			55	%
Competitive Contracts			43	%			48	%			45	%

Material Government Contract Provisions

     The funding of U.S. government programs is subject to Congressional appropriations. Although multi-year contracts may be authorized in connection with major procurements, Congress generally appropriates funds on a fiscal year basis, even though a program may continue for many years. Consequently, programs are often only partially funded initially, and additional funds are committed only as Congress makes further appropriations.

     All contracts with the U.S. government contain provisions, and are subject to laws and regulations, that give the government rights and remedies not typically found in commercial contracts, including rights that allow the government to:

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terminate existing contracts for convenience, which affords the U.S. government the right to terminate the contract in whole or in part anytime it wants for any reason or no reason, as well as for default;

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reduce or modify contracts or subcontracts, if its requirements or budgetary constraints change;

	•		cancel or reduce multi-year contracts and related orders, if funds for contract performance for any subsequent year become unavailable;
	•		claim rights in products and systems produced by its contractors and subcontractors;
	•		adjust reimbursable contract costs and fees on the basis of audits completed by its agencies through exercise of its oversight rights;
	•		suspend or debar a contractor from doing business with the U.S. government; and
	•		control or prohibit the export of products.

     Compensation in the event of a termination, if any, is limited to work completed at the time of termination. In the event of termination for convenience, the contractor may receive a certain allowance for profit on the work performed. Specific types of contracts can contain different termination effects, as described below under “Government Contract Categories.”

Government Contract Categories

     Our U.S. government contracts include fixed-price contracts, cost reimbursable contracts (including cost-plus-fixed fee, cost-plus-award fee, and cost-plus-incentive fee), and time and materials contracts.

Fixed-price. These contracts generally are not subject to adjustment by reason of costs incurred in the performance of the contract. With this type of contract, we assume the risk that we will be able to perform at a cost below the fixed-price, except for costs incurred because of contract changes ordered by the customer. Upon the U.S. government’s termination of a fixed-price contract, generally we would be entitled to payment for items delivered to and accepted by the U.S. government and, if the termination is at the U.S. government’s convenience, for payment of fair compensation of work performed plus the costs of settling and paying claims by any terminated subcontractors, other settlement expenses and a reasonable allowance for profit on the costs incurred.

     Fixed-price contracts are typically used for the production stages of the life cycle of our systems. Development activities similar to activities performed under previous contracts may also be covered by fixed-price contracts, due to the low risk involved. In these contracts profit margins are generally higher than the cost reimbursable contracts as cost risks are borne entirely by the contractor. Some fixed-price contracts include an award fee or an incentive fee as well as the negotiated profit. Most foreign customers, and some U.S. customers, use fixed-price contracts for design and development work even when the work is considered high risk.

Cost reimbursable. Cost reimbursable contracts include cost-plus-fixed fee contracts, cost-plus-award fee contracts and cost-plus-incentive fee contracts. Under each type of contract, we assume the risk that we may not be able to recover costs if they are not allowable under the contract terms or applicable regulations.

	•		Cost-plus-fixed fee contracts are cost reimbursable contracts that provide for payment to us of a negotiated fee that is fixed at the inception of the contract. This fixed fee does not vary with actual cost of the contract, but may be adjusted as a result of changes in the work to be performed under the contract. This contract poses less risk than a fixed-price contract, but our ability to win future contracts from the procuring agency may be adversely affected if we fail to perform within the maximum cost set forth in the contract.
	•		A cost-plus-award fee contract is a cost reimbursable contract that provides for a fee consisting of a base amount (which may be zero) fixed at inception of the contract and an award fee amount, based upon the government’s satisfaction with our performance under the contract. With this type of contract, we assume the risk that we may not receive the award fee, or only a portion of it, if we do not perform satisfactorily.

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A cost-plus-incentive fee contract is a cost reimbursable contract that provides for an initially negotiated fee to be adjusted later by a formula based on the relationship of total allowable costs to total target costs.

     Cost reimbursable contracts are primarily used for system design and development activities in the early stages of the life cycle. Cost reimbursable contracts typically have profit margins that are less than fixed price contracts as the U.S. government customer assumes the cost risk on these contracts. However, even though the U.S. Government customer bears the cost risk, the contractor is not allowed to exceed the cost ceiling on the contract without the approval of the customer. Cost reimbursable contracts are used in the early stages of the life cycle since these activities typically involve considerable risks to the contractor, including risks related to cost estimates on complex systems, performance risks associated with real time signal processing, embedded software, high performance hardware, and requirements that are not fully understood by the customer or us, the development of technology that has never been used, and interfaces with other systems that are in development or are obsolete without adequate documentation. Fees under these contracts are usually fixed at the time of negotiation; however, in some cases the fee is an incentive or award fee based on cost, schedule, and performance or a combination of those factors.

Time and materials. These contracts require us to deliver services on the basis of direct labor hours at specified fixed hourly rates that include all of our direct and indirect costs, such as wages, overhead, general and administrative expenses, and profit, and other materials at cost. With respect to these contracts, we assume the risk that we will be able to perform these contracts at these negotiated hourly rates.

     The table below shows our revenues for the periods indicated by government contract type:

		Years Ended September 30,
		2009				2008				2007
Fixed-price contracts			54	%			58	%			60	%
Cost reimbursable contracts			41	%			38	%			35	%
Time and materials contracts			5	%			4	%			5	%

Regulation

     We are subject to various statutes and regulations applicable to government contracts generally and defense contracts specifically. These statutes and regulations carry substantial penalty provisions including suspension or debarment from government contracting or subcontracting for a period of time, if we are found to have violated these regulations. Among the causes for debarment are violations of various statutes, including those related to procurement integrity, export control, government security regulations, employment practices, the protection of the environment, the accuracy of records, and the recording of costs. We carefully monitor all of our contracts and contractual efforts to minimize the possibility of any violation of these regulations.

     As a government contractor, we are subject to government audits, inquiries and investigations. We have experienced minimal audit adjustments in the past. The Defense Contract Audit Agency (“DCAA”) has completed its audit of Argon ST’s contracts through the fiscal year ended September 30, 2005. We are subject to adjustment on our performance during subsequent years.

Subcontracts

     Revenues from contracts in which we acted as a subcontractor to other contractors represented 29%, 24%, and 17% of our revenues for fiscal years ended September 30, 2009, 2008, and 2007, respectively. Unlike direct government contracts, contracting parties typically have more freedom to negotiate terms of subcontracts. Based on the customers’ requirements, our subcontracts may or may not be governed by some of the terms and provisions commonly found in government contracts, including those described above.

Backlog

     Our backlog consists of the following as of:

		As of September 30,
(Amounts in thousands)		2009				2008				2007
Funded		$	137,947			$	272,620			$	246,571
Unfunded			95,413				54,672				58,279
Total		$	233,360			$	327,292			$	304,850

     We define backlog as the funded and unfunded amount provided in our contracts, less previously recognized revenue. Contract options are estimated separately and not included in backlog until they are exercised and funded. Backlog does not include the value of a contract where the customer has given permission to begin or continue working, but where a formal contract or contract extension has not yet been signed.

     Our funded backlog does not include the full value of our contracts, because Congress often appropriates funds for a particular program or contract on a yearly or quarterly basis, or less, even though the contract may call for performance that is expected to take a number of years.

     From time to time, we will exclude from backlog portions of contract values of very long or complex contracts where we judge revenue could be jeopardized by a change in government policy. Because of possible future changes in delivery schedules and/or cancellations of orders, backlog at any particular date is not necessarily representative of actual sales to be expected for any future period, and actual sales for the year may not meet the backlog represented. We may experience significant contract cancellations that were previously booked and included in backlog.

Research and Development

     We conduct substantial research and development using both government and company funds. We use substantial internal investments to broaden the capabilities of our product line, as customer-sponsored research are not sufficient to fund these activities. Internally funded research and development provides more focused investments in areas we deemed critical to our product line development, and we use these activities to gain competitive advantage in future programs.

     Our current customers are investing in new technologies required to sustain and improve systems capabilities in a dynamic and increasingly complex threat environment. As a result, our internal investments have shifted to examinations of future technologies and to products of interest to potentially new customers.

     Our continued success depends, in a large part, on our ability to develop and deliver new technology, and to apply new technology developed by others to support our customers in meeting their C5ISR mission objectives. Total research and development expenditures incurred by us consist of the following:

		Years Ended September 30,
(Amounts in thousands)		2009				2008				2007
Internal research and development		$	8,990			$	6,656			$	7,035
Customer-funded research and development			83,200				80,005				73,397
Total		$	92,190			$	86,661			$	80,432

Competition

     Our market is highly competitive and is served by companies of varying size and capability. Large prime contractors who compete against us for C5ISR work include, but are not limited to, Boeing, BAE Systems, Finmeccanica, S.p.A., General Dynamics, Harris Corporation, ITT Corp., L-3 Communications, Lockheed Martin, Northrop Grumman, Raytheon and Rockwell Collins, Inc. Medium size firms in this market include, but are not limited to, Applied Signal Technologies, Sierra Nevada Corporation and Southwest Research Institute.

     The competition for competitive-bid contracts differs from the competition for sole-source contracts. Companies competing for competitive-bid contracts prepare bids and proposals in response to either commercial or government requests and typically compete on price or best value. Potential suppliers compete informally for sole-source contracts through research and development investment and marketing efforts. The principal factors of competition for sole-source contracts include investments in research and development, the ability to respond promptly to government needs, product price relative to performance, quality, and customer support. We believe that we compete effectively with respect to each of the factors upon which competitive and sole-source contracts are awarded.

Environmental

     We incurred no material costs in the past two years related to environmental issues.

Employees

     Our success is dependent on the skills and dedication of our employees. Our professionals include a mix of experienced professionals and recent college graduates, who combine the vitality of new ideas and the latest technical skills with experience to meet the tremendous challenges posed to a company operating in the rapidly changing security environment facing the U.S. government and its allies today.

     As of September 30, 2009, we had approximately 1,063 employees. Our business requires that a large number of our technical employees obtain security clearances from the U.S. government, which limits the available pool of eligible candidates for such positions to those who can satisfy the prerequisites to obtaining these clearances. Approximately 81% of our staff has security clearances and over 500 of our cleared employees hold Top Secret/ Sensitive Compartmented Information (TS/SCI) clearances. Our future success is dependent on attracting, retaining, and motivating qualified key management and technical personnel, whose loss could adversely affect our business materially.

Industry Overview

Government Spending

     The Department of Defense and the intelligence community use C5ISR systems on a wide and varied range of platforms, settings and locations around the world to detect, locate, evaluate, identify and respond to threats to the security and safety of the United States, its armed services and civilian population. Although the Department of Defense budgets are expected to be pressured in the short-term, due to the integral role of C5ISR in national security efforts and activities, we are expecting the impact on these markets to be less than the impact on the overall Defense budgets. Significant characteristics of the Department of Defense and expected C5ISR spending include the following:

	•		Department of Defense Budgets. As compared to the 2009 levels of Department of Defense spending, including defense spending for procurement and research and development, the 2010 Department of Defense budget is expected to increase modestly, including all special appropriations.
	•		C5ISR Spending. Consistent with the expected short-term pressure on the overall Department of Defense budgets, spending on C5ISR is expected to remain flat or decrease slightly from 2010 to

2014.The highest priorities for C5ISR spending is expected in the interoperability of current systems, increased bandwidth for mobile units, and space-based command, control, surveillance and reconnaissance systems.

	•		Change in Government Administration and Priorities. With a change in government administration in the past year, the shift in government priorities in the defense industry, and the impact of a worldwide economic downturn, we have experienced delays in the award of certain contracts.
	•		Iraq and Afghanistan Theatres of Operation. The conflicts in Iraq and Afghanistan and their escalation or de-escalation may have a significant impact on U.S. defense and other related spending.

Significant Industry Trends

     In addition to pressure on government budgets and funding, we expect the following trends to affect spending priorities and C5ISR system development and investment:

	•		Changing Communications Intelligence Needs. Communications Intelligence (“COMINT”) continues to be the premier source of information for supporting strategic decision makers and tactical commanders. With the transition from a monolithic enemy in the Cold War to the dispersed collection of possible enemies in asymmetric warfare, both the nature of the target and the COMINT requirements have changed. Communications equipment targeted by COMINT systems is no longer limited to long term, state developed, military systems and now represents the latest technology readily available in the commercial communications market, (for example, cell phones). Geolocation is no longer limited to the location of major enemy forces and strategic weapons, but now includes an individual or specific computer. These realities of modern defense and security radically change the requirements for COMINT systems. Today’s successful COMINT systems and designs must be dynamic, reprogrammable within a single mission and accommodating of new technology as it becomes available, with minimum impact and costs. Modern COMINT systems need to provide essential information within the tempo of modern warfare.
	•		Electronic Warfare/Information Operations. Information operations and electronic warfare have never been more important to warfighters and offer powerful new options to commanders. Electronic Attack (“EA”) is increasingly becoming a weapon of choice for both conflict management and non-lethal attack. We believe the trend towards the weaponization of SIGINT will increase the priority for systems which can offer both traditional ISR and EA. We also expect the need for brute force and smart jamming against Improvised Explosive Devices (“IED”) to continue to be a critical requirement anywhere the United States has military or civilian personnel in place.
	•		Multi-Intelligence Systems Integration. Dating from the Cold War era, intelligence systems were single discipline based and stood on their own individual merit. Information and data analysis across disciplines was performed by examining the end conclusions of these single discipline systems. Factors such as the need for information inside the decision cycle of today’s pace of warfare, ready use and dissemination of information from previously restricted sources, a proliferation of sensors, and improvements in making information available create a compelling case for the integration of information at the first possible opportunity. Warfighters today need “What is it, and where is it?” answered rapidly with clear information integrated from all useful sources. Meeting this demand has a profound impact on ISR system design. Modern ISR systems must develop and present accurate, reliable information in forms that can be readily combined with information from other types of sensors and systems. We expect that the trend of intelligence integration will continue and will have three important effects. First, modern ISR systems must automatically derive intelligence quickly from detectable external signal characteristics and combine this information at the raw observable level. To satisfy this requirement, newer systems

must be able to provide geolocational information on all new energy detections. Second, intelligence must be delivered in an actionable form to discreet personal devices in the hands of individual warfighters. Third, we believe the pace of war and volume of intelligence data may result in the need to execute decisions, including the use of lethal force, on the basis of machine-generated information without the benefit of human analysis. These trends will continue to place increasingly difficult demands on the accuracy, reliability, and data integrity of ISR systems.

	•		Network-Centric Warfare. The military is rapidly moving towards network-centric warfare, which seeks to deliver the warfighter real-time, executable battlefield information from multiple platforms and sources. Modern warfare requires coordinating multiple ground troops, land vehicles and aircraft (both manned and unmanned), ships and submarines. Network-centric warfare involves shared data, shared sensors, shared tasking and joint operations among multiple combat platforms and personnel and requires increasingly sophisticated, complementary and flexible C5ISR systems.
	•		Outsourcing of Support Services. A number of factors have converged to create an environment in which government is now outsourcing an increasing percentage of work previously done by the military or government civilians. The trend is pervasive across nearly all functional areas except combat forces. The nature of the work ranges from acquisition management to manning positions in intelligence and analytical operations. A continuing manpower shortage in the military, increasingly complex systems and the need to retrain system operators and maintenance personnel on rapidly changing hardware and software all point to even more outsourcing. The trend enables companies to provide the government with critical services and expertise, while they remain current with operational needs and challenges.

Business Strategies

     Our business objective is to grow our business as a leading provider of state-of-the-art C5ISR systems and services across a full range of defense and intelligence platforms. Our strategies for achieving this objective include:

	•		Continuing and Extending Business with our Current Customers. We adhere strongly to the belief that “our current customer is our best customer.” Our intention is to extend current contracts into additional capabilities and services for our existing customers. Additionally, as new technology is developed or available, we will endeavor to modify existing systems to take advantage of this new technology in the face of dynamic threats.
	•		Expanding our Customer Base for our Existing Capabilities. The software product line and other capabilities constituting our current products could offer additional customers the same compelling advantages experienced by our current customers. We intend to extend our customer set for our current and evolving products and services. We believe the adaptability and flexibility of our SIGINT and other products make them attractive in joint or coalition warfare environments.
	•		Developing New Products, Services and Customers. We believe a combination of our highly-skilled staff and leading edge technology offers opportunities into new markets. In addition, we believe that we have developed a favorable reputation for taking on and solving the most challenging technical and engineering problems. We intend to combine the results of customer funded research with internally funded technology development to develop new customers through focused marketing initiatives led by our internal professional staff, complemented by selective outside experts.
	•		Attracting and Developing Highly Skilled Personnel. Our success depends on the continued contributions of our engineers, system designers and managers. We intend to continue to hire and develop the highly-skilled professionals needed for our work. We seek to recruit exceptional recent college graduates and former key personnel from the intelligence community and Department of Defense. We believe that our management’s success in creating and maintaining a challenging and stimulating work environment has contributed to our low engineering staff

turnover over the last twelve months. We believe we can continue to attract, develop and retain employees by offering competitive compensation, challenging engineering assignments and opportunities for career and management growth.

	•		Leveraging Research and Development into Production Contracts. Many of our current systems were developed through our research and development activities. Much of our research and development is funded through research and development contracts with the U.S. government. While these contracts are generally smaller than the related production contracts and have lower profit margins, we have often been successful in expanding these activities into full production contracts. We believe our involvement in all stages of a system’s life cycle provides us opportunities to be the preferred or sole-source provider for certain systems. We intend to continue to identify and pursue programs where we can expand research and development efforts into full production contracts.
	•		Migrating our Multi-Intelligence Capabilities to Additional Platforms. Defense and intelligence customers now require C5ISR systems that integrate multiple intelligence gathering and processing capabilities. Our multi-intelligence systems have combined communications and electronic intelligence capabilities on ships, submarines and aircraft, and have combined radar and infra-red sensor capabilities for border patrols. We believe our experience and capabilities position us to win contracts to develop and produce multi-intelligence systems.
	•		Expanding our Role to Provide Support Services. We plan to continue to build on the expertise developed from supporting and servicing our rapidly expanding inventory of deployed systems, by providing those same services to similar systems. Our current infrastructure can be adapted to meet the growing requirements created by the government trend to outsource key engineering and support services.

ITEM 1A. RISK FACTORS

     Our future performance is subject to a variety of risks. If any of the following risks actually occurs, our business could be harmed and the trading price of our common stock could decline. In addition to the following risk factors, please refer to the other information contained in this report, including the historical consolidated financial statements and related notes.

Risks Related to Our Business and Operations

We rely heavily on sales to the U.S. government, particularly to agencies of the Department of Defense.

     Historically, a significant portion of our sales have been to the U.S. government and its agencies. Sales to the U.S. government, either as a prime contractor or subcontractor, represented approximately 80% and 86% of our revenues for fiscal years ended September 30, 2009 and September 30, 2008, respectively. In addition, approximately 49% of our revenues for the fiscal year ended September 30, 2009 and approximately 55% of our revenues for the fiscal year ended September 30, 2008 were derived from agencies and commands of the U.S. Navy within the Department of Defense. We expect that U.S. government sales, particularly Department of Defense sales, will continue to constitute a significant majority of our revenue for the foreseeable future. The funding of U.S. government programs is dependent on the President’s priorities, Congressional appropriations and administrative allotment of funds and is therefore subject to uncertain future funding levels that can result in delays in or termination of programs. Changing priorities in the continuing war on terrorism and national and international defense spending may positively or adversely affect funding for our programs. In addition, shifts in spending to initiatives in which we are not involved or a reduction in government defense or intelligence budgets generally could adversely affect our operating results.

Multi-year U.S. government programs are generally not fully funded at inception, and funding may be terminated or reduced at any time.

     We act as a prime contractor or subcontractor for many different U.S. government programs. Department of Defense and intelligence contracts typically involve long lead times for design and development and thus are subject to significant changes in contract scheduling. Congress generally appropriates funds on a fiscal year basis even though a program may continue for several years. Consequently, programs are often only partially funded initially, and additional funds are committed only as Congress makes further appropriations. The termination or reduction of funding for a government program would result in a loss of anticipated future revenues attributable to that program.

     Many of our government contracts span one or more base years with multiple option terms. Government agencies generally have the right not to exercise these option terms. If an option term on a contract is not exercised, we will not be able to recognize the full value of the contract awarded. Our backlog as of September 30, 2009 was $233.4 million, of which $137.9 million was funded. We exclude from backlog unexercised options on contracts. Our backlog includes orders under awards that in some cases extend several years, with the latest expiring in 2012. The actual receipt of revenues on awards included in backlog may never occur or may change because a program schedule could change or the program could be reduced, modified, or terminated early.

From time to time, we depend on revenues from a few significant contracts, and any loss or cancellation of, or any reduction or delay in, any of these contracts could significantly harm our business.

     From time to time, including recent periods, we have derived a significant portion of our revenue from one or more individual contracts that could be terminated by the customer at the customer’s discretion. Our top three production programs accounted for approximately 13%, 17% and 23% of our revenue for fiscal years ended September 30, 2009, 2008 and 2007, respectively. In the future, we may enter into one or more contracts that will constitute a significant portion of our revenue during the period of contract performance. If any of our current significant contracts or significant contracts we enter into in the future were terminated or our work under those contracts were decreased, our revenues and net income could significantly decline. There is no assurance that we will be able to diversify our customer base and curtail revenue concentration in the near future, if at all. The markets in which we sell our products are dominated by a relatively small number of governmental agencies and allies of the U.S. government, thereby limiting the number of potential customers. Our dependence on large orders from a relatively small number of customers makes our relationship with each customer critical to our business. We cannot be sure that we will be able to retain our largest customers, that we will be able to attract additional customers, or that our customers will continue to buy our systems and services in the same volume as in prior years. In addition, many of our contracts with the U.S. government contain provisions that allow the government to terminate or modify the terms of the contract, including solely at the government’s convenience. The loss of one or more of our largest customers, any reduction or delay in sales to these customers, our inability to successfully develop relationships with additional customers, or future price concessions that we may have to make could significantly harm our business.

Our U.S. government contracts generally may be terminated at the government’s convenience or for our default.

     Generally, U.S. government contracts contain provisions permitting termination, in whole or in part, at the government’s convenience or for contractor default. If a contract is terminated at the convenience of the government, a contractor is entitled to receive payments for its allowable costs and, in general, the proportionate share of fees or earnings for the work completed. Contracts which are terminated for default generally provide that the government only pays for the work it has accepted and may require the contractor to pay for the incremental cost of reprocurement and may hold the contractor liable for damages. As a substantial majority of our revenues are under U.S. government contracts, the termination of one or more critical government contracts could have a negative impact on our results of operations and financial condition. Termination arising out of any default could expose us to liability and also have a material adverse effect on our ability to re-compete for future contracts and orders. The same provisions can affect us similarly as a subcontractor to U.S. government prime contractors.

As a U.S. government contractor, we are subject to a number of procurement and operational rules and regulations with respect to federal contracts.

     We must comply with and are affected by laws and regulations relating to the formation, administration and performance of U.S. government contracts, including but not limited to the Federal Acquisition Regulations. These laws and regulations, among other things:

	•		require certification and disclosure of all cost and pricing data in connection with contract negotiations;
	•		impose accounting rules that define allowable and unallowable costs and otherwise govern our right to reimbursement under certain cost-based U.S. government contracts; and
	•		restrict the use and dissemination of information classified for national security purposes and the exportation of certain products and technical data.

     These laws and regulations affect how we do business with our domestic as well as international customers and, in some instances, impose added costs on our business. A violation of specific laws and regulations could result in the imposition of fines and penalties, the termination of our contracts, and suspension or debarment, for cause, from U.S. government contracting or subcontracting for a period of time.

Our U.S. government contracts contain provisions that may be unfavorable to us.

     Our U.S. government contracts contain provisions and are subject to laws and regulations that give the government rights and remedies not typically found in commercial contracts, including rights and remedies that allow the government to:

	•		unilaterally suspend us from receiving new contracts pending resolution of alleged violations of procurement laws or regulations;
	•		reduce the value of existing contracts; and
	•		issue modifications to a contract.

     If any of these contract provisions are enforced by our customers, our financial condition and operating results could be materially adversely affected.

     Also unlike commercial contracts, U.S. government contracts are issued pursuant to laws and regulations that:

	•		control and potentially prohibit the export of our products and services and associated materials; and
	•		give the government substantial rights in products and systems produced by us.

Our business could be adversely affected by audits performed by the U.S. government.

     U.S. government agencies, including the Defense Contract Audit Agency, routinely audit government prime contractors and subcontractors. These agencies review a contractor’s performance under its contracts, its cost structure and its compliance with applicable laws, regulations and standards. The U.S. government also may review the adequacy of, and a contractor’s compliance with, its internal control systems and policies, including the contractor’s purchasing, property, estimating, compensation and management information systems. Any costs found to be improperly allocated to a specific contract will not be reimbursed, while such costs already reimbursed must be refunded. Audits for costs incurred on our work performed after fiscal year 2005 have not yet been completed. If an

audit conducted on our business results in a finding of improper or illegal activities, we may be subject to civil and criminal penalties and administrative sanctions, including termination of contracts, forfeiture of profits, suspension of payments, fines, and suspension or prohibition from doing business with the U.S. government. In addition, we could suffer serious harm to our reputation if allegations of impropriety or illegal acts were made against us.

Our senior management is important to our customer relationships and overall business.

     We believe that our success depends in part on the continued contributions of our senior management. We rely on our executive officers and senior management to generate business and execute programs successfully. In addition, the relationships and reputation that members of our management team have established and maintain with government defense and intelligence personnel and with other contractors contribute to our ability to maintain good customer relations and to identify new business opportunities. While we have change in control agreements with our executive officers, we do not have separate employment agreements with any of our executive officers or senior management, except for our Chief Financial Officer; and these individuals, including our CFO, could terminate their employment with us at any time. The loss of any of our executive officers or members of our senior management could impair our ability to identify and secure new contracts and otherwise manage our business.

We must recruit and retain highly skilled employees to succeed in our competitive and labor-intensive business.

     An integral part of our success is our ability to provide employees who have advanced engineering, information technology and technical services skills and who work well with our customers in a government and defense-related environment. These employees are in great demand, even in a depressed economy, and are likely to remain a limited resource in the foreseeable future. If we are unable to recruit and retain a sufficient number of these employees, our ability to maintain our competitiveness and grow our business could be negatively affected. In addition, some of our contracts contain provisions requiring us to staff a program with certain personnel the customer considers key to our successful performance under the contract. In the event we are unable to provide these key personnel or acceptable substitutions, the customer may terminate the contract, and we may not be able to recover our costs in the event the contract is terminated.

Our business is dependent upon our employees obtaining and maintaining required security clearances.

     Many of our U.S. government contracts require our employees to maintain various levels of security clearances, and we are required to maintain certain facility security clearances complying with Department of Defense requirements. The Department of Defense and intelligence community have strict security clearance requirements for personnel who work on classified programs. Obtaining and maintaining personnel security clearances involves a lengthy process, and it is difficult to identify, recruit and retain employees who already hold security clearances. If our employees are unable to obtain security clearances in a timely manner, or at all, or if our employees who hold security clearances are unable to maintain the clearances or terminate employment with us, the customer whose work requires cleared employees could terminate the contract or decide not to renew it upon its expiration. In addition, we expect that many of the contracts on which we will bid will require us to demonstrate our ability to obtain facility security clearances and perform work with employees who hold specified types of security clearances. To the extent we are not able to obtain facility security clearances or engage employees with the required security clearances for a particular contract, we may not be able to bid on or win new contracts, or effectively rebid on expiring contracts.

Cost over-runs on our contracts could subject us to losses or adversely affect our future business.

     Under fixed-price contracts, we receive a fixed amount irrespective of the actual costs we incur and, consequently, we absorb any costs in excess of the fixed amount. Fixed-price contracts represented approximately 54% and 58% of our revenues for the fiscal years ended September 30, 2009 and September 30, 2008. Under time and materials contracts, we are paid for labor at negotiated hourly billing rates and for certain expenses. Under cost reimbursable contracts, which are subject to a contract ceiling amount, we are reimbursed for allowable costs and paid a fee, which may be fixed or performance-based. However, if our costs exceed the contract ceiling or are not allowable under the provisions of the contract or applicable regulations, we may not be able to obtain reimbursement for all such costs; and even if our overrun costs are reimbursed, our fee dollars will not increase. Under each type of

contract, if we are unable to control costs we incur in performing under the contract, our financial condition and operating results could be materially adversely affected. Cost overruns also may adversely affect our ability to sustain existing programs and obtain future contract awards. See “Item 1. Business — Government Contracts — Government Contract Categories” above.

Our quarterly operating results may vary widely.

     Our quarterly revenues and operating results may fluctuate significantly in the future. A number of factors cause our revenues, cash flow and operating results to vary from quarter to quarter, including:

	•		fluctuations in revenues derived from fixed-price contracts and contracts with a performance-based fee structure;
	•		commencement, completion or termination of contracts during any particular quarter;
	•		personnel changes among senior U.S. government officials that affect the timing of technology procurement;
	•		changes in policy or budgetary measures that adversely affect government contracts in general or our business areas specifically; and
	•		increased purchase requests from customers for equipment and materials in connection with the U.S. government’s fiscal year end, which may affect our fiscal fourth quarter operating results.

     Changes in the volume of services provided under existing contracts and the number of contracts commenced, completed or terminated during any quarter may cause significant variations in our cash flow from operations because a relatively large amount of our expenses are fixed. We incur significant operating expenses during the start-up and early stages of large contracts and typically do not receive corresponding payments in that same quarter. We may also incur significant or unanticipated expenses when contracts expire or are terminated or are not renewed. In addition, payments due to us from government agencies may be delayed due to billing cycles or funding hiatuses as a result of failures of governmental budgets to gain Congressional or administrative approval or implementation in a timely manner.

Our earnings and profit margins may vary based on the mix of our contracts and programs and other factors related to our contracts.

     In general, we perform our developmental work under cost reimbursable and fixed-price development contracts and our production work under fixed-price production contracts. See “Item 1. Business — Government Contracts — Government Contract Categories” above. We typically experience lower profit margins under cost reimbursable and fixed-price development contracts than under fixed-price production contracts. In general, if the volume of services we perform under cost reimbursable and fixed-price development contracts increases in proportion to the volume of services we perform under fixed-price production contracts, our operating results may suffer. In addition, our earnings and margins may vary materially depending on the costs we incur in contract performance, our achievement of other contract performance objectives, and the stage of our performance at which our right to receive fees, particularly under incentive and award-fee contracts, is finally determined.

We derive significant revenues from contracts awarded through a competitive bidding process.

     We derive significant revenues from U.S. government contracts that were awarded through a competitive bidding process. Revenues from competitive-bid contracts constituted approximately 43% and 48% of our revenues for the fiscal years ended September 30, 2009 and September 30, 2008, respectively. Much of the business that we expect to seek in the foreseeable future likely will be awarded through competitive bidding. Competitive bidding presents a number of risks, including:

	•		the need to bid on programs in advance of the completion of their design, which may result in unforeseen technological difficulties and cost over-runs;
	•		the substantial cost and managerial time and effort that we spend to prepare bids and proposals for contracts that may not be awarded to us;
	•		the need to accurately estimate the resources and cost structure that will be required to service any contract we are awarded; and
	•		the expense and delay that may arise if our competitors protest or challenge contract awards made to us pursuant to competitive bidding, and the risk that any such protest or challenge could result in the resubmission of bids on modified specifications, or in termination, reduction or modification of the awarded contract.

     We may not be provided the opportunity to bid on contracts that are held by other companies and are scheduled to expire if the government determines to extend the existing contract. If we are unable to win particular contracts that are awarded through a competitive bidding process, we may not be able to operate in the market for programs that are provided under those contracts for a significant period of time. If we are unable to consistently win new contract awards over any extended period, our business and prospects will be adversely affected.

We face competition from other firms, many of which have substantially greater resources.

     We operate in highly competitive markets and generally encounter intense competition to win contracts. We compete with many other firms, ranging from smaller specialized and medium-sized firms such as Applied Signal Technologies, Southwest Research Institute, and Sierra Nevada Corp., to large diversified firms such as Boeing, BAE Systems, General Dynamics, Harris Corporation, L-3 Communications, Lockheed Martin, Northrop Grumman and Raytheon, many of which have substantially greater financial, management and marketing resources than we have. Our competitors may be able to provide customers with different or greater capabilities or benefits than we can provide in areas such as technical qualifications, past contract performance, geographic presence, price and the availability of key professional personnel. In order to successfully secure contracts when competing with larger, well-financed companies, we may be forced to agree to contractual terms which provide for lower aggregate payments to us over the life of the contract, which could adversely affect our margins. In addition, larger diversified competitors serving as prime contractors may be able to supply underlying products and services from affiliated entities, which would prevent us from competing for subcontracting opportunities on these contracts. Our failure to compete effectively with respect to any of these or other factors could have a material adverse effect on our business, prospects, financial condition or operating results. In addition, our competitors have established or may establish relationships among themselves or with third parties to increase their ability to address customer needs. Accordingly, it is possible that new competitors or alliances among competitors may emerge. See “Item 1. Business — Competition” above.

Our business depends upon our relationships with, and the performance of, our prime contractors.

     Revenues from contracts in which we acted as a subcontractor to other contractors represented 29% and 24% of our revenues for the fiscal years ended September 30, 2009 and September 30, 2008, respectively. We expect to continue to depend on relationships with other contractors for a substantial portion of our revenues in the foreseeable future. Our business, prospects, financial condition or operating results could be adversely affected if other contractors eliminate or reduce their subcontracts or other relationships with us, either because they choose to establish relationships with our competitors, or because they choose to directly offer services that compete with our business, or if the government terminates or reduces these other contractors’ programs or does not award them new contracts.

     In addition, on those contracts for which we are not the prime contractor, the U.S. government could terminate a prime contract under which we are a subcontractor, irrespective of the quality of our performance as a subcontractor. A prime contractor’s performance deficiencies or government budgetary or funding constraints could adversely affect our status as a subcontractor on the program, jeopardize our ability to collect award or incentive fees, cause customers to delay payments, or result in contract termination.

If our subcontractors or suppliers fail to perform their contractual obligations, our contract performance and our ability to obtain future business could be materially and adversely affected.

     Many of our contracts involve subcontracts to other companies upon which we rely to perform a portion of the services we must provide to our customers. There is a risk that we may have disputes with our subcontractors, including disputes regarding the quality and timeliness of the work performed, customer concerns about a subcontractor’s performance, extension of existing task orders or issuance of new task orders under a subcontract, or hiring of each other’s personnel. A failure by one or more of our subcontractors to timely provide the agreed-upon supplies or perform the agreed-upon services may materially and adversely affect our ability to perform our obligations as the prime contractor. Subcontractor performance deficiencies could result in a customer terminating our contract for default. A default termination could expose us to liability, damage our reputation, distract management’s attention from the operation of our business and have a material adverse effect on our ability to compete for future contracts and orders. In addition, a delay in our ability to obtain components and equipment parts from our suppliers may affect our ability to meet our customers’ needs and may have an adverse effect upon our profitability.

Our employees or subcontractors may engage in misconduct or other improper activities.

     We are exposed to the risk that employee fraud or other misconduct could occur. In addition, from time to time, we enter into arrangements with subcontractors to bid on and execute particular contracts or programs and we are exposed to the risk that fraud or other misconduct or improper activities by subcontractor personnel may occur. Misconduct by our employees or subcontractors could include intentional failures to comply with laws, procurement regulations or the terms of contracts that we receive. Misconduct by our employees or subcontractors could also involve the improper collection, handling or use of our customers’ sensitive or classified information, which could result in regulatory sanctions and serious harm to our reputation. As a result of employee or subcontractor misconduct, we could face fines and penalties, loss of security clearance, and/or suspension or debarment from performing U.S. government contracts. It is not always possible to deter misconduct by employees or subcontractors. The precautions we take to prevent and detect such activity may not be effective in controlling unknown or unmanaged risks or losses and such misconduct by employees or subcontractors could result in serious civil or criminal penalties or sanctions and greatly harm our reputation. In addition, recent changes to federal procurement laws have created new contractor responsibilities to investigate suspected misconduct and make reports to the government, which could increase our internal costs, if we comply, and increase risk of penalties, if we do not. Finally, our prime contractors or our subcontractors could violate these laws, which might impact future business with them.

If we are unable to manage our growth, our business could be adversely affected.

     Sustaining our growth has placed significant demands on our management, as well as our administrative, operational and financial resources. For us to continue our growth, we must continue to update our operational, financial and management information systems and expand, motivate and manage our workforce. If we are unable to manage our growth while maintaining our quality of service and profit margins, or if new systems that we implement to assist in managing our growth do not produce the expected benefits, our business prospects, financial condition or operating results could be adversely affected.

Our international business poses potentially greater risks than our domestic business.

     International sales represented approximately 11% and 10% of our revenues for the fiscal years ended September 30, 2009 and September 30, 2008, respectively. Our international business tends to have more risk than our domestic business due to the greater potential for volatility in foreign economic and political environments, including changes in foreign national priorities and government budgets. International transactions frequently involve increased financial and legal risks arising in part from laws, regulations and customs differing from or in conflict with U.S. laws, regulations or customs, stringent contractual terms and conditions, and laws and regulations governing U.S. imports and exports. We currently do not have any significant foreign currency guarantees; however, if in the future we are required to guarantee certain purchase guarantees in foreign currencies, fluctuations in currency exchange rates may have an adverse impact on our operations.

We may not be able to receive or retain the necessary licenses or authorizations required to sell our systems and provide services overseas.

     All of our military and commercial products are subject to the U.S. export laws and regulations. Exports of commercial products, software, technology and services are subject to controls under the Export Administration Regulations (EAR) and exports of military products, software, technical data and services are subject to controls under the International Traffic in Arms Regulations (ITAR). Export activities subject to these controls include commercial marketing efforts and sales to foreign government and foreign companies, Foreign Military Sales to foreign governments, participation in foreign trade shows, working with brokers/agents, procurements involving foreign companies or companies with foreign locations, shipments of products, software and information (including U.S. government inventory) to U.S. government facilities overseas, and the hiring of foreign persons to work as employees and contractors in our facilities. The U.S. Departments of Commerce and State are the final authorizing authority for all exports. Export requests are reviewed by various government agencies for a number of reasons, including their impact on U.S. national security and foreign policy goals. Any request that runs counter to these goals may be denied or prohibited. Our ability to export is dependent upon our ability to obtain the appropriate export authorization from the U.S. government for our activities. Export authorizations are strictly dependent upon current U.S. government export policies regarding the specific technology or product and the country(ies) involved.

Our systems and products may be rendered obsolete if we are unable to adapt to the rapid technological changes in our industry.

     The rapid development of technology, including that in the defense and intelligence industry, as well as rapidly changing demands for new or different technologies in reaction to government defense and intelligence needs, continually affects system designs and product applications and may directly impact the performance of our systems and products. We may not be able to successfully maintain or improve the effectiveness of our existing systems, identify new opportunities, or continue to have the necessary financial resources to design and develop new systems or products in a timely and cost-effective manner. In addition, systems or products manufactured by others may render our products and systems obsolete or non-competitive. If any of these events occur, our business prospects, financial condition and operating results will be materially and adversely affected.

We rely on a limited number of suppliers and manufacturers for specific components, and if our supplies are interrupted, we may not be able to obtain substitute suppliers and manufacturers on terms that are as favorable to us.

     Although we generally use standard parts and components for our systems, we rely on non-affiliated suppliers for certain components and licensed technology that are incorporated into all of our systems. If these suppliers or manufacturers experience financial, operational, manufacturing capacity or quality assurance difficulties, or if there is any other disruption in our relationships, we will be required to quickly locate alternative sources of supply. Our inability to obtain sufficient quantities of these components, if and as required in the future, entails a number of risks, including:

	•		delays in delivery or shortages in components or licensed technology could interrupt and delay production and result in cancellations of orders for our systems;
	•		alternative suppliers could increase component prices significantly; and
	•		we may not be able to develop alternative sources for the components or licensed technology.

Our system design and development activities rely on extensive use of advanced components for hardware and software.

     Our system design and development activities rely on extensive use of purchased hardware components and software. The hardware we generally use includes receivers, analog converters, antennas, radio frequency distribution systems, servers and disk drives, as well as piece parts for specified purpose design. If any of the hardware we use becomes obsolete prematurely or fails to perform as expected, we would have to find replacement hardware, and that could result in added expenses, schedule or delivery delays and customer dissatisfaction.

     Software utilized by us consists generally of widely used commercial software products and more specific use software licensed from other companies. Widely used commercial software is generally upgraded frequently. If our customers do not agree to regular upgrades of the systems we provide using this software, the systems may become obsolete and could result in customer dissatisfaction and cancellation or non-renewal of orders. In the event that we lose access to the more specific use software due to a dispute with the licensor or other reasons, or if the software manufacturer refuses specific upgrades, we would have to find a replacement for the software containing the necessary functionality, which could result in unplanned expenses, system problems and customer dissatisfaction. In addition, any allegations of patent infringement or copyright violations by third parties could impact our ability to use these products.

Our future success will depend in part on our ability to meet the changing needs of our customers.

     Virtually all of the systems designed and sold by us are highly engineered and require sophisticated design, software implementation and system integration techniques and capabilities. The system and program needs of our government customers regularly change and evolve. There is no assurance that we will at all times have at our disposal the engineering, technical and manufacturing capabilities necessary to meet these evolving needs.

We may be liable for system and service failures.

     We design, implement and maintain communications and information technology systems that are often critical to our customers’ operations, including the operations of government defense and intelligence agencies and their personnel. We have experienced and may in the future experience some system and service failures, schedule or delivery delays and other problems in connection with our work. If our systems, services, products or other applications have significant defects or errors, are subject to delivery delays or fail to meet customers’ expectations, we may:

	•		lose revenues due to adverse customer reaction;
	•		be required to provide additional services to a customer at no charge;
	•		receive negative publicity, which could damage our reputation and adversely affect our ability to attract or retain customers; or
	•		suffer claims for substantial damages.

     In addition to any costs resulting from product warranties, contract performance or required corrective action, these failures may result in increased costs or loss of revenues if they result in customers postponing subsequently scheduled work or canceling or failing to renew contracts.

     While many of our contracts limit our liability for damages that may arise from negligence in rendering services to customers, we cannot be sure that these contractual provisions will protect us from liability for damages if we are sued. Furthermore, our errors and omissions and product liability insurance coverage may not continue to be available on reasonable terms or in sufficient amounts to cover one or more large claims, or the insurer may disclaim coverage as to some types of future claims. Successful assertion of any large claim against us could seriously harm our business. Even if not successful, these claims could result in significant legal and other costs, may be a distraction to our management and may harm our reputation in the industry. In certain new business areas, including in the area of homeland security, we may not be able to obtain sufficient indemnification or insurance and may decide not to accept or solicit business in these areas.

Security breaches by us could adversely affect our business.

     Many of the programs we support and systems we develop, install and maintain involve managing and protecting information involved in intelligence, national security and other classified government functions. A security breach by us or our employees in the course of our development, production or service activities could cause serious harm to our business, damage our reputation and prevent us from being eligible for further work on

critical classified systems for U.S. government customers. Losses that we could incur from such a security breach could exceed the policy limits under our errors and omissions or product liability insurance.

Developing new technologies entails significant risks and uncertainties that may not be covered by indemnity or insurance.

     We are exposed to liabilities that are unique to the systems and services we provide. A significant portion of our business relates to designing, developing and manufacturing advanced communications and technology systems and products used in military defense and intelligence systems and products. New technologies are often untested or unproven. In addition, from time to time, we have employees deployed on-site at active military installations or locations. Although indemnification by the U.S. government may be available in some instances for our defense activities, U.S. government indemnification may not be available to cover potential claims or liabilities resulting from a failure of technologies developed by us and deployed in our systems.

     Substantial claims resulting from an accident in excess of U.S. government indemnity and our insurance coverage could harm our financial condition and operating results. Moreover, any accident or incident for which we are liable, even if fully insured, could negatively affect our reputation, thereby making it more difficult for us to compete effectively, and could significantly impact the cost and availability of adequate insurance in the future.

Our failure to protect our proprietary technology may adversely affect our business and impair our ability to compete effectively.

     Our success and ability to compete is dependent in part on our proprietary technology developed by highly skilled employees who are experienced in designing and developing complex communications and information technology systems. We rely primarily on trade secrets and confidentiality procedures to protect our proprietary technology. These measures can only provide limited protection. Unauthorized third parties may try to copy or reverse engineer portions of our systems or products or otherwise obtain and use our intellectual property. If there is a failure of protection of our intellectual property rights, our competitors may gain access to our technology, potentially resulting in a loss of competitive advantage and decreased revenues. Legal standards relating to the validity, enforceability and scope of protection of intellectual property rights are evolving and sometime differ from jurisdiction to jurisdiction, and the laws of some foreign countries may not be as protective of intellectual property rights as those in the U.S. Accordingly, despite our efforts, we may be unable to prevent third parties from infringing upon or misappropriating our intellectual property or otherwise gaining access to our technology, which could harm our competitive position and our results of operations.

The U.S. government’s right to use technology developed by us limits our intellectual property rights.

     We do not have the right to prohibit the U.S. government from using certain technologies developed by us or to prohibit third parties, including our competitors, from using those technologies to provide products and services at the request of the U.S. government. The U.S. government has the right to royalty-free use of technologies that we have developed under U.S. government contracts. We are free to commercially sell those government funded technologies and may assert our intellectual property rights to seek to block other non-government users thereof, but we are not assured of success in doing so.

We may be affected by intellectual property infringement claims.

     Our business operations rely extensively on procuring and deploying intellectual property. Our employees develop some of the software solutions and other forms of intellectual property that we use to provide information products and solutions to our customers, but we also procure a significant amount of the technology used in our business from primary vendors. While we require assignments of rights by our employees and see that licenses are in place for third-party technology, we may in the future be subject to claims from our employees or third parties who assert that software solutions and other forms of intellectual property that we use in delivering services and solutions to our customers infringe upon the intellectual property rights of such employees or third parties. If our vendors, employees or third parties assert claims that we or our customers are infringing on their intellectual property, we could incur substantial costs to defend these claims and management’s attention could be diverted from

the operation of our business. In addition, if any of these infringement claims are ultimately successful, we could be required to:

	•		cease selling or using products or services that incorporate the challenged software or technology;
	•		obtain a license or additional licenses involving additional costs for use; or
	•		redesign systems and products that rely on the challenged software or technology.

Risks Related to Accounting Matters and Our Internal Control over Financial Reporting

If we fail to comply with requirements relating to internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act, our business could be harmed and our stock price could decline.

     Rules adopted by the Securities and Exchange Commission pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 require us to assess our internal control over financial reporting annually. The rules governing the standards that must be met for management to assess our internal control over financial reporting are complex. They require significant documentation, testing, and possible remediation of any significant deficiencies in and/or material weaknesses of our internal controls in order to meet the detailed standards under these rules. Although we have evaluated our internal controls and determined they are effective as of September 30, 2009, in future fiscal years, we may encounter unanticipated delays or problems in assessing our internal controls as effective or in completing our assessments by the required dates. In addition, we cannot assure you that our independent registered public accountants will attest to our internal controls as being effective in future fiscal years. If we determine that our internal controls are not effective, investor confidence and share value may be negatively impacted.

     We have incurred substantial operating costs in connection with the completion of our implementation and assessment and the auditor attestation under Section 404 of the Sarbanes-Oxley Act with respect to each of our fiscal years 2009, 2008 and 2007, and we expect to incur substantial operating expenses in meeting the requirements relating to internal control over financial reporting in the future. In addition, no assurance can be made that the operating expenses we incur in the future with respect to internal controls compliance will not exceed management’s expectations.

We may incur material impairment charges related to mergers and acquisitions.

     We have recognized $173.9 million of goodwill and $28.3 million of other amortizable long-lived assets, including customer-related and other intangible assets in connection with mergers and acquisitions as of September 30, 2009. Under U.S. Generally Accepted accounting principles (GAAP), the goodwill is reviewed annually unless circumstances or events indicate that an impairment test should be performed sooner, and other long-lived assets are reviewed at the time circumstances or events indicate that an impairment test should be performed to determine if there has been any impairment to their value. The review for impairment is based on several factors requiring judgment. Principally, a decrease in expected reporting unit cash flow, loss of expected contracts or customer relationships, or a change in market conditions may indicate potential impairment of recorded goodwill or other long-lived assets. We performed the test during the fourth quarter of fiscal year 2009 and found no impairment to the carrying value of goodwill or intangibles. In fiscal year 2007, we recognized a loss of $6.7 million with respect to the impairment of certain customer-related intangible assets originally recorded in connection with our acquisitions of SDRC, ProDesign and IRIS. Impairment of long-lived assets, including goodwill, in the future could have a material adverse effect on our results of operations.

We may be required to reduce our profit margins on contracts on which we use the percentage-of-completion accounting method.

     We record sales and profits on many of our contracts using the percentage-of-completion method of accounting. As a result, revisions made to our estimates of sales and profits are recorded in the period in which the conditions that require such revisions become known and can be estimated. Although we believe that our profit margins are fairly stated and that adequate provisions for losses for our fixed-price contracts are recorded in our

financial statements, as required under GAAP, we cannot assure you that our contract profit margins will not decrease or our loss provisions will not increase materially in the future.

Additional Risks Related to Our Commercial Business and Operations

     Risks that apply to our company as a whole also apply to our commercial business, and many of the same risks that can affect our government work can also affect our commercial work. There are additional risk factors, however, that are unique to our commercial business and operations.

Our commercial business is in its infancy.

     Our reputation was built within the government contracting arena. We do not have established credentials within the commercial marketplace, including contacts. The expansion of our footprint in the commercial world is a new initiative. As a result, our ability to attract commercial customers is very small in comparison with other companies in our industry who have a long-standing presence in the commercial world. Any inability to attract commercial clients means that our commercial business will be curtailed and could potentially disappear, causing harm to our revenues and profits.

Our company is structured primarily for doing government business.

     Historically, a significant portion of our sales have been to the U.S. government and its agencies. The conduct of business, including marketing, bidding, procurement, pricing, contract terms and negotiations, is substantially different between the government and commercial customers. The majority of our personnel who price and negotiate contracts have their experience in the government, not the commercial, arena.

Our commercial customers and contracts are fewer, therefore our performance for them is more critical in the commercial marketplace.

     Our reputation in the commercial marketplace is currently dependent upon the work we do for and the references we receive from a narrow group of clients. Our dependence on large orders from a relatively small number of customers makes our relationship with each customer critical to our business. Our success will depend on our continued ability to develop and manage relationships with these significant customers and other customers in the future. There is no assurance that we will be able to diversify our customer base and curtail revenue concentration in the near future, if at all. We cannot be sure that we will be able to retain our largest customers, that we will be able to attract additional customers, or that our customers will continue to buy our systems and services in the same volume as in prior years. The loss of one or more of our largest customers, any reduction or delay in sales to these customers, our inability to successfully develop relationships with additional customers, or future price concessions that we may have to make could significantly harm our commercial business.

Our commercial contracts may contain provisions that are unfavorable to us.

     Particularly in work for foreign companies, where the manner of contracting may be very different and the expectations of contractual obligations more onerous on suppliers, we may be faced with risks of doing business that are less favorable than the risks resulting from doing business in the United States. Apart from that, even in the U.S., contracts negotiated between companies are usually a give-and-take prospect, with the side having the greater leverage being able to insist on concessions. While our intent is always only to take on manageable risks, we could encounter situations in the commercial market where our contractual risk is either higher than we would like, or where the risk is so great that we will have to walk away from the opportunity. Either type of situation could negatively affect our revenues and/or our profits.

Commercial work is highly dependent upon customer demand.

     Our ability to attract commercial work is linked to our ability to develop and produce items of value in the commercial marketplace. If customers do not want to buy what we build, if demand for the commercial systems on which we work does not materialize or continue, or if our work on commercial programs is not timely or cost-effective, we will lose any foothold in the commercial market.

Commercial work is highly dependent upon the business plans and financial health of the companies who contract with us.

     Because we do not deal directly with end-user consumers, our ability to obtain and maintain work in the commercial market is solely dependent upon the ability of other companies to do business with us. If these businesses change their market plans or strategy, if they sell off divisions, if they suffer financial set-backs for whatever reason, or if they merge with another company who does not want to continue a particular business sector, our future in the commercial marketplace could be severely curtailed or could disappear.

Commercial work in our industry is based upon rapidly changing technology.

     If we are unable to make investment in constantly updated technology, or if we are unable to find commercial business partners who are willing to bear part of the brunt of financial investment in developing technology, we will be unable to keep up with the changes in product refinement and we will lose our place in the commercial market.

Risks Related to Acquisitions

We intend to continue to pursue selective acquisitions, which may prove difficult in the current acquisition environment for defense and intelligence businesses.

     One of our key growth strategies is to pursue selective acquisitions. Since October 1, 2005, we have acquired Radix Technologies, Inc., San Diego Research Center, Inc., and Innovative Research, Ideas and Services Corporation as well as certain assets of Coherent Systems International, Corp. and ProDesign Solutions LLC, and we intend to continue to evaluate additional strategic acquisitions. Current valuations for businesses in the government, defense and intelligence sectors in which we operate are at historically high levels, and there is intense competition from government contractors of all types and sizes, commercial information technology providers, special purpose acquisition companies and private equity firms for acquisition candidates operating in these sectors. In addition, we intend to seek to acquire businesses with specialized technology capabilities and products that complement or expand our existing capabilities and products, businesses that expand our relationships with existing customers, or businesses that offer us opportunities to diversify or expand our customer base. Other prospective purchasers who have substantially greater resources may offer to acquire such businesses upon economic terms that are hard for us to match. We may not be able to identify and execute suitable acquisitions in the future on terms that are favorable to us, or at all. In addition, given the current economic environment, we may not be able to obtain sufficient capital to pursue those acquisitions which may have favorable terms.

Acquisitions involve costs and other risks, and may not have the benefits we expect.

     In connection with acquisitions we make, we may incur significant acquisition expenses as well as amortization expenses related to intangible assets. During fiscal year 2007, we recorded a $6.7 million impairment charge for the impairment of customer related intangible assets in connection with our acquisitions of SDRC, ProDesign and IRIS. We may incur significant write-offs in the future for impairment of goodwill or intangible assets associated with companies, businesses or technologies that we acquire. Our operating results could be adversely affected by these expenses and write-offs. Moreover, any acquisition could involve other risks, including:

	•		diversion of management’s attention from existing operations;
	•		potential loss of key employees or customers of acquired companies;
	•		exposure to unforeseen liabilities of acquired companies; and
	•		financial reporting irregularities as a result of deficient internal controls and disclosure controls and procedures of acquired companies.

     In addition, the success of our acquisition strategy will depend upon our ability to successfully integrate any businesses we may acquire in the future. The integration of these businesses into our operations may result in unforeseen events or operating difficulties, absorb significant management attention and require significant financial resources that would otherwise be available for the ongoing development of our business. These integration difficulties could include:

	•		the integration of personnel with disparate business backgrounds;
	•		the transition to new information systems;
	•		the coordination of geographically dispersed organizations;
	•		the reconciliation of different corporate cultures, pay structures and benefits plans;
	•		laws regarding business and employees that differ from those in states where we currently do business; and
	•		the synchronization of disclosure and financial reporting controls of acquired companies with our controls and, where applicable, improvement of the acquired company’s controls.

     Since we have surpassed the 750 employee size standard eligibility for new awards under the Small Business Innovative Research (“SBIR”) program, any “small business” company we acquire will likely lose its eligibility to bid on new SBIR contracts once it is acquired by us. In addition, the imposition of Small Business Administration rules requiring small businesses to recertify as to their small business status before award of options or extensions to existing contracts may limit our ability to meet our growth objectives from acquired small businesses. For these or other reasons, we may be unable to retain key customers of acquired companies or to retain or renew contracts of acquired companies. Moreover, any acquired business may fail to generate the revenue or net income we expected or produce the efficiencies or cost-savings that we anticipated. Any of these outcomes could materially adversely affect our operating results.

Acquisitions may require us to incur debt or issue dilutive equity.

     Our acquisition strategy may require us to incur debt or sell equity, resulting in additional leverage or dilution of ownership. Any debt we would incur to finance acquisitions would likely involve restrictions on our operations and require us to maintain certain financial ratios and secure the debt with our assets, such as accounts receivable.

Risk Related to Ownership of Our Common Stock

Our current and former executive officers, whose interests may not be aligned with yours, may be able to control the vote on matters requiring stockholder approval.

     As of November 16, 2009 our current executive officers (Terry L. Collins, Kerry M. Rowe and Aaron N. Daniels) collectively held approximately 13% of our total outstanding shares of common stock entitled to vote on matters requiring stockholder approval and, together with former executive officers Thomas E. Murdock, S. Kent Rockwell and Victor F. Sellier, our current and former executive officers held approximately 36% of our outstanding common stock entitled to vote on such matters as of November 16, 2009. Accordingly, our current and former executive officers as a group may control the vote on matters requiring stockholder approval, including the election of directors or certain corporate transations. The interests of our executive officers may not be fully aligned with yours. Although there is no agreement among our executive officers with respect to the voting of their shares, this concentration of ownership may delay, defer or even prevent a change in control of our company, and make transactions more difficult or impossible without the support of all or some of our executive officers. These transactions might include proxy contests, tender offers, mergers or other purchases of common stock that could give you the opportunity to realize a premium over the then-prevailing market price for shares of our common stock.

ITEM 1B. UNRESOLVED STAFF COMMENTS

     None.

ITEM 2. PROPERTIES

     We conduct a major portion of our operations at our headquarters located at 12701 Fair Lakes Circle, Fairfax, VA 22033. This is a 10 story building in a mixed use office park that includes commercial, residential, and retail properties. Our leased space encompasses 165,000 square feet of the 253,000 square feet available in the building. This space includes office, laboratory and meeting areas suitable for our classified and unclassified government work. This lease extends until February 2015.

     We believe that our leased facilities are suitable for the operations we have in each of them. In addition, provisions in our headquarters lease give us opportunities for additional space should our growth require facilities expansion. The table below sets forth certain information about our principal facilities.

		Estimated
		Square								Principal
Address		Feet				Lease Term		Description		Activity
12701 Fair Lakes Circle			165,000			Leased,		Multi-floor tenant		Engineering/
Fairfax, VA 22033						Expiration		in ten-story office		Administration
						Date:		building.
						2/28/2015
99 Spruce St			90,000			Leased,		One-story facility.		Engineering/
Windber, PA 15963						Expiration				Production/
						Date:				Administration
						9/30/2012
8419 Terminal Road			67,220			Leased,		Two one-story and		Engineering/
Newington, VA 22122						Expiration		one partial two-		Production/
						Date:		story adjacent		Administration
						6/30/2014		block buildings in
								an industrial park.
90 Laurel View Drive			66,000			Leased,		One-story facility.		Engineering/
Smithfield, PA 15478						Expiration				Production/
						Date:				Administration
						9/15/2013
Mesa Ridge Road			39,939			Leased,		Two-story		Engineering/
San Diego, CA 92121						Expiration		facilities.		Administration
						Date:
						8/31/2010
1386-1390 Connellsville Rd			30,000			Leased,		One-story facility.		Engineering/
Lemont Furnace, PA 15456						Expiration				Production
						Date:
						4/1/2014

     In addition to the facilities listed above, we lease office space at 12 other locations with an aggregate space of approximately 60,000 square feet. These facilities are located in:

	•		Ventura, California;
	•		Orlando, Ft. Walton Beach, Largo, and Tampa, Florida;
	•		Annapolis Junction and Lexington Park, Maryland;
	•		Ann Arbor, Michigan;
	•		Camden, New Jersey;
	•		Doylestown, Pennsylvania; and
	•		Copperas Cove and San Antonio, Texas.

ITEM 3. LEGAL PROCEEDINGS

     On November 1, 2007, the Company filed suit in the Circuit Court of Fairfax County, Virginia, against Optical Air Data Systems, LLC (“OADS”) seeking approximately $642,000 in damages with respect to OADS’ failure to pay the Company for work performed under a subcontract with OADS in 2004 and 2005. On November 1, 2007, the Company was served with a complaint filed by OADS in the Circuit Court of Prince William County, Virginia, alleging one count of breach of contract and one count of breach of confidential disclosure agreement relating to the Company’s work under the OADS subcontract. The Company’s above-noted claim under the subcontract became a counterclaim in the lawsuit OADS filed against the Company in Prince William County, Virginia Circuit Court. On May 16, 2008, OADS amended its complaint to further allege that the Company conspired with a former OADS employee to damage OADS’ business, that the Company tortiously interfered with the employee’s employment agreements with OADS and that the Company interfered with OADS’ future business expectancies. On August 15, 2008, OADS further amended its Complaint to allege that the Company misappropriated OADS’ unspecified trade secrets and to seek injunctive relief. The damages claimed under the OADS’ complaint as amended were compensatory damages in excess of $400 million, unspecified punitive damages and attorneys’ fees, treble damages under one count relating to an alleged combination to injure OADS’ trade or business, and double damages under the trade secrets claim. The Company maintained its belief throughout that OADS’ claims and alleged damages were completely without merit. Trial was held as scheduled in March 2009. On March 18, 2009, prior to the end of trial, the parties entered into a settlement agreement, the terms of which are confidential. As a result of the settlement, both parties agreed to dismissal of their respective claims on March 19, 2009.

     We are subject to litigation, from time to time, in the ordinary course of business including, but not limited to, allegations of wrongful termination or discrimination.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

     There were no matters submitted to a vote of security holders during the fourth quarter of our fiscal year ended September 30, 2009.

SUPPLEMENTAL ITEM. EXECUTIVE OFFICERS OF THE REGISTRANT

     The following is a list of our executive officers, including their names, ages and offices held, as of December 4, 2009.

Name		Age				Position with Registrant
Terry L. Collins, Ph.D.			64			Chairman of the Board and Chief Executive Officer
Kerry M. Rowe			50			President and Chief Operating Officer
Aaron N. Daniels			48			Vice President, Chief Financial Officer and Treasurer

PART II

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

     Our common stock is traded on the NASDAQ Global Select Market under the symbol “STST”.

     The following table sets forth the range of high and low sales prices of our common stock for the periods indicated.

		High				Low
Fiscal 2009
Fourth Quarter		$	21.86			$	18.23
Third Quarter			23.25				17.41
Second Quarter			22.04				15.46
First Quarter			23.81				15.00
Fiscal 2008
Fourth Quarter		$	27.78			$	22.65
Third Quarter			25.94				16.38
Second Quarter			18.75				15.26
First Quarter			22.11				17.50

     There were 523 record holders of our common stock on November 16, 2009. On November 16, 2009, the last reported sale price of our common stock on the NASDAQ Global Select Market was $19.49 per share.

Dividend Policy

     For the foreseeable future, we intend to retain earnings to reinvest for future operations and growth of our business and do not anticipate paying any cash dividends on our common stock. However our board of directors, in its discretion, may decide to declare a dividend at an appropriate time in the future. A decision to pay a dividend would depend, among other factors, upon our results of operations, financial condition and cash requirements and the terms of our credit facility and other financing agreements at the time such a payment is considered.

Equity Compensation Plan Information

     Set forth below is information as of September 30, 2009 regarding our equity compensation plans.

Number of

Weighted

securities to be

average exercise

issued upon

price of

exercise of

outstanding

Number of

outstanding

options,

securities remaining

options, warrants

warrants and

available for future

Plan category

and rights

rights

issuance

Equity compensation plans approved by security holders

1,595,198

$

16.68

1,795,897

Equity compensation plans not approved by security holders (1)

506,337

$

8.67

—

Total

2,101,535

$

14.75

1,795,897

     The Argon Engineering Associates, Inc. Stock Plan (the “Plan”) provided for the issuance of incentive and non-statutory stock options and restricted stock to eligible employees of Argon Engineering and its affiliates. As a result of the merger of Argon Engineering and Sensytech, each outstanding option to purchase Argon Engineering common stock under the Plan was converted into an option to purchase our common stock, with the number of shares able to be purchased and the exercise price adjusted in accordance with the merger exchange ratio. The Plan has been frozen as of September 29, 2004 and no additional awards will be granted under the Plan subsequent to that date.

Common Stock Performance Graph

     The following graph shows the cumulative total return resulting from a hypothetical $100 investment in the Company’s common stock on September 30, 2004 through September 30, 2009. Stock price performance over this period is compared to the same amount invested in the Russell 2000 Index and the BB&T Defense Electronics Index over the same period. While total stockholder return can be an important indicator of corporate performance, it is not necessarily indicative of the Company’s degree of success in executing business plans, particularly over short periods.

     

		PERFORMANCE GRAPH TABLE
		As of September 30, (in dollars)
		2004				2005				2006				2007				2008				2009
Argon ST Stock		$	100			$	104			$	85			$	70			$	84			$	68
Russell 2000 Index			100				117				127				141				119				105
BB&T Defense Electronics Index			100				101				109				155				122				114

     The information included under this heading “Common Stock Performance Graph” is “furnished” and not “filed” and shall not be deemed to be “soliciting material” or subject to Regulation 14A, shall not be deemed “filed’ for purposes of Section 18 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), or otherwise subject to the liabilities of that section, nor shall it be deemed incorporated by reference in any filing under the Securities Act of 1933, as amended, or the Exchange Act.

ITEM 6.		SELECTED FINANCIAL DATA

     The following table sets forth the selected statement of earnings data and balance sheet data for each of the periods indicated. The selected financial data is derived from our audited consolidated financial statements and related notes.

     The selected financial data presented below should be read in conjunction with our consolidated financial statements and the notes to our consolidated financial statements and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this Form 10-K.

		Years Ended September 30
		2009				2008				2007				2006				2005
		(In thousands, except per share data)
Contract revenues		$	366,076			$	340,934			$	282,209			$	258,835			$	271,754
Cost of revenues			298,038				279,932				229,767				206,023				222,792
General and adminstrative expenses			22,853				22,432				17,342				22,212				10,586
Research and development expenses			8,990				6,656				7,035				—				3,992
Impairment of intangible assets			—				—				6,748				—				—
Income from operations			36,195				31,914				21,317				30,600				34,384
Other income, net			(14	)			615				1,318				1,180				698
Income before income taxes			36,181				32,529				22,635				31,780				35,082
Provision for income taxes			(12,490	)			(12,256	)			(7,933	)			(12,385	)			(13,301	)
Net income		$	23,691			$	20,273			$	14,702			$	19,395			$	21,781
Earnings per share
Basic		$	1.09			$	0.94			$	0.66			$	0.90			$	1.10
Diluted		$	1.08			$	0.92			$	0.65			$	0.87			$	1.06

		As of September 30
		2009				2008				2007				2006				2005
		(In thousands)
Balance sheet data
Cash and cash equivalents		$	43,108			$	15,380			$	22,965			$	14,800			$	4,064
Total assets		$	380,025			$	340,338			$	329,645			$	313,531			$	249,834
Total debt		$	40			$	100			$	218			$	86			$	11,138
Stockholder’s Equity		$	319,578			$	292,444			$	274,836			$	265,696			$	192,013
Other data
Backlog (unaudited)		$	233,360			$	322,868			$	304,850			$	225,169			$	271,107
Dividends		$	—			$	—			$	—			$	—			$	—

ITEM 7.		MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-looking Statements

     Statements in this annual report on Form 10-K, including without limitation in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, which are not historical facts are forward-looking statements under the provision of the Private Securities Litigation Reform Act of 1995. All forward-looking statements involve risks and uncertainties. These statements are based upon numerous assumptions about future conditions that could prove not to be accurate. Actual events, transactions or results may materially differ from the anticipated events, transactions or results described in such statements. Our ability to consummate such transactions and achieve such events or results is subject to certain risks and uncertainties including those set forth in “Risk Factors” under Item 1A of this Report. In addition to those risks specifically mentioned in this report, such risks and uncertainties include, but are not limited to, the existence of demand for, and acceptance of our products and services, regulatory approvals, export approvals, economic conditions both domestically and internationally, the impact of competition and pricing, results of financing efforts and other factors affecting our business that are beyond our control. All of the forward-looking statements should be considered in light of all of the foregoing factors. You should not put undue reliance on any forward-looking statements. We undertake no obligation to update these forward-looking statements to reflect new information, future events or otherwise.

Overview

General

     We are a leading systems engineering, development and services company providing full-service C5ISR (command, control, communications, computers, combat systems, intelligence, surveillance and reconnaissance) systems and services in several markets, including without limitation maritime defense, airborne reconnaissance, ground systems, tactical communications and network systems and security. These systems and services are provided to a wide range of defense and intelligence customers as well as commercial enterprises. Our systems provide communications intelligence, electromagnetic intelligence, electronic warfare and information operations capabilities that enable our defense and intelligence customers to detect, evaluate and respond to potential threats. These systems are deployed on a range of military and strategic platforms including surface ships, submarines, unmanned underwater vehicles (“UUV”), aircraft, unmanned aerial vehicles (“UAV”), land mobile vehicles, fixed site installations and re-locatable land sites.

Segments

     We have reviewed our business operations and determined that we operate in a single homogeneous business segment. Our financial information is reviewed and evaluated by the chief operating decision maker on a

      consolidated basis relating to the single business. Technology critical to many of our programs and engineering resources are centrally controlled and used in programs across the Company. We sell similar products and services that exhibit similar economic characteristics to similar classes of customers, primarily the U.S. government. Revenue is internally reviewed monthly by management on an individual contract by contract basis as a single business.

Revenues

     Our revenues are primarily generated from the entire life cycle of complex sensor systems under contracts predominately with the U.S. government and major domestic prime contractors, as well as with foreign governments, agencies and defense contractors. This life cycle spans across the design, development, production, installation and support of the system.

     Our government contracts can be divided into three major types: cost reimbursable, fixed-price and time and materials. See the “Government Contract Categories” section of Item 1. Business for a discussion of the characteristics of each contract type.

     The following table represents our revenue concentration by contract type for the periods indicated:

		Years Ended September 30,
Contract Type		2009				2008				2007
Fixed-price contracts			54	%			58	%			60	%
Cost reimbursable contracts			41	%			38	%			35	%
Time and materials contracts			5	%			4	%			5	%

     Our primary business model is to capture the full lifecycle of a system beginning with concept development and progressing through development, production and end of cycle support and logistics. Additional cycles developing and producing next generation systems are sought to provide multi-year and multi-decade opportunities. Early cycle programs are typically cost-type contracts carrying lower margins while production cycle programs are typically fixed-price type contracts carrying higher margins. End of cycle programs can be of a variety of contract types. Through our business model, we optimize the long-term growth of the company by leveraging long-term relationships into multiple cycles each carrying higher margin production cycles. As such, much of our current production work has been derived from programs for which we have performed the initial development work. With the current higher cost-type contract mix, we are continuing to lay the groundwork for future low-rate and high-rate production orders and future generation development and production cycles. Cost-reimbursable mix has increased as a percentage of total revenue over the past few years, primarily as a result of our continued work on certain large and long-run development programs, including Ships Signal Exploitation Equipment (“SSEE”) Increment F, Operational Test-Tactical Engagement System (“OT-TES”) and Common Range Integrated Instrumentation System (“CRIIS”), and the mix of contracts acquired in recent business combinations. In all three of these programs we have either completed or are near completion of the test and integration phases. We believe we will receive production orders during the coming fiscal years. These production orders could cause a significant impact to our mix of contract types and may result in larger percentages of more desirable and potentially higher margin fixed price work although the capture of new development work on cost-type contracts may keep our mix closer to current levels and provide opportunity for future production contracts.

Backlog

     We define backlog as the funded and unfunded amount provided in our contracts, less previously recognized revenue. For a further discussion of what we include and exclude from backlog, see the “Backlog” section of Item 1. Business.

     Our backlog consisted of the following:

		As of September 30,
(In thousands)		2009				2008				2007
Funded		$	137,947			$	272,620			$	246,571
Unfunded			95,413				54,672				58,279
Total		$	233,360			$	327,292			$	304,850

     We began fiscal year 2009 with record backlog, partially attributable to work that was on contract related to our core Maritime programs as well as contract work on the OG2 and OT-TES programs. During fiscal year 2009, we have continued to progress through the production orders on our core Maritime programs and we made considerable progress in the development of the OG2 program and the OT-TES program. At the end of fiscal year 2009, we have less contracted work related to these programs as compared to the end of the fiscal year 2008. However, as we near the end of successful development in fiscal year 2010, we anticipate a large amount of additional work for production orders on these contracts. In addition, orders during fiscal year 2009 were lower than in prior years. Our total, funded and unfunded backlog as of the end of any fiscal quarter or year may fluctuate due to numerous factors, including the schedule for and timing of contract awards we are pursuing, the timing of government contracts we have been awarded and our success in winning new and follow-on contract awards.

Cost of Revenues

     Cost of revenues consist of direct costs incurred on contracts such as labor, materials, travel, subcontracts and other direct costs and indirect costs associated with overhead expenses such as facilities, fringe benefits and other costs that are not directly related to the execution of a specific contract. We plan indirect costs on an annual basis and on cost reimbursable contracts receive government approval to bill those costs as a percentage of our direct labor, other direct costs and direct materials as we execute our contracts. The U.S. government approves the planned indirect rates as provisional billing rates near the beginning of each fiscal year.

General and Administrative Expenses

     Our general and administrative expenses include administrative salaries, costs related to proposal activities, and other administrative costs.

Research and Development

     We conduct internally funded research and development into complex signal processing, system and software architectures, and other technologies that are important to continued advancement of our systems and are of interest to our current and prospective customers. The variance from year to year in internal research and development is caused by the status of our product cycles and the level of complementary U.S. government funded research and development.

     The table below shows our research and development expenditures for the periods indicated. As shown in this table, internal research and development is a small portion of our overall research and development, as government funded research and development constitutes the majority of our activities in this area.

		Years Ended September 30,
(In thousands)		2009				2008				2007
Internal research and development		$	8,990			$	6,656			$	7,035
Customer-funded research and development			83,200				80,005				73,397
Total		$	92,190			$	86,661			$	80,432

     In fiscal years 2009, 2008 and 2007, internal research and development expenditures represented 2.5%, 2.0% and 2.5% of our revenues, respectively. We expect that research and development expenses will continue to represent approximately 2% to 3% of our consolidated revenue in future periods.

Interest Income, net

     Net interest income is derived solely from interest earned on cash reserves maintained in short-term investment accounts and are therefore subject to short-term interest rates that have minimal risk.

Critical Accounting Policies and Estimates

General

     Our discussion and analysis of our financial condition and results of operations are based upon our financial statements. These financial statements are prepared in accordance with accounting principles generally accepted in the United States, which require management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ significantly from those estimates. We believe that the estimates, assumptions, and judgments involved in the accounting practices described below have the greatest potential impact on our financial statements and, therefore, consider these to be critical accounting policies.

Revenue and Cost Recognition

     General

     The majority of our contracts, which are with the U.S. government, are accounted for in accordance with the Financial Accounting Standards Board Accounting Standard Codification (“FASB ASC”) Topic 605-35-25, Revenue Recognition — Construction-Type and Production-Type Contracts — General. These contracts are transacted using written contractual arrangements, most of which require us to design, develop, manufacture and/or modify complex products and systems, and perform related services according to specifications provided by the customer. We account for fixed-price contracts by using the percentage-of-completion method of accounting and for substantially all contracts, the cost-to-cost method is used to measure progress towards completion. Under this method, contract costs are charged to operations as incurred. A portion of the contract revenue, based on estimated profits and the degree of completion of the contract as measured by a comparison of the actual and estimated costs, is recognized as revenue each period. In the case of contracts with materials requirements, revenue is recognized as those materials are applied to the production process in satisfaction of the contracts’ end objectives. We account for cost reimbursable contracts by charging contract costs to operations as incurred and recognizing contract revenues and profits by applying the negotiated fee rate to actual costs on an individual contract basis.

     In certain circumstances, and based on correspondence with the end customer, management authorizes work to commence or to continue on a contract option, addition or amendment prior to the signing of formal modifications or amendments. We recognize revenue to the extent it is probable that the formal modifications or amendments will be finalized in a timely manner and that it is probable that the revenue recognized will be collected.

     Contract revenue recognition inherently involves estimation. Examples of estimates include the contemplated level of effort to accomplish the tasks under the contract, the cost of the effort, and an ongoing assessment of our progress toward completing the contract. From time to time, as part of our management processes, facts develop that require us to revise our estimated total costs or revenue. To the extent that a revised estimate affects contract profit or revenue previously recognized, we record the cumulative effect of the revision in the period in which the facts requiring the revision become known.

     Anticipated losses on contracts are also recorded in the period in which they become determinable. Unexpected increases in the cost to develop or manufacture a product, whether due to inaccurate estimates in the bidding process, unanticipated increases in material costs, inefficiencies, or other factors are borne by us on fixed-price contracts, and could have a material adverse effect on results of operations and financial condition.

Unexpected cost increases in cost reimbursable contracts may be borne by us for purposes of maintaining customer relationships. If the customer agrees to fund cost increases on cost type contracts, the additional work does not have any profit and therefore dilutes margin.

     Indirect Rate Variance

     We apply overhead and general and administrative expenses (indirect expenses) as a percentage of direct contract costs based on annual budgeted indirect expense rates. To the extent actual expenses for an interim period are greater than the budgeted rates, the variance is deferred if management believes it is probable that the variance will be absorbed by future contract activity. This probability assessment includes projecting whether future indirect costs will be sufficiently less than the annual budgeted rates or can be absorbed by seeking increased billing rates applied on cost-plus-fee contracts. At the end of each interim reporting period, management assesses the recoverability of any amount deferred to determine if any portion should be charged to expense. In assessing the recoverability of variances deferred, management takes into consideration estimates of the amount of direct labor and other direct costs to be incurred in future interim periods, the feasibility of modifications for provisional billing rates, and the likelihood that an approved increase in provisional billing rates can be passed along to a customer. Variances are charged to expense in the periods in which it is determined that such amounts are not probable of recovery. In the fourth quarter of the fiscal year, indirect rates are applied using actual costs incurred. Variances between budgeted and actual indirect rates were immaterial for fiscal year 2009.

     Award Fee Recognition

     Our practice for recognizing interim fees on our cost-plus-award-fee contracts is based on management’s assessment as to the likelihood that the award fee or an incremental portion of the award fee will be earned on a contract-by-contract basis. Management’s assessments are based on numerous factors including: contract terms, nature of the work performed, our relationship and history with the customer, our history with similar types of projects, and our current and anticipated performance on the specific contract. No award fee is recognized until management determines that it is probable that an award fee or portion thereof will be earned. Actual fees awarded are typically within management’s estimates. However, changes could arise within an award fee period causing management to either lower or raise the award fee estimate in the period in which it occurs.

Goodwill

     Costs in excess of the fair value of tangible and identifiable intangible assets acquired and liabilities assumed in a business combination are recorded as goodwill. In accordance with FASB ASC Topic 350-20, Goodwill, we test for impairment at least annually using a two-step approach. Impairment of goodwill is tested at the reporting unit level by comparing the reporting unit’s carrying amount, including goodwill, to the fair value of the reporting unit. During the years prior to fiscal year 2008, the Company operated as four reporting units, at which time, the fair value of each reporting unit was estimated using a combination of the income, or discounted cash flows approach and the market approach. During fiscal year 2008 and 2009, due to the change in our organizational structure and our operations, we operated as a single reporting unit. The fair value of the reporting unit is estimated using a market capitalization approach. If the carrying amount of the unit exceeds its fair value, goodwill is considered impaired and a second step is performed to measure the amount of impairment loss, if any. We performed the test during the fourth quarter of fiscal year 2009 and found no impairment to the carrying value of goodwill.

Long-Lived Assets (Excluding Goodwill)

     We follow the provisions of FASB ASC topic 360-10-35, Impairment or Disposal of Long-Lived Assets in accounting for long-lived assets such as property and equipment and intangible assets subject to amortization. This topic requires that long-lived assets be reviewed for impairment whenever events or circumstances indicate that the carrying amount of an asset may not be fully recoverable. An impairment loss is recognized if the sum of the long-term undiscounted cash flows is less than the carrying amount of the long-lived asset being evaluated. Impairment losses are treated as permanent reductions in the carrying amount of the assets. For the year ended September 30, 2007, we recorded a $6.7 million loss for the impairment of customer related intangible assets initially recorded at

the time of the SDRC, ProDesign and IRIS acquisitions. A change in our assumptions used to measure impairment could cause an additional impairment in the future.

Accounts Receivable

     We are required to estimate the collectability of our accounts receivables. Judgment is required in assessing the realization of such receivables, and the related reserve requirements are based on the best facts available to us. Since most of our revenue is generated under U.S. government contracts, our current accounts receivable reserve is not significant to our overall receivables balance.

Stock-Based Compensation

     We issue stock options, restricted stock awards (“RSUs”) and stock appreciation rights (“SARs”) on an annual or selective basis to our directors and key employees. The fair value of the RSUs is computed using the closing price of the stock on the date of grant. The fair value of the stock options and the SARs is computed using a binomial option pricing model. Assumptions related to the volatility are based on an analysis of our historical volatility. The estimated fair value of each award is included in cost of revenues or general and administrative expenses over the vesting period which an employee provides services in exchange for the award.

     Fair Value Determination

     We use a Binomial option pricing model, based on the Hull and White model. We will reconsider use of the Binomial model if additional information becomes available in the future that indicates another model would be more appropriate, or if grants issued in future periods have characteristics that cannot be reasonably estimated using this model.

     In calculating fair value, we use the following assumptions.

     Expected Volatility. The expected volatility of our shares was estimated based upon the historical volatility of share price of our common stock over a historical period consistent with the estimated life of the option, as being representative of the price volatility expected in the future. This volatility is comparable to the volatilities reported by companies within the Company’s peer group.

     Risk-free Interest Rate. We based the risk-free interest rate used in the Binomial valuation method on the implied yield available on a U.S. Treasury note on the applicable grant date, with a term equal to the expected term of the underlying grants.

     Dividend Yield. The Binomial valuation model calls for a single expected dividend yield as an input. The Company has not paid dividends in the past nor does it expect to pay dividends in the future. As such, we used a dividend yield percentage of zero.

     Expected Term. The expected term used in the Binomial model is ten years, the contractual term of the options.

     Exercise Factor. The exercise factor is the ratio by which the stock price must increase from the exercise price before the employee is expected to exercise, as estimated by management.

     Post-vest Percentage. The post-vest percentage is the rate at which employees are likely to exercise their options earlier than usual as a result of their termination of employment, as estimated by management. Employees have 90 days and directors have 1 year to exercise their options upon termination of employment or resignation from the board. The post-vest percentages used in valuing options granted during the years ended September 30, 2009, 2008 and 2007 were 1.81%, 1.94% and 5.78%, respectively. For options granted to directors and certain individual awards, the post-vest percentage was zero.

Historical Operating Results

Fiscal year ended September 30, 2009 compared to fiscal year ended September 30, 2008

     The following table sets forth certain items, including consolidated revenues, cost of revenues, general and administrative expenses, research and development expenses, impairment of intangible assets, interest income and expense and income tax expense and net income, and the changes in these items for the fiscal years indicated:

		September 30,
										Amount of				%
										in crease				increase
		2009				2008				(decrease)				(decrease)
Contract revenues		$	366,076			$	340,934			$	25,142				7	%
Cost of revenues			298,038				279,932				18,106				6	%
General and administrative expenses			22,853				22,432				421				2	%
Research and development expenses			8,990				6,656				2,334				35	%
Interest income, net			(14	)			615				(629	)			-102	%
Provision for income taxes			12,490				12,256				234				2	%
Net income		$	23,691			$	20,273			$	3,418				17	%

Contract Revenues:

     Revenues increased approximately $25.1 million or 7% during fiscal year 2009. In our core maritime programs, we experienced revenue growth in certain areas, including our subsurface programs delivering improved communication acquisition and direction finding subsystems along with other related foreign military sales. Within the core maritime programs, the revenue growth in certain areas was offset by less activity in our SSEE programs this year as compared to the prior year as we continue to transition from the high rate production of our SSEE Increment E technology towards initial production of our SSEE Increment F technology. We are aggressively working on SSEE Increment F development with continued success in the final integration and test phases of the program. We are expecting significant opportunities in the maritime programs in fiscal 2010 as we believe our cost-effective, open architecture and commercial off-the-shelf technologies align with the U.S. Navy’s acquisition approach for innovative at-sea combat systems.

     Outside of our core maritime programs, we have realized a $16.5 million increase in revenue related to increased integration and development efforts for our airborne intelligence, reconnaissance and surveillance systems and sensors, including our support of the U.S. Army’s communications intelligence modernization program. We expect further contributions to revenue in the near future for key production and development milestones related to these programs. Additionally, we continue to see year over year increases in revenue for work completed on tactical communications and networking capabilities primarily related to continued work on a subcontract to Sierra Nevada for the build of the ORBCOMM Generation Two Satellite Payload (“OG2”). The OG2 program represented $19.2 million of the total revenue increase. The increases in revenue that we achieved on the airborne programs and the OG2 program were partially offset by a decrease in revenue of $5.8 million related to the completion of a contract to provide certain security services and a decrease of $3.2 million related to our maritime programs described above.

Cost of Revenues:

     Cost of revenues increased approximately $18.1 million or 6% for fiscal year 2009 as compared to fiscal year 2008. The increase was primarily due to increased contract activity and increased revenue as described above. As a result of the increased contract activity, direct materials costs, including subcontract costs, increased $8.3 million with significant increases in subcontractor costs as a result of increased activity for the OG2 program. Direct labor increased $4.7 million as we continue to grow our contract portfolio and the resulting need for labor

resources. Other types of direct costs to meet contractual deliverables, including consulting and travel, increased approximately $2.7 million. Overhead costs allocable to such direct costs, excluding our incentive compensation, decreased approximately $0.6 million primarily due to better direct labor utilization on our contract portfolio. We view our incentive compensation overall as cash-based bonuses and stock-based compensation. Year over year, incentive compensation increased $3.0 million primarily due to increased bonus payouts for 2009 as compared to 2008 to incentivize performance and retention. Cost of revenues as a percentage of total revenue decreased to 81% for fiscal 2009 as compared to 82% of revenue for fiscal year 2008 as a result of the overall improved labor utilization rates described above.

General and Administrative Expenses:

     General and administrative expenses increased approximately $0.4 million or 2% for fiscal year 2009, as compared to fiscal year 2008. This increase was primarily due to a $1.4 million increase in legal fees associated with the defense of claims which have been resolved as of the end of the second quarter of fiscal year 2009. Additionally, we incurred a one-time charge of $0.6 million related to the resolution of claims. Excluding these two related charges in fiscal year 2009, our general and administrative expenses decreased $1.6 million in fiscal year 2009 as compared to fiscal year 2008. This $1.6 million is attributable to decreases in costs across an array of general costs as we focused on removing indirect cost from the business, including the consolidation of our accounting operations, which was completed in the third quarter of fiscal year 2008. Exclusive of the $2.0 million of costs increases as a result of the claims, general and administrative costs decreased to 6% of total revenue for the for fiscal 2009 as compared to 7% of revenue for fiscal year 2008.

Research and Development Expenses:

     Research and development expenses increased $2.3 million or 35% for fiscal year 2009 as compared to fiscal 2008 due to the timing of specific planned research and development projects. Research and development expenditures represented 2.5% and 2.0% of our consolidated revenues for fiscal year 2009 and 2008, respectively. We expect that research and development expenditures will continue to represent approximately 2% to 3% of our consolidated revenue in future periods.

Interest Income and Interest Expense:

     Interest income net of interest expense decreased approximately $0.6 million for fiscal year 2009, as compared to fiscal 2008. In the third quarter of fiscal year 2008, we recognized $0.4 million of interest income for a cash balance held in escrow as a result of the acquisition of SDRC. We became aware of our entitlement to such interest in the three months ended June 29, 2008. Excluding this specific interest income, interest expense, net decreased $0.2 million.

Provision for Income Taxes:

     Our provision for income taxes for fiscal year 2009 was $12.5 million as compared to approximately $12.3 million for the fiscal year 2008. Our effective income tax rate decreased to 34.5% for fiscal year 2009 as compared to an effective rate of 37.7% for fiscal year 2008. The tax provision for fiscal year 2009 included a benefit for the federal research and development tax credit, which was reinstated in our first quarter of fiscal year 2009, retroactively beginning January 1, 2008. As a result of this renewal, and as compared to the prior year, we realized a reduction in our effective rate of 2.3% related to this tax credit. Additionally, we recognized a reduction in our effective rate of 1.2% for the third quarter of fiscal year 2009, related to a $0.4 million tax benefit in the third quarter of fiscal year 2009 as the result of a reduction in our reserve on uncertain tax positions.

Net Income:

     As a result of the above, net income increased $3.4 million, or 17% for fiscal year 2009 as compared to fiscal year 2008.

Fiscal year ended September 30, 2008 compared to fiscal year ended September 30, 2007

     The following table sets forth certain items, including consolidated revenues, cost of revenues, general and administrative expenses, research and development expenses, impairment of intangible assets, interest income and expense and income tax expense and net income, and the changes in these items for the fiscal years indicated:

		September 30,
										Amount of				%
										in crease				increase
		2008				2007				(decrease)				(decrease)
Contract revenues		$	340,934			$	282,209			$	58,725				21	%
Cost of revenues			279,932				229,767				50,165				22	%
General and administrative expenses			22,432				17,342				5,090				29	%
Research and development expenses			6,656				7,035				(379	)			-5	%
Impairment of intangible assets			—				6,748				(6,748	)			-100	%
Interest income, net			615				1,318				(703	)			-53	%
Provision for income taxes			12,256				7,933				4,323				54	%
Net income		$	20,273			$	14,702			$	5,571				38	%

Contract Revenues:

     Revenues increased approximately $58.7 million or 21% during fiscal year 2008. The increase in revenues is primarily attributable to the inclusion of Coherent operations, which were acquired in the fourth quarter of fiscal 2007, and contributed approximately $27 million of the increase. Additionally, three contracts related to tactical communications and networking capabilities contributed approximately $13 million the increase in revenues. The remaining increase is due to work performed on backlog existing as of the beginning of our fiscal year and additional contract awards in 2008 across a broad spectrum of our business.

Cost of Revenues:

     Cost of revenues increased approximately $50.2 million or 22% for fiscal year 2008 as compared to fiscal year 2007. The increase was primarily due to increased contract activity and increased revenue as well as the inclusion of the operations of Coherent. Direct materials costs increased $14.8 million and direct labor increased $7.6 million consistent with the increase in production activity, including the SSEE programs. Other direct costs, including costs related to subcontracted work, increased $15.0 million. As a result of the increased direct costs, overhead costs allocable to such direct costs increased $11.4 million. We also realized increases in other costs including a $1.0 million increase in stock-based compensation included in cost of revenue and a $0.4 million increase in costs associated with a retention bonus related to the acquisition of SDRC. Cost of revenues as a percentage of total revenue increased to 82% for the year ended September 30, 2008 as compared to 81% for the year ended September 30, 2007. This increase is due to both the increase in the stock-based compensation and retention bonus amounts as well as an increase in cost-reimbursable type contracts for the period.

General and Administrative Expenses:

     General and administrative expenses increased approximately $5.1 million or 29% for fiscal year 2008, as compared to the fiscal year 2007. The increase in general and administrative expenses for the year ended September 30, 2008 was due primarily to a $2.1 million increase in fully burdened labor costs related to increased bid and proposal activity and a $0.7 million increase in fully burdened other indirect labor to support an increase in business activity including a full year of operations of Coherent, which was acquired in the fourth quarter of fiscal year 2007. We also realized in increase in legal fees of $1.0 million related to general corporate matters and claims, including our defense of claims against us by Optical Air Data Systems, a $0.5 million increase in third party accounting fees

primarily due to additional work performed related to pursue research and development tax credits and the Coherent acquisition, and a $0.3 million increase in stock-based compensation attributable to general and administrative employees. General and administrative expenses as a percentage of revenue were 7% and 6% for the years ended September 30, 2008 and 2007, respectively.

Research and Development Expenses:

     Research and development expenses decreased $0.4 million or 5% for fiscal year 2008 as compared to fiscal year 2007. The decrease in research and development expenses was due to the timing of specific planned research and development projects. Research and development expenditures represented 2.0% and 2.5% of our consolidated revenues for the years ended September 30, 2008 and 2007, respectively. We expect that research and development expenditures will continue to represent approximately 2% to 3% of our consolidated revenue in future periods.

Impairment of Intangible Assets:

     At the times of the San Diego Research Center, Inc., ProDesign Solutions, LLC, and Innovative Research, Ideas, and Services Corporation acquisitions, we anticipated the award of certain specific revenue generating contracts and allocated a portion of the purchase price to such contracts as a customer related intangible asset. In 2007, we were not awarded all of the anticipated contracts and performed an impairment analysis. In connection with this analysis, in the results of operations for the period ending September 30, 2007, we recognized an impairment loss of $6.3 million for the impairment of customer related intangible assets acquired from San Diego Research Center Inc. and we have recognized an impairment loss of approximately $0.4 million for the impairment of customer related intangible assets acquired from ProDesign Solutions, LLC and Innovative Research, Ideas, and Services Corporation. No such impairment charge was recorded in fiscal 2008.

Interest Income and Interest Expense:

     Interest income net of interest expense decreased approximately $0.7 million for fiscal year 2008, as compared to the fiscal 2007. This decrease was a result of lower average cash balances in fiscal year 2008 as compared to fiscal year 2007.

Provision for Income Taxes:

     Our provision for income taxes for fiscal year 2008 was $12.3 million as compared to approximately $7.9 million for the fiscal year 2007. The effective tax rate for fiscal year 2008 was 37.7% compared to 35.1% for fiscal year 2007. The increase in our effective tax rate was primarily due to a 1.6% total increase to our effective rate from less tax exempt interest in fiscal 2008 as compared to fiscal 2007 and a 1.1% increase to our effective rate as a result of the lapse of the research and development tax credit as of December 31, 2007. On October 3, 2008, the research and development tax credit was re-enacted retroactively to include the period of January 1, 2008 to December 31, 2008.

Net Income:

     As a result of the above, net income increased $5.6 million, or 38% for fiscal year 2008 as compared to fiscal year 2007.

Analysis of Liquidity and Capital Resources

     Our liquidity requirements relate primarily to the funding of working capital requirements supporting operations, capital expenditures, and strategic initiatives including potential future acquisitions and research and development activities.

     Cash

     At September 30, 2009, we had cash of $43.1 million compared to cash of $15.4 million at September 30, 2008, an increase of $27.7 million. Our largest source of cash during fiscal year 2009 was net income as adjusted for non-cash reconciling items including depreciation and amortization, changes in deferred income taxes and stock-based compensation. The primary uses of cash during fiscal year 2009 were for cash paid to acquire property, equipment and software of $7.8 million and $1.5 million used to repurchase shares of our common stock under a stock buyback plan approved by our Board of Directors in December 2008.

     Cash Flows

     For fiscal year 2009 cash of $35.8 million was provided by operating activities compared to $12.5 million and $27.5 million in fiscal years 2008 and 2007, respectively. Cash provided by operating activities in fiscal 2009 was primarily comprised of $37.0 million of net income as adjusted for non-cash reconciling items including depreciation and amortization, changes in deferred income taxes, and stock-based compensation. Net income, as adjusted for non-cash reconciling items was reduced by $1.2 million as a result of changes in operating assets and liabilities. This change was driven by an $11.0 million increase in accounts receivable net of deferred revenue, offset by $11.0 million in timing of payables, including accrued expenses and taxes payable. The remaining change is a $1.2 million increase in other operating assets and liabilities.

     Our cash from operations is highly dependent on the balance of our billed and unbilled receivables, along with deferred revenue. As discussed in more detail below under “Contractual Billing Provisions”, the timing of contractual milestone billing terms has a significant impact on our unbilled receivable balances. We use days sales outstanding (“DSO”) as a measure to assess the impact of milestone billings on our cash balances. We calculate DSO using the trailing twelve months of revenue. As of September 30, 2009, our DSO was 116 days as compared to 112 days at September 30, 2008. In 2009, we continued to focus on system deliveries, as this is the major driver in the DSO metric. We were able to turn much of the unbilled balances of our SSEE Increment E production work into cash in 2009 as we neared the completion of these production lots. However, in one of our more significant development programs for the OG2 technology, milestones are heavily weighted towards the final testing and delivery phases. Approximately $19.1 million and $3.2 million of our unbilled receivables relates specifically to these milestones as of September 30, 2009 and 2008, respectively. Exclusive of the OG2 program, our DSO was 97 days and 109 days at September 30, 2009 and 2008, respectively.

     Net cash used in investing activities in fiscal year 2009 was $7.7 million compared to $14.0 million and $15.5 million in fiscal years 2008 and 2007, respectively. Investing activities in 2008 and 2007 consisted of $5.3 million and $18.1 million of cash used in business acquisitions. Investing activities to purchase property and equipment was $7.8 million, $10.8 million and $10.0 million in fiscal years 2009, 2008 and 2007, respectively. We expect that our investment in property and equipment will continue as we upgrade and replace older equipment and as our employee base increases. In fiscal 2007, we had significant purchases and sales of investments as the result of our investment strategy to hold auction rate securities. As of September 30, 2007, all such securities were sold, and have not purchased additional auction rate securities subsequently.

     Net cash used in financing activities was $0.4 million for fiscal year 2009 compared to $6.0 million and $7.8 million in fiscal years 2008 and 2007, respectively. In fiscal year 2009, we used $1.5 million of cash to repurchase 92,832 shares of our common stock under the stock repurchase program. In December 2008, our Board of Directors approved a plan to purchase up to an additional 1,000,000 shares prior to November 2009. Over the past three years, we have purchased approximately $19.4 million of our common stock.

     We believe that the combination of internally generated funds, cash and cash equivalents on hand and available bank credit will provide the required liquidity and capital resources necessary to fund ongoing operations, customary capital expenditures and other working capital needs over the next 12 months.

     Line of Credit

     We maintain a $40.0 million line of credit with Bank of America, N.A. The credit facility will expire on February 28, 2010, at which time it will be subject to renewal. Although we can provide no assurances, we have a

longstanding relationship with Bank of America, N.A. and we expect that we will renegotiate a renewal of our line of credit as it nears expiration. The credit facility contains a sublimit of $15.0 million to cover letters of credit. In addition, borrowings on the line of credit bear interest at LIBOR plus 150 basis points. An unused commitment fee of 0.25% per annum, payable in arrears, is also required.

     All borrowings under the line of credit are collateralized by all tangible assets of the Company. The line of credit agreement includes customary restrictions regarding additional indebtedness, business operations, permitted acquisitions, liens, guarantees, transfers and sales of assets, and maintaining the Company’s primary accounts with the Lender. Borrowing availability under the line of credit is equal to the product of 1.5 and the Company’s earnings before interest expense, taxes depreciation and amortization (EBITDA) for the trailing 12 months, calculated as of the end of each fiscal quarter. For the year ended September 30, 2009, EBITDA, on a trailing 12 month basis, was $44.9 million. The agreement requires the Company to comply with a specific EBITDA to Funded Debt ratio, and contains customary events of default, including the failure to make timely payments and the failure to satisfy covenants, which would permit the Lender to accelerate repayment of borrowings under the agreement if not cured within the applicable grace period. As of September 30, 2009, the Company was in compliance with these covenants and the financial ratio.

     At September 30, 2009, there were no borrowings outstanding against the line of credit. Letters of credit and debt consisting of capital lease obligations at September 30, 2009 amounted to $2.3 million, and $37.7 million was available on the line of credit. In the first half of fiscal year 2009, approximately $5.0 million was borrowed on our line of credit with repayment occurring before the completion of any quarterly reporting periods. In February 2008, the Company borrowed $7.0 million from the line of credit to fund its current operations which was repaid by March 30, 2008.

     Contractual Billing Provisions

     Many of our fixed-price contracts contain provisions under which our customers are required to make payments when we achieve certain milestones. In many instances, these milestone payments occur after we have incurred the associated costs to which the payments will be applied. For example, under some of our contracts providing certain deliverables constitutes a milestone for which we receive a significant payment near the end of the contract, but we incur costs to complete the deliverables ratably over the life of the contract. We recognize revenue as costs are incurred and revenue recognition criteria are met, with a corresponding increase in unbilled receivables.

     The time lag between our receipt of a milestone payment and our incurrence of associated costs under the contract can be several months. Therefore, milestone payments under fixed-price contracts can significantly affect our cash position at any given time. The receipt of milestone payments will temporarily increase our cash on hand and decrease our unbilled receivables. As milestone payments under the contract are billed and received, cash will increase and unbilled receivables associated with the payment will decrease. Over the years, these milestone payments have had a significant effect on our comparative cash balances. We expect that fluctuations in unbilled receivables and deferred revenue will occur based on the particular timing of milestone payments under our fixed-price contracts and our incurrence of costs under the contracts. Due to these fluctuations, our cash position at the end of any fiscal quarter or year may not be indicative of our cash position at the end of subsequent fiscal quarters or years.

Contractual Obligations and Commitments

     As of September 30, 2009, our contractual cash obligations were as follows:

						Due in				Due in				Due in				Due in				Due in
(In thousands)		Total				2010				2011				2012				2013				2014				Thereafter
Capital leases		$	47			$	33			$	14				—				—				—				—
Operating leases		$	35,869			$	7,693			$	6,902			$	6,630			$	6,516			$	5,860			$	2,268
Total		$	35,916			$	7,726			$	6,916			$	6,630			$	6,516			$	5,860			$	2,268

     As of September 30, 2009, our other commercial commitments were as follows:

(in thousands)		Total				Less Than 1 Year				1-3 Years
Letters of credit		$	2,238			$	1,948			$	290

     We have no long-term debt obligations, other operating lease obligations, contractual purchase obligations, or other long-term liabilities other than those shown above. We also have no other off-balance sheet arrangements of any kind.

Recent Accounting Pronouncements

     In February 2007, the FASB issued guidance on accounting for financial assets and liabilities at their fair values. This guidance permits entities to choose to measure certain financial instruments and other items at fair value. The fair value option generally may be applied instrument by instrument, is irrevocable, and is applied only to entire instruments and not to portions of instruments. We adopted this guidance on October 1, 2008. The adoption of SFAS No. 159 did not have a material impact on our consolidated financial position, results of operations, or cash flows.

     In December 2007, the FASB issued an accounting standard, which amended the accounting for business combinations. This guidance establishes principles and requirements for determining how an enterprise recognizes and measures the fair value of certain assets and liabilities acquired in a business combination, including noncontrolling interest, contingent consideration, and certain acquired contingencies. It also requires acquisition-related transaction expenses and restructuring cost be expensed as incurred rather than capitalized as a component of the business combination. In April 2009, the FASB issued further interpretations, which requires that pre-acquisition contingencies are recognized at their acquisition-date fair value if a fair value can be determined during the measurement period. If the acquisition-date fair value cannot be determined during the measurement period, a contingency shall be recognized if it is probable that an asset existed or liability had been incurred at the acquisition date and the amount can be reasonably estimated. This guidance will be applicable prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008 and will have an impact on accounting for any business combinations occurring after our fiscal year ending September 30, 2009. We are currently assessing the impact, if any, of these statements on our consolidated financial position, results of operations, or cash flows.

     In April 2008, the FASB issued an amendment to determining the useful life of intangible assets which requires companies estimating the useful life of a recognized intangible asset to consider their historical experience in renewing or extending similar arrangements or, in the absence of historical experience, to consider assumptions that market participants would use about renewal or extension as adjusted for entity-specific factors. This guidance is effective for fiscal years beginning after December 15, 2008. We do not believe that the adoption of this guidance will have any material effect on our consolidated financial position, results of operations, or cash flows.

     During the first quarter of fiscal 2009, the Company adopted an amendment to the FASB ASC, which defines fair value, provides a framework for measuring fair value, and expands the disclosures required for fair value measurements. The adoption of this amendment did not have a material effect on our consolidated financial position, results of operations, or cash flows. In February 2008, the FASB issued further amendments which delays the effective date of the fair value guidance to fiscal years beginning after November 15, 2008 for all non-financial assets and non-financial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually) and will be adopted us beginning in the first quarter of fiscal 2010. Although we will continue to evaluate the application of this guidance, management does not currently believe adoption will have a material impact on our consolidated financial position, results of operations, or cash flows.

     In June 2009, the FASB issued an amendment which requires entities to provide more information about the sale of securitized financial assets and similar transactions in which the entity retains some risk related to the assets. This amendment is effective for fiscal years beginning after November 15, 2009. We do not believe the adoption this amendment will have a material impact on our consolidated financial position, results of operations, or cash flows.

     In June 2009, the FASB issued an amendment, which changes how a company determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. Under this guidance, determining whether a company is required to consolidate an entity will be based on, among other things, an entity’s purpose and design and a company’s ability to direct the activities of the entity that most significantly impact the entity’s economic performance. This amendment is effective for fiscal years beginning after November 15, 2009. We do not believe the adoption will have a material impact on our consolidated financial position, results of operations, or cash flows.

     In October 2009, the FASB revised the accounting guidance for revenue arrangements with multiple deliverables. The revision: (1) removes the objective-and-reliable-evidence-of-fair-value criterion from the separation criteria used to determine whether an arrangement involving multiple deliverables contains more than one unit of accounting, (2) provides a hierarchy that entities must use to estimate the selling price, (3) eliminates the use of the residual method for allocation, and (4) expands the ongoing disclosure requirements. This guidance is effective for us beginning January 1, 2011 and can be applied prospectively or retrospectively. We are currently assessing the impact of the revised accounting guidance.

Market Risks

     In addition to the risks inherent in its operations, we are exposed to financial, market, political and economic risks. The following discussion provides additional detail regarding our exposure to credit, interest rates and foreign exchange rates.

Cash and Cash Equivalents:

     All unrestricted, highly liquid investments purchased with a remaining maturity of three months or less are considered to be cash equivalents. We maintain cash and cash equivalents with various financial institutions in excess of the amount insured by the Federal Deposit Insurance Corporation. We believe that any credit risk related to these cash and cash equivalents is minimal.

Interest Rates:

     Our line of credit financing provides available borrowing to us at a variable interest rate tied to the bank’s prime interest rate or the LIBOR rate. At September 30, 2009, we had no borrowing under the line of credit. Upward movement in interest rates would result in our incurring higher interest expenses to the extent amounts are outstanding under our line of credit.

Foreign Currency:

     We have contracts to provide services to certain foreign countries approved by the U.S. government. Generally, our foreign sales contracts require payment in U.S. dollars, and therefore are not affected by foreign currency fluctuations. We occasionally issue orders or subcontracts to foreign companies in local currency.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     The information called for by this item is provided under Item 7 — “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Market Risks” above.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

Report of Independent Registered Public Accounting Firm			50
Consolidated Balance Sheets As of September 30, 2009 and 2008			51
Consolidated Statements of Earnings For the years ended September 30, 2009, 2008 and 2007			52
Consolidated Statements of Stockholders’ Equity For the years ended September 30, 2009, 2008 and 2007			53
Consolidated Statements of Cash Flows For the years ended September 30, 2009, 2008 and 2007			54
Notes to Consolidated Financial Statements			55

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Shareholders
Argon ST, Inc.

     We have audited the accompanying balance sheets of Argon ST, Inc. (a Delaware corporation) and subsidiaries (the Company) as of September 30, 2009 and 2008, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended September 30, 2009. We also have audited the Company’s internal control over financial reporting as of September 30, 2009, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on these financial statements and an opinion on the Company’s internal control over financial reporting based on our audits.

     We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

     A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

     Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, 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.

     In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Argon ST, Inc. as of September 30, 2009 and 2008, and the results of their operations and their cash flows for each of the three years in the period ended September 30, 2009 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of September 30, 2009, based on criteria established in Internal Control—Integrated Framework issued by COSO.

/s/ Grant Thornton LLP

McLean, Virginia
December 3, 2009

ARGON ST, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share and share amounts)

		September 30,
		2009				2008
ASSETS
CURRENT ASSETS
Cash and cash equivalents		$	43,108			$	15,380
Accounts receivable, net			116,656				104,859
Inventory, net			6,021				3,757
Income taxes receivable			—				360
Deferred project costs			2,296				3,412
Deferred income tax asset			5,137				4,534
Prepaids and other			1,499				1,644
TOTAL CURRENT ASSETS			174,717				133,946
Property, equipment and software, net			28,042				27,558
Goodwill			173,948				173,948
Intangibles, net			2,745				4,055
Other assets			573				831
TOTAL ASSETS		$	380,025			$	340,338
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES
Accounts payable and accrued expenses		$	32,526			$	29,133
Accrued salaries and related expenses			13,887				10,283
Deferred revenue			5,504				4,361
Capital lease obligations, current portion			27				56
Income taxes payable			4,784				—
Deferred rent, current portion			128				76
TOTAL CURRENT LIABILITIES			56,856				43,909
Deferred income tax liability, long-term			1,942				1,900
Deferred rent, net of current portion			1,306				1,383
Capital lease obligations, net of current portion			13				44
Other long-term liabilities			330				658
Commitments and contingencies
STOCKHOLDERS’ EQUITY
Common stock:
$.01 Par Value, 100,000,000 shares authorized, 22,965,952 and 27,775,423 shares issued at September 30, 2009 and 2008, respectively			230				228
Additional paid in capital			227,288				222,349
Treasury stock at cost:
1,219,077 and 1,126,245 shares at September 30, 2009 and 2008, respectively			(19,923	)			(18,425	)
Retained earnings			111,983				88,292
TOTAL STOCKHOLDERS’ EQUITY			319,578				292,444
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	380,025			$	340,338

The accompanying notes are an integral part of these consolidated financial statements.

ARGON ST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(In thousands, except per share and share amounts)

		For the Year Ended September 30,
		2009				2008				2007
CONTRACT REVENUES		$	366,076			$	340,934			$	282,209
COST OF REVENUES			298,038				279,932				229,767
GENERAL AND ADMINISTRATIVE EXPENSES			22,853				22,432				17,342
RESEARCH AND DEVELOPMENT EXPENSES			8,990				6,656				7,035
IMPAIRMENT OF INTANGIBLE ASSETS			—				—				6,748
INCOME FROM OPERATIONS			36,195				31,914				21,317
INTEREST (EXPENSE) INCOME, NET			(14	)			615				1,318
INCOME BEFORE INCOME TAXES			36,181				32,529				22,635
PROVISION FOR INCOME TAXES			12,490				12,256				7,933
NET INCOME		$	23,691			$	20,273			$	14,702
EARNINGS PER SHARE (BASIC)		$	1.09			$	0.94			$	0.66
EARNINGS PER SHARE (DILUTED)		$	1.08			$	0.92			$	0.65
WEIGHTED-AVERAGE SHARES OUTSTANDING
Basic			21,699,056				21,682,069				22,318,245
Diluted			22,004,024				22,086,981				22,767,826

The accompanying notes are an integral part of these consolidated financial statements.

ARGON ST, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In thousands, exept share amounts)

		Common Stock																				Total
		Number of				Common Stock				Additional Paid								Retained				Stockholders’
		Shares				Par Value				in Capital				Treasury Stock				Earnings				Equity
Balance, October 1, 2006			22,313,709				223				212,610				(534	)			53,397				265,696
Net income			—				—				—				—				14,702				14,702
Shares issued upon exercise of stock options			214,450				2				1,027				—				—				1,029
Employee stock purchase plan			33,480				1				702				—				—				703
Stock-based compensation			—				—				2,149				—				—				2,149
Tax benefit on stock option exercises			—				—				550				—				—				550
Purchase of treasury stock			—				—				—				(9,993	)			—				(9,993	)
Balance, September 30, 2007			22,561,639				226				217,038				(10,527	)			68,099				274,836
Net income			—				—				—				—				20,273				20,273
Shares issued upon exercise of stock options			188,061				2				1,020				—				—				1,022
Employee stock purchase plan			25,723				—				510				—				—				510
Stock-based compensation			—				—				3,307				—				—				3,307
Tax benefit on stock option exercises			—				—				474				—				—				474
Purchase of treasury stock			—				—				—				(7,898	)			—				(7,898	)
Adoption of FIN 48 - unrecognized tax benefit			—				—				—				—				(80	)			(80	)
Balance, September 30, 2008			22,775,423				228				222,349				(18,425	)			88,292				292,444
Net income			—				—				—				—				23,691				23,691
Shares issued upon exercise of stock options			63,030				1				405				—				—				406
Restricted stock units vested			100,562				1				(1	)			—				—				—
Employee stock purchase plan			26,937				—				503				—				—				503
Stock repurchase			—				—				—				(1,498	)			—				(1,498	)
Stock-based compensation			—				—				3,799				—				—				3,799
Tax benefit on stock option exercises and restricted stock			—				—				233				—				—				233
Balance, September 30, 2009			22,965,952				230				227,288				(19,923	)			111,983				319,578

The accompanying notes are an integral part of these consolidated financial statements.

ARGON ST, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)

		Years Ended September 30,
		2009				2008				2007
Cash flows from operating activities
Net income		$	23,691			$	20,273			$	14,702
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization			8,470				8,150				7,561
Stock-based compensation			3,888				3,548				2,149
Claims resolution			640				—				—
Amortization of deferred costs			168				168				—
Deferred income tax benefit			(537	)			(870	)			(2,174	)
Other non-cash charges			709				9				95
Impairment of intangible assets			—				—				6,748
Change in:
Accounts receivable			(12,157	)			(9,234	)			(8,714	)
Inventory			(2,578	)			(830	)			1,323
Prepaids and other			145				89				(74	)
Deferred project costs			1,116				(2,750	)			4,935
Accounts payable and accrued expenses			2,828				4,777				1,766
Accrued salaries and related expenses			3,604				(2,616	)			1,433
Deferred revenue			1,143				(8,810	)			(1,441	)
Income taxes			4,703				737				(475	)
Deferred rent			(25	)			(192	)			(311	)
Net cash provided by operating activities			35,808				12,449				27,523
Cash flows from investing activities
Acquisitions of property, equipment and software			(7,754	)			(10,838	)			(10,030	)
Increases (decreases) in restricted cash and cash held in escrow			—				1,800				(1,800	)
Purchases of investments			—				—				(72,700	)
Sales of investments			—				—				87,500
Business acquisitions, net of cash acquired			—				(5,300	)			(18,079	)
Other activity			90				314				(391	)
Net cash used in investing activities			(7,664	)			(14,024	)			(15,500	)
Cash flows from financing activities
Tax benefit on stock option exercises			233				474				550
Proceeds from exercise of stock options			406				1,022				1,029
Proceeds from employee stock purchase plan exercises			503				510				703
Principal repayments on capital lease obligations			(60	)			(118	)			(45	)
Purchase of treasury stock			(1,498	)			(7,898	)			(9,993	)
Net cash used in financing activities			(416	)			(6,010	)			(7,756	)
Net increase (decrease) in cash and cash equivalents			27,728				(7,585	)			4,267
Cash and cash equivalents, beginning of year			15,380				22,965				18,698
Cash and cash equivalents, end of year		$	43,108			$	15,380			$	22,965
Supplemental disclosure
Income taxes paid, net of refunds			(8,092	)			(11,912	)			(10,032	)
Interest expense paid			(40	)			(27	)			(8	)
Assets acquired under capital leases			—				—				55