UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                    FORM 10-K

(Mark One)

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

      For the fiscal year ended July 31, 2003

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

                         Commission file number: 0-7928

                        COMTECH TELECOMMUNICATIONS CORP.
             (Exact Name of Registrant as Specified in its Charter)

           Delaware                                      11-2139466
(State or Other Jurisdiction of             (I.R.S. Employer Identification No.)
Incorporation or Organization)

                                 105 Baylis Road
                            Melville, New York 11747
                    (Address of Principal Executive Offices)

        Registrant's telephone number, including area code (631) 777-8900

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

           Securities registered pursuant to Section 12(g) of the Act:
                     Common Stock, par value $.10 per share
       Series A Junior Participating Cumulative Preferred Stock par value
                                 $.10 per share
                                (Title of Class)

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

Indicate by check mark 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 this Form 10-K or any amendment to this
Form 10-K. |X|

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).

YES: |X| NO: |_|

The aggregate market value of the registrant's voting stock held by
non-affiliates of the registrant, computed by reference to the closing sales
price as quoted on the Nasdaq National Market on September 15, 2003 was
approximately $339,512,000.

The number of shares of the registrant's common stock outstanding on September
15, 2003 was 13,950,803.

                      DOCUMENTS INCORPORATED BY REFERENCE.

Certain portions of the document listed below have been incorporated by
reference into the indicated Part of this Annual Report on Form 10-K:

      Proxy Statement for Annual Meeting of Shareholders to be held December 9,
2003 Part III

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)
xAnnual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended July 31, 2006
oTransition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission File Number:    0-7928
(Exact name of registrant as specified in its charter)
Delaware11-2139466


(State or other jurisdiction of incorporation
/organization)
(I.R.S. Employer Identification Number)
68 South Service Road, Suite 230
Melville, New York
11747


(Address of principal executive offices)(Zip Code)
(631) 962-7000

(Registrant’s telephone number, including area code)
105 Baylis Road, Melville, NY 11747

(Former name, former address and former fiscal year, if changed since last report)
Securities registered pursuant to Section 12(b) of the Act:
Title of each className of each exchange on which registered


Common Stock, par value $.10 per shareNASDAQ Stock Market LLC
   Series A Junior Participating Cumulative
      Preferred Stock par value $.10 per shareNASDAQ Stock Market LLC

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

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. x   Yes     o  No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 of Section 15(d) of the Act.  o   Yes     x  No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x   Yes     o  No


INDEX PART I ITEM 1. BUSINESS 1 Industry Background 1 Corporate Strategies 1 Competitive Strengths 2 Telecommunications Transmission Business Segment 3 Mobile Data Communications Business Segment 4 RF Microwave Amplifier Business Segment 5 Key Products, Systems and Services 6 Acquisitions 6 Sales, Marketing and Customer Support 7 Backlog 8 Manufacturing and Service 8 Research and Development 8 Intellectual Property 8 Competition 9 Employees 9 Regulatory Matters 9 ITEM 2. PROPERTIES 10 ITEM 3. LEGAL PROCEEDINGS 10 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 10 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS 11 Dividends 11 Recent Sales of Unregistered Securities 11 Approximate Number of Equity Security Holders 11 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA 11 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 13 Overview 13 Critical Accounting Policies 14 i

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 this 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. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer    x            Accelerated filer   oNon-accelerated filer   o

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

The aggregate market value of the registrant’s voting stock held by non-affiliates of the registrant, computed by reference to the closing sales price as quoted on the Nasdaq National Market on January 31, 2006 was approximately $712,615,000.

The number of shares of the registrant’s common stock outstanding on September 15, 2006 was 22,906,766.

DOCUMENTS INCORPORATED BY REFERENCE.

Certain portions of the document listed below have been incorporated by reference into the indicated Part of this Annual Report on Form 10-K:

Proxy Statement for Annual Meeting of Stockholders to be held December 5, 2006 - Part III



Results of Operations 15 Comparison of Fiscal 2003 and 2002 15 Comparison of Fiscal 2002 and 2001 17 Liquidity and Capital Resources 18 Recent Accounting Pronouncements 19 Forward-Looking Statements and Risk Factors 20 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 26 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 26 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE 26 ITEM 9A. CONTROLS AND PROCEDURES 26 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT 27 ITEM 11. EXECUTIVE COMPENSATION 27 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS 27 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 27 ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES 27 PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K 27 SIGNATURES 30 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULE F-1 ii Note: As used in this Annual Report on Form 10-K, the terms "Comtech," "we" and "our company" mean Comtech Telecommunications Corp. and Comtech's subsidiaries. PART I ITEM 1. BUSINESS We design, develop, produce and market innovative products, systems and services for advanced communications solutions. We conduct our business through three complementary segments: telecommunications transmission, mobile data communications and RF microwave amplifiers. We offer niche product lines where we believe we have technological, engineering, systems design or other expertise that differentiate our product offerings. We believe we are leaders in the market segments that we serve. Industry Background The telecommunications industry has experienced dramatic changes since our founding in 1967 during the infancy of satellite and other wireless communications. Beyond initial requirements related to increasing the number of available voice circuits, the communications market has developed higher level needs around secure voice, video and data transmission at high throughput levels across a wide variety of land, air and sea environments. The following factors have played out with other macroeconomic developments to fuel advanced communications growth over the last decade: o Global development of information-intensive economies. Businesses have a growing need for additional bandwidth to communicate by voice, video and data with their customers and employees around the world and are increasingly reliant upon Internet and multimedia applications. We expect demand for bandwidth to grow in both developed and developing countries. o Developing countries upgrading their commercial and defense communication systems. Many developing countries that had previously not committed significant resources to or placed a high priority on developing and upgrading their communications systems are now doing so. A significant number of these countries do not have the resources, or have large geographic population areas or terrain that make it difficult, to install extensive land-based networks on a cost-effective basis. This provides an opportunity for satellite and other wireless communications systems to meet the requirements for communication services in these countries. o Military transformation to information based, network-centric warfare. Particularly in the U.S., militaries are increasingly reliant on information and communications technology to provide critical advantages in both battlefield, support and logistics operations. Having greater situational awareness, defined by knowledge of the location and strength of friendly and unfriendly forces during battle, can increase the likelihood of success during a conflict. The recent Iraqi conflict demonstrated the benefits of advanced satellite tracking and messaging communications services. Stretched battle and supply lines used satellite communications to span distances that normal radio communications could not cover. Despite the recent downturn in the global economy, we have benefited from the foregoing trends in communications across our three business segments by focusing internal and customer funded research and development resources to produce secure, scalable and reliable technologies to meet evolving market needs. Corporate Strategies We manage our business with the following principal corporate strategies: Seek leadership positions in niche products, systems and services - We seek to establish innovative niche product, system and service offerings across our three complementary business segments. By offering niche products, systems and services, we believe we can distinguish our offerings from our competitors and avoid commodity-based pricing thereby increasing our sales and profitability. Identify and participate in emerging technologies that complement our product portfolio - Technologies used in our products are subject to rapid development and frequent change. We work closely with our customers to identify new technologies and develop new applications, thereby seeking to ensure that we 1 satisfy and exceed their expectations. We enhance existing products and develop new products and technologies through internally funded and customer funded research and development. Operate flexible business segments to maximize responsiveness to our customers - We conduct our business in three complementary business segments which operate through individual operating units, each of which has its own sales, marketing, product development and manufacturing strategies. This allows each of our business segments to maintain a high level of focus and customer attentiveness. As appropriate and as guided by corporate senior management, our businesses capitalize on synergies that exist between them with respect to manufacturing, technology, sales, marketing and customer support. Strengthen our diversified and balanced customer base - We have developed relationships with domestic customers, international customers, various agencies of the U.S. government and foreign governments and strive to maintain a diversified and balanced customer base. We expect to continue to build and strengthen these relationships by anticipating and recognizing our customers' needs and providing them with on-time and cost-effective solutions. We believe this diversified and balanced customer base allows us to quickly respond to technology changes, dynamic market changes and specific industry conditions. Pursue acquisitions and investments in complementary businesses and technologies - To the extent acquisitions or investments in complementary businesses and technologies help us achieve our corporate strategies, we selectively evaluate and pursue them. Competitive Strengths As a result of the successful execution of our principal corporate strategies, we have established the following competitive strengths: Leadership Positions in All Three Business Segments - In our telecommunications transmission segment, we believe we are the leading provider of over-the-horizon microwave systems, satellite earth station modems and integrated circuits incorporating Turbo Product Code ("TPC") forward error correction technology. In our mobile data communications segment, we are the sole supplier of the U.S. Army's logistics command's Movement Tracking System and have recently expanded our position into other U.S. Army battlefield command and control applications. In our RF microwave amplifiers segment, we are one of the largest independent suppliers of broadband, high-power, high performance RF microwave amplifiers. Reputation as an Innovative Leader with Emphasis on Research and Development - We have established a leading position in our fields through internal and customer funded research and development activities. We believe we were the first company to begin full-scale deployment of TPC in digital satellite earth station modems, which can reduce satellite transponder lease costs or increase satellite earth station modem data throughput by up to 60%. Our field-proven over-the-horizon microwave systems utilize our 8 megabit per second adaptive digital modem, which we believe to be significantly faster than those of our competitors. Our mobile data communications system is the leading satellite-based mobile data communication system used by the U.S. Army that operates in the L-band frequency range for real-time messaging and location tracking of mobile assets. Ability to Leverage Our High Volume Manufacturing Center - Our high volume technology manufacturing center located in Tempe, Arizona, utilizes state-of-the-art design and production techniques, including analog, digital and RF microwave production, hardware assembly and full-service engineering. All three of our business segments utilize this manufacturing center for certain high volume production which allows them to secure larger volume contracts on a more cost-effective basis than they would otherwise be able to obtain. Diverse Customer Base with Long-Standing Relationships - We have established long-standing relationships with key domestic and international system and network suppliers in the satellite, defense and aerospace industries, as well as the U.S. government and foreign governments. Our products are in service around the globe and we continue to expand our geographic distribution as we continue to be recognized for our ability to develop new technologies and meet stringent program requirements. Successful Acquisition Track Record - We have demonstrated that we can successfully integrate acquired businesses, achieve increased efficiencies and capitalize on market and technological synergies. We believe that our disciplined approach in identifying, integrating and capitalizing on acquisitions provides us with a proven platform for additional growth. 2 Our Three Business Segments We conduct our business through three complementary business segments: telecommunications transmission, mobile data communications and RF microwave amplifiers. This allows each of our business segments to maintain a high level of focus and customer attentiveness. As appropriate and as guided by corporate senior management, our businesses capitalize on synergies that exist between them with respect to manufacturing, technology, sales, marketing and customer support. Financial information about our business segments can be found in note 11 to the consolidated financial statements on page F-20. Telecommunications Transmission Segment Overview Our telecommunications transmission segment, which is our largest business segment, provides sophisticated equipment and systems for satellite, over-the-horizon microwave and wireless line-of-sight telecommunications systems. Our telecommunications transmission products are used in a wide variety of commercial and defense applications including the transmission of voice, video and data over the Internet (such as voice over IP and broadband video), long distance telephone, broadcast, cable and highly secure defense applications. The following are the key products and systems, along with related markets and applications, for our telecommunications transmission segment: Satellite Earth Station Equipment and Systems. We provide customers a one-stop shopping approach by offering a broad range of communications equipment, including modems, frequency converters, power amplifiers and transceivers that are used in commercial and government satellite applications. We believe we are the leading provider of satellite earth station modems. Our modems incorporate TPC, an advanced form of forward error correction. We believe we were the first company to offer TPC in satellite earth station modems which can significantly reduce satellite transponder lease costs or increase satellite earth station modem data throughput by up to 60%. Our time division multiple access ("TDMA") and single channel per carrier ("SCPC") based communication products and software enable our customers to utilize satellite network bandwidth management techniques to more cost-effectively enable, among others, applications such as video teleconferencing, distance learning, telemedicine and Internet content delivery. Over-the-Horizon Microwave Systems. We design, develop, produce and market over-the-horizon microwave communications equipment and systems that can transmit signals over unfriendly or inaccessible terrain from 30 to 600 miles by reflecting the transmitted signals off the troposphere, an atmospheric layer located approximately seven miles above the earth's surface. Over-the-horizon microwave systems are a cost-effective alternative to satellite systems since they do not require the leasing of satellite transponder space. The reliability and security of these systems make them well suited for defense applications involving communications over unfriendly terrain requiring a span of greater than 30 miles and offshore oil platforms which are located more than twenty miles off shore. Forward Error Correction and Data Compression Technology. We design, develop and market forward error correction integrated circuits and data compression technology solutions which allow for more efficient transmission of voice, video and data in wireless communication channels. As noted above, our patented forward error correction technology, TPC, is included in our digital satellite earth station modems. We are currently exploring applications for our TPC technology in our over-the-horizon microwave systems and other wireless applications. Our data compression technology solutions are used by leading manufactures of copiers and data storage products. Business Strategies Our telecommunications transmission segment business strategies are as follows: Expand Leadership Position in Satellite Earth Station Market - Our satellite earth station modems, which incorporate leading technology such as TPC, have established us as a leading provider to domestic and international commercial satellite systems and network customers, as well as the government. With our one-stop shopping approach, we are well-positioned for increased demand that we anticipate will be driven by the need for the U.S. government and emerging countries to upgrade and build their communication systems, and the long-term growth of internet traffic, including voice over IP, data, video and broadband transmissions. 3 Capitalize on Increased Demand for Over-the-Horizon Microwave Systems and Upgrades - As the leading supplier in this niche product line, we anticipate capitalizing on increased demand for these secure systems and demand for upgrades to a large domestic and international installed base of older systems. Continue to Develop Technology for Efficient Satellite Bandwidth Utilization - As demand for satellite bandwidth continues to increase, technological advances will be needed to provide bandwidth solutions for our customers. We intend to continue to develop next generation advances of our TPC technology and believe this will have important utility in responding to the increasing demand for satellite bandwidth utilization, particularly by U.S. military, security and intelligence agencies. In addition, we intend to continue to develop our Internet and TDMA and SCPC based software and products which enable customers to utilize bandwidth management techniques to enable, among others, applications such as video teleconferencing, distance learning, telemedicine and Internet content delivery. Mobile Data Communications Segment Overview Our mobile data communications segment provides satellite-based mobile tracking and messaging services and mobile satellite transceivers primarily for defense applications, including logistics, support and battlefield command and control. Our system provides location, tracking and near real-time messaging with mobile assets. These services are provided through leased satellite capacity, utilizing our network, mobile transceivers and satellite earth station gateways. Our system and mobile transceivers can be used on a variety of vehicles, including trucks, jeeps, tanks and helicopters and allow communication globally using the L-Band satellite frequency. The following are the key applications in which our products and services are currently utilized: The U.S. Army's Movement Tracking System - We believe we are the leading provider of mobile tracking and messaging systems to the U.S. Army. In 1999, we were awarded a contract for the U.S. Army logistics command's Movement Tracking System ("MTS"). This contract allows for the purchase of up to $418.2 million of equipment and tracking and messaging services over an eight-year period, and is open to other government agencies to procure their tracking and messaging requirements. Through July 31, 2003, we have received orders aggregating $71.5 million under the MTS contract. The contract can be terminated by the U.S. Army at any time and orders are subject to unpredictable funding and deployment decisions. Battlefield Command & Control Applications - In February 2003, we announced a $23.5 million contract with a major U.S. prime contractor for satellite-based mobile tracking and messaging systems and services. This contract involves the integration of our mobile satellite transceivers into the U.S. Army's Force XXI Battle Command, Brigade and Below ("FBCB2") command and control systems. Our efforts include the supply of mobile satellite transceivers, the lease of satellite capacity, the supply and operation of the satellite packet data network and network gateways, and associated systems support and maintenance. Commercial Applications - We believe that our satellite-based mobile tracking and messaging services and products may be useful to domestic and international transportation companies, private fleets and heavy equipment fleets throughout the world. We believe that these commercial customers may be able to utilize our products and services to track the location of their vehicles and to communicate with them en route and better manage their information and operations. Although we currently have little experience in this market, we intend to fully evaluate this market for our products and services. Business Strategies Our mobile data communications segment business strategies are as follows: Continue to Capitalize on Opportunities with the U.S. Army - Although fiscal 2003 was a record year for both the MTS contract funding and the recent command and control battlefield application awards, the number of logistic and combat vehicles we have equipped (as a percentage of the total number of vehicles the U.S. Army deploys) is relatively small. For example, the U.S. Army logistics commands have identified a need to equip approximately 41,000 vehicles, of which only approximately 8,000 have been equipped as of July 31, 2003. Accordingly, we will actively work with the U.S. Army in maximizing funding for these opportunities. Leverage our Current Installed Base into other Military Commands - In light of the integration of our mobile satellite transceivers into the U.S. Army's FBCB2 command and control systems used in Iraq and Afghanistan, as well as the related use of our products by the U.S. Army's logistics command, we believe that there are a number of 4 opportunities with other military commands. The U.S. Army Reserve has received funding to purchase some of our products and services under the MTS contract and we are in early discussions with a number of different military services. Explore the Emerging Market for Commercial Satellite-Based Mobile Data Applications - Commercial markets for satellite-based mobile data communications include land mobile applications, remote sensing, utility, maritime and aviation applications. Although the market for commercial satellite-based mobile data applications is extremely competitive, we believe the performance of our system in the military setting may establish our system as an attractive choice for users in commercial markets. RF Microwave Amplifier Segment Overview We are one of the largest independent companies designing, developing, manufacturing and marketing solid-state high power, broadband amplifiers in the microwave and RF spectrums. Our amplifiers reproduce signals with greater power, current or voltage amplitude and are extremely complex and critical to the performance of the systems into which they are incorporated. We sell our amplifiers to domestic and foreign commercial and government users. The following are the principal markets and applications for our amplifiers: Defense - U.S. and foreign military customers use our amplifiers in a variety of telecommunications systems (such as transmitting and boosting signals), electronic warfare systems (such as simulation and jamming radar and in identification friend or foe ("IFF") systems). We believe that ongoing heightened security concerns are resulting in increased interest in our amplifier products and that the performance and quality of our amplifiers should enable us to capitalize on increased defense spending. Medical and Health - Our amplifiers are key components in oncology treatment systems and allow doctors to give patients who are suffering from cancer higher doses of radiation while focusing closer on the tumors, thereby avoiding damage to healthy tissue. Our amplifiers are also used in electronic pasteurization systems which use RF energy to kill bacteria. Satellite communications - Our amplifiers are used to amplify signals for voice, data and fax transmission for air-to-satellite-to-ground communications. For example, our amplifiers, when incorporated as part of an aircraft satellite communication system, can provide passengers with e-mail, internet access and video conferencing. Although sales in this product line continue to be negatively impacted by the events of September 11, 2001 and its aftermath, we remain optimistic about our prospects for long-term growth within this market. Instrumentation and testing - Manufacturers need to test electronic systems for electromagnetic compatibility and susceptibility to interference using high-power broadband RF microwave amplifiers such as those we manufacture. For example, such testing may be used to determine whether the various electronic systems in a commercial aircraft are likely to be affected by the use of laptop computers, wireless telephones or video games by passengers in flight. Telecommunication suppliers use our amplifiers to test the performance of high power microwave and wireless electronic system components used in cellular and PCS networks. Business Strategies We manage our RF microwave amplifier segment with the following principal strategies: Continue to Penetrate the Market for Outsourced Amplifier Production - Because solid-state high-power, broadband amplifiers are important to the performance of the larger systems into which they are incorporated, most companies prefer to manufacture these amplifiers in-house. We believe that our focus on and expertise in designing and manufacturing solid-state high-power, broadband amplifiers, as well as our high volume manufacturing capability, make us a cost-effective and technologically superior alternative to such in-house manufacturing. Customers, among others, who currently outsource only a small percentage of their in-house amplifier work to us, include Rockwell Collins, Raytheon, Thales, Lockheed Martin, Northrop Grumman and Siemens Medical Systems. Expand Marketing and Sales Efforts in the Defense Market - We believe there are a number of long-term opportunities in the defense and military markets, particularly for amplifiers used in electronic warfare such as IFF systems, and that we can increase our share of this market by pursuing partnering with existing and new prime contractors. 5 Enhance Position as Innovative Supplier by Increasing Research and Development - We will continue to pursue customer funded research and development to fuel new product development, as well as continue our internally funded research and development activities. We expect this emphasis on research and development to enhance our existing product line, develop new capabilities and solidify and strengthen our position in our principal markets.
INDEX
PART I
ITEM 1.BUSINESS1
Industry Background1
Corporate Strategies2
Competitive Strengths2
Telecommunications Transmission Segment3
Mobile Data Communications Segment 4
RF Microwave Amplifiers Segment 6
Key Products, Systems and Services 7
Acquisitions7
Sales, Marketing and Customer Support8
Backlog 8
Manufacturing and Service9
Research and Development9
Intellectual Property 9
Competition9
Employees10
Regulatory Matters10
ITEM 1A.RISK FACTORS10
ITEM 1B.UNRESOLVED STAFF COMMENTS19
ITEM 2.PROPERTIES19
ITEM 3.LEGAL PROCEEDINGS20
ITEM 4.SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS20
PART II
ITEM 5.MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
20
Dividends21
Recent Sales of Unregistered Securities21
Issuer Purchases of Equity Securities21
Approximate Number of Equity Security Holders21
ITEM 6.SELECTED CONSOLIDATED FINANCIAL DATA22
ITEM 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
23
Overview23
Recent Acquisitions24



Critical Accounting Policies24
Results of Operations26
Comparison of Fiscal 2006 and 200526
Comparison of Fiscal 2005 and 200429
Liquidity and Capital Resources31
Legal Proceedings33
Recent Accounting Pronouncements33
ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK34
ITEM 8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA34
ITEM 9.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
34
ITEM 9A.CONTROLS AND PROCEDURES34
ITEM 9B.OTHER INFORMATION35
PART III
ITEM 10.DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT35
ITEM 11.EXECUTIVE COMPENSATION35
ITEM 12.SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS
35
ITEM 13.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS36
ITEM 14.PRINCIPAL ACCOUNTANT FEES AND SERVICES36
PART IV
ITEM 15.EXHIBITS, FINANCIAL STATEMENT SCHEDULES37
SIGNATURES39
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULEF-1

ii



Note:   As used in this Annual Report on Form 10-K, the terms “Comtech,” “we,” “us,” “our” and “our company” mean Comtech Telecommunications Corp. and Comtech’s subsidiaries.

PART I

ITEM 1.  BUSINESS

We design, develop, produce and market innovative products, systems and services for advanced communications solutions. We believe many of our solutions play a vital role in providing or enhancing communication capabilities when terrestrial communications infrastructure is unavailable or ineffective.

We conduct our business through three complementary segments: telecommunications transmission, mobile data communications and RF microwave amplifiers. We sell our products to a diverse customer base in the global commercial and government communications markets. We believe we are a leader in the market segments that we serve.

In the past several years, we have expanded our product lines, completed strategic acquisitions, increased our research and development efforts and broadened our customer base. These actions have resulted in significant growth during the past four years. Our fiscal 2006 sales of $391.5 million and net income of $45.3 million are the highest in the history of our company. As of July 31, 2006, we have $251.6 million of unrestricted cash and cash equivalents on hand.

Our Internet website iswww.comtechtel.com and we make available free of charge, on our website, our annual reports, quarterly reports, current reports and any related amendments. Unless specifically noted, the reference to our website address does not constitute incorporation by reference of the information contained therein into this Annual Report on Form 10-K. We are incorporated in the state of Delaware and were founded in 1967.

Industry Background

The global commercial and government communications markets have experienced rapid technological advances and changes during the past decade. The markets we directly operate in have been impacted by many factors including the following:

The Global Development of Information-Intensive Economies. Businesses, governments and consumers have become increasingly reliant upon the Internet and multimedia applications to communicate voice, video and data to their customers and employees around the world. We expect demand for these high-bandwidth applications to continue to grow.
Demand for Increased Communications Cost Efficiencies.  Due to the significant increase in global voice, video and data communications traffic, communications service providers have been forced to increase their investments in transmission infrastructure in order to maintain the quality and availability of their services. As a result, communications service providers are continually seeking technology solutions that increase the efficiency of their networks in order to reduce overall network operating costs. In light of the relatively high cost of satellite transmission versus other transmission channels, we believe that communications service providers will make their satellite equipment vendor selections based upon the operating efficiency and quality of the products and solutions.
The Emergence of Information-Based, Network-Centric Warfare. Militaries around the world, including the United States (“U.S.”) military, have become increasingly reliant on information and communications technology to provide critical advantages in battlefield, support and logistics operations. Situational awareness, defined by knowledge of the location and strength of friendly and unfriendly forces during battle, can increase the likelihood of success during a conflict. As evidenced in the recent Iraqi conflict, stretched battle and supply lines have used satellite-based or over-the-horizon microwave communications solutions to span distances that normal radio communications, such as terrestrial-based systems, are unable to cover. We expect the need for these technologies to remain high due to the lack of terrestrial-based communications infrastructure in many parts of the world where the U.S. and other militaries operate.
The Need for Developing Countries To Upgrade Their Commercial and Defense Communication Systems.  We believe many developing countries are committing greater resources and are now placing a higher priority on developing and upgrading their communications systems than in the past. Many of these countries lack the financial resources to install extensive land-based networks, particularly where they have

1



large geographic areas or unfriendly terrain that make the installation of telecommunications infrastructure more costly. We believe that satellite and over-the-horizon microwave technologies often provide the most affordable and effective solutions to meet the requirements for communications services in these countries.

We continue to respond to these trends across our three business segments by focusing internal and customer funded research and development resources to produce secure, scalable and reliable technologies to meet these evolving market needs.

Corporate Strategies

We manage our business with the following principal corporate business strategies:

•   Seek leadership positions in markets where we can provide specialized products and services;
•   Identify and participate in emerging technologies that enhance or expand our product portfolio;
•   Operate business segments flexibly to maximize responsiveness to our customers;
•   Strengthen our diversified and balanced customer base; and
•   Pursue acquisitions of businesses and technologies.

We believe that, as a result of these business strategies, we are well positioned to continue to capitalize on growth opportunities in the global commercial and government communications markets.

Competitive Strengths

The successful execution of our principal corporate strategies is based on our competitive strengths, which are described below:

Leadership Positions in All Three Business Segments – In our telecommunications transmission segment, we believe we are the leading provider of over-the-horizon microwave systems, satellite earth station modems and integrated circuits incorporating Turbo Product Code (“TPC”) forward error correction technology. In our mobile data communications segment, we are the sole supplier of the U.S. Army logistics community’s Movement Tracking System (“MTS”) and continue to integrate our technologies and products with other U.S. military battlefield command and control applications and systems. In our RF microwave amplifiers segment, we believe we are one of the largest independent suppliers of broadband, high-power, high-performance RF microwave amplifiers.
Innovative Leader with Emphasis on Research and Development – We have established a leading technology position in our fields through internal and customer funded research and development activities. We believe we were the first company to begin full-scale deployment of TPC in digital satellite earth station modems, which can significantly reduce satellite transponder lease costs or increase satellite earth station modem data throughput. Our field-proven over-the-horizon microwave systems utilize a proprietary 16 megabits per second (“Mbps”) adaptive digital modem. Our mobile data communications system is the leading L-band satellite-based mobile data communications system used by the U.S. Army for near real-time messaging and location tracking of mobile assets.
Diverse Customer Base with Long-Standing Relationships – We have established long-standing relationships with leading domestic and international system and network suppliers in the satellite, defense and aerospace industries, as well as the U.S. government and foreign governments. Our products are in service around the globe and we continue to expand our geographic distribution. We believe that our customers recognize our ability to develop new technologies and to meet stringent program requirements.
Core Manufacturing Expertise That Supports All Three Business Segments – Our high-volume technology manufacturing center located in Tempe, Arizona utilizes state-of-the-art design and production techniques, including analog, digital and RF microwave production, hardware assembly and full-service engineering. All three of our business segments utilize this manufacturing center for certain high-volume production which allows us to secure volume discounts on key components, control the quality of our manufacturing process and maximize the utilization of our manufacturing capacity.

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Successful Acquisition Track Record – We have demonstrated that we can successfully integrate acquired businesses, achieve increased efficiencies and capitalize on market and technological synergies. We believe that our disciplined approach in identifying, integrating and capitalizing on acquisitions provides us with a proven platform for additional growth.

Our Three Business Segments

We conduct our business through three complementary business segments: telecommunications transmission, mobile data communications and RF microwave amplifiers. By operating independently with their own management teams, our business segments are able to maintain a high level of focus on their respective businesses and customers. Our corporate senior management team supports the business segments, by among other things, actively seeking to exploit synergies that exist between the segments, including in areas such as manufacturing, technology, sales, marketing and customer support. Financial information about our business segments can be found in Note 12 to the consolidated financial statements beginning on page F-23.

Telecommunications Transmission Segment

Overview

Our telecommunications transmission segment, which is currently our largest business segment, provides sophisticated equipment and systems that are used to enhance satellite transmission efficiency and that enable wireless communications in environments where terrestrial communications are unavailable, inefficient or too expensive. These products and systems are used in a wide variety of commercial and government applications including the transmission of voice, video and data over the Internet (such as Voice over Internet Protocol (“VoIP”) and broadband video), long distance telephony, the backhaul of cellular traffic using satellites, broadcast, cable and highly secure defense applications.

The following are the key products and systems, along with related markets and applications, for our telecommunications transmission segment:

Satellite Earth Station Equipment and Systems - ----------------------------------------------------------------------------------------------------------------------------- We provide customers a one-stop shopping approach by offering a broad range of earth station equipment, including modems, frequency converters, power amplifiers, transceivers, access devices and voice gateways that are used in commercial and government satellite applications. We believe we are the leading provider of satellite earth station modems. Our modems incorporate TPC, an advanced form of forward error correction. We believe we were the first company to offer TPC in satellite earth station modems which can significantly reduce satellite transponder lease costs or increase satellite earth station modem data throughput. We are in the process of introducing a new line of satellite modems with low density parity check (“LDPC”), a next-generation form of forward error correction, as well as Carrier-in-CarrierTM, a technique in our modems that allows satellite earth stations to transmit and receive at the same frequency, effectively reducing transponder bandwidth requirements by 50%. Our time division multiple access (“TDMA”) and single channel per carrier (“SCPC”) based communication products and software enable our customers to utilize satellite network bandwidth management techniques to more cost-effectively enable, among others, applications such as video teleconferencing, distance learning, telemedicine and Internet content delivery.

Over-the-Horizon Microwave Systems - We design, develop, produce and market over-the-horizon microwave communications equipment and systems that can transmit signals over unfriendly or inaccessible terrain from 20 to 600 miles by reflecting the transmitted signals off of the troposphere, an atmospheric layer located approximately seven miles above the earth’s surface. Over-the-horizon microwave systems are a cost-effective, secure alternative to satellite systems as they do not require the leasing of satellite transponder space. We believe the U.S. military market is an area of potential growth as advancements in our over-the-horizon microwave technology are enabling new applications for these systems, such as the transmission of video. Our traditional customers in this product line have included foreign governments who have used our systems to, among other things, transport radar tracking information from remote border locations, as well as oil and gas companies, who use our systems to enable communication links for offshore oilrigs and other remote exploration activities.

Forward Error Correction Technology - We design, develop and market forward error correction integrated circuit solutions which allow for more efficient transmission of voice, video and data in wireless communication channels. We have been issued several U.S. patents relating to our forward error correction technology. We incorporate this technology into our satellite earth station modems, which we believe increases the efficiency of our modems for the transmission of satellite traffic. We have also integrated TPC technology into our over-the-horizon microwave systems. We believe that the cost efficiency to our customers of this technology provides us with a competitive


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advantage in the markets we serve. In addition, we market data compression integrated circuits which are used by leading manufactures of copiers and data storage products.

Business Products/Strategies

Our telecommunications transmission segment business strategies are as follows:

Expand Leadership Position in Satellite Earth Station Market – Our satellite earth station modems, which incorporate leading technologies such as TPC, LDPC and Carrier-in-CarrierTMhave established us as a leading provider to domestic and international commercial satellite systems and network customers, as well as U.S. and foreign governments. We recently expanded our product offerings in this area to include access devices and voice gateways which allow customers to consolidate multi-service network traffic such as voice, video and data. When combined with our advanced satellite earth station modems, the combined solution is ideal for backhauling cellular traffic using satellites, which can reduce customer bandwidth requirements by up to 90%. We expect to continue to expand our leadership position by offering new products and solutions (including products which include the new Digital Video Broadcasting standard known as DVB-S2) to meet the expected increased demand from commercial, government and defense customers. In addition, in order to better serve the U.S. government market, we recently introduced the SLM-5650 High-Speed Satellite Modem. This high-speed modem is compact and rugged, and is ideally suited for many government and military applications such as fixed, at-the-halt and on-the-move communications.

Capitalize on Increased Demand for Over-the-Horizon Microwave Systems Representative End-Userand Upgrades – As the leading supplier in this specialized product line, we anticipate capitalizing on increased demand for new systems, as well as demand for upgrades to a large global installed base of older systems. These systems are sometimes referred to as troposcatter systems and are extremely reliable and secure when compared to satellite-based systems. As a result of recent advances in our technology, these systems can now transmit video and other broadband applications. Our modems have demonstrated performance in excess of 16 Mbps and include our patented TPC forward error correction technology. Recently, and after laboratory trials and extensive field-testing, the U.S. Department of Defense (“DoD”) purchased our modem upgrade kits to be used on a portion of the DoD’s inventory of AN/TRC-170 digital troposcatter terminals. We are in continuing discussions with the customer to upgrade additional terminals. The increased capability of the upgraded AN/TRC-170 terminals could reduce the DoD’s dependence on satellite communications in areas of conflict.

Continue to Develop Technology for Efficient Satellite Bandwidth Utilization – As demand for satellite bandwidth continues to increase, technological advances will be needed to provide affordable bandwidth solutions for our customers. We intend to continue to develop next generation advances of our forward error correction technology and believe this will have important utility in responding to the increasing demand for satellite bandwidth utilization, particularly by U.S. military, security and intelligence agencies. We intend to continue to enhance our Internet, TDMA and SCPC-based software and products which enable customers to utilize bandwidth management techniques to enable, among others, applications such as video teleconferencing, distance learning, telemedicine and Internet content delivery. Recently, we introduced the first of several products that incorporate the above-mentioned Carrier-in-CarrierTM technology. This licensed technology, when combined with our advanced forward error correction and modulation techniques, will enable us to integrate additional bandwidth savings functionality into our satellite modems.

Mobile Data Communications Segment

Overview

Our mobile data communications segment, currently our fastest growing segment, provides customers with an integrated solution to enable global satellite-based communications when mobile, real-time, secure transmission is required. Products and systems include mobile satellite transceivers, the supply and operation of satellite packet data networks and network gateways, and associated installation, training and maintenance. Our technology and products have been integrated into U.S. military logistics and battlefield command and control applications, and can be used on a variety of vehicles, including trucks, jeeps, tanks and helicopters. When equipped with this technology, soldiers manning these vehicles are able to maintain communications with central command and fellow soldiers in the field, and can be continually tracked by central command. We recently developed the MT-2012 mobile satellite transceiver which features embedded radio frequency identification devices (“RFID”) and selected availability anti-spoofing modules (“SAASM”). Many of our products can be integrated with handheld mobile computers.


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The following are the key applications for our mobile data communications segment’s products and services:

The U.S. Army’s Movement Tracking System (“MTS”) –Our technology has been incorporated into the U.S. Army logistics community’s MTS system. We believe the MTS system, which is currently being used by U.S. forces in Iraq and in certain other areas of the world, is the leading L-band satellite-based mobile data communication system used by the U.S. Army for near real-time messaging and location tracking of mobile assets. We are currently the sole provider of the MTS system. We provide MTS services through leased satellite capacity, utilizing our proprietary network operations center, mobile transceivers, ruggedized computers and satellite earth station gateways. Through September 19, 2006, we have received orders aggregating approximately $326.4 million under the MTS contract. Of the total orders, approximately $53.0 million relate to battlefield command and control applications, as discussed below. Our prime contract is for an eight-year period, ending in July 2007. Although we anticipate the roll out of this system to continue, the contract can be terminated at any time, is not subject to automatic renewal or extension, and orders are subject to unpredictable funding and deployment decisions.

Battlefield Command and Control Applications – Pursuant to contracts with the U.S. Army Communications Electronics Command (“CECOM”), as well as orders against the MTS contract, our technology has also been integrated into the U.S. Army’s Force XXI Battle Command, Brigade and Below (“FBCB2”) command and control systems, also known as Blue Force Tracking (“BFT”). Our efforts include the supply of mobile satellite transceivers, the lease of satellite capacity, the supply and operation of the satellite packet data network and network gateways, and associated systems support and maintenance.

Homeland Security and Multi-National Applications – Our products and services can be used to facilitate communications in the event that natural disasters or other situations, such as a terrorist attack, disable or limit existing terrestrial communications. For example, the Army National Guard recently began to deploy our mobile data communication products to better prepare for and react to disaster and recovery operations at the local, state and national levels. The Army National Guard, which uses the MTS system and currently places its orders against the MTS contract, has obtained significant funding, through a supplemental Army National Guard and Army Reserve Equipment Plan, for purchases and related program office expenses. In addition, NATO is incorporating our geoOpsTM Enterprise Location Monitoring System into a multi-national satellite-based friendly force tracking system. The geoOpsTM software can also be used to share real-time operational data allowing the same view of unfolding operations or emergency scenarios.

Commercial Satellite-Based Mobile Data Applications – We believe that there may be opportunities to leverage our core strengths and expertise in satellite-based mobile tracking and messaging services into commercial market applications. These include vehicle tracking and communication for domestic and international transportation companies, private fleets and heavy equipment fleets. We continue to carefully explore this market opportunity and seek to identify markets that have a particular requirement for our high quality, real-time and secure satellite-based communications network. Such markets could include fleet operators whose vehicles transport dangerous or hazardous materials, such as ammunition, weapons or flammable materials (e.g., oil or industrial chemicals). We will continue to market our solutions in a methodical way and target them to those customers whose needs best fit our technology offerings. We do not expect a significant amount of commercial sales in this area in fiscal 2007.

Business Strategies

Our mobile data communications segment business strategies are as follows:

Continue to Capitalize on Opportunities with the U.S. Army – The number of logistics and combat vehicles that use our system, as a percentage of the total number of vehicles the U.S. Army deploys, is relatively small. We continue to work closely with the U.S. Army to provide additional enhancements to both our network capabilities and communications performance. We believe that by seeking to work collaboratively with the U.S. Army to ensure that its short-term and long-term needs are being addressed, we will enhance our preparedness and competitive positioning for a potential recompete, renewal or extension of the MTS contract, which currently expires in July 2007.

Leverage our Current Installed Base into other Military Commands – In light of the integration of our mobile satellite transceivers into the U.S. Army’s FBCB2 command and control systems used in Iraq, Afghanistan and elsewhere around the world, as well as the integration of our geoOpsTM software platform into a multi-national satellite-based friendly force tracking system, we believe that there are a number of opportunities for us to market our products and solutions to other military commands, both in the U.S. and internationally. The U.S. Army Reserve and Army National Guard have received funding to purchase some of our products and services under the MTS contract and we continue to work with a number of other military commands to increase brand and product


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awareness. In order to meet future needs, we continue to develop new products that feature enhancements including miniaturization and updated software that can provide increased speed, functionality and a more intuitive and easier to use graphical user interface for end-users.

Market and Develop New Commercial Satellite-Based Mobile Data Applications –Although the market for commercial satellite-based mobile data applications is extremely competitive, we believe the performance of our system in the military setting may establish our system as an attractive choice for users in certain commercial markets. We are currently focusing our efforts, in a methodical way, on selling to those potential customers whose needs best fit with our technology offerings.

RF Microwave Amplifiers Segment

Overview

We believe we are one of the largest independent companies designing, developing, manufacturing and marketing solid-state, high-power, broadband amplifiers in the microwave and RF spectrums. Our amplifiers reproduce signals with greater power, current or voltage amplitude, and are extremely complex and critical to the performance of the systems into which they are incorporated. We sell our amplifiers to domestic and foreign commercial and government users. The following are the principal markets and applications for our amplifiers:

Defense Applications – U.S. and foreign military customers use our amplifiers in a variety of telecommunications systems (such as transmitting and boosting signals) and electronic warfare systems (such as simulation, radar, jamming and in identification friend or foe (“IFF”) systems). We believe that ongoing military activities and heightened homeland security concerns are resulting in increased interest in our amplifier products.

Sophisticated Commercial Applications – Our amplifiers are key components in sophisticated commercial applications. For example, our amplifiers are used in oncology treatment systems that allow doctors to give patients who are suffering from cancer higher doses of radiation while focusing closer on the tumors, thereby avoiding damage to healthy tissue. In addition, our amplifiers are used to amplify signals carrying voice, video or data for air-to-satellite-to-ground communications. For example, our amplifiers, when incorporated as part of an aircraft satellite communication system, can provide passengers with e-mail, Internet access and video conferencing. Manufacturers also use our amplifiers to test their electronic systems for electromagnetic compatibility and susceptibility to interference. Such testing may be used to determine whether the various electronic systems in a commercial aircraft are likely to be affected by the use of laptop computers, wireless telephones or video games by passengers in flight.

Business Strategies

We manage our RF microwave amplifiers segment with the following principal strategies:

Continue to Penetrate the Market for Outsourced Amplifier Production – Because solid-state, high-power, broadband amplifiers are important to the performance of the larger systems into which they are incorporated, many companies often prefer to manufacture these amplifiers in-house. We believe that our focus on and expertise in designing and manufacturing solid-state, high-power, broadband amplifiers, as well as our high-volume manufacturing capability, make us a cost-effective and technologically superior alternative to such in-house manufacturing. Customers, among others, who currently outsource only a small percentage of their in-house amplifier work to us include Rockwell Collins, Inc., Raytheon Company, Thales Group, European Aeronautic Defense and Space Company, Telephonics Corporation, BAE Systems PLC, Northrop Grumman Corporation and Varian, Inc.

Expand Marketing and Sales Efforts in the Defense Market – We believe there are a number of long-term opportunities in the defense and military markets, particularly for amplifiers used in electronic warfare applications, and that we can increase our share of this market by pursuing partnering arrangements with existing and new prime contractors.


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Enhance Position as an Innovative Supplier by Increasing Research and Development – We will continue to pursue customer funded research and development to fuel new product development, as well as continue our internally funded research and development activities. We expect this emphasis on research and development to enhance our existing product lines, develop new capabilities and solidify and strengthen our position in our principal markets.

Key Products, Systems and Services

Business
Segment
Products/Systems
and Services
Representative
Customers
End-User
Applications - -----------------------------------------------------------------------------------------------------------------------------




Telecommunications transmissionSatellite earth station equipment and systems including: analog and digital modems, frequency converters, power amplifiers, transceivers, access devices, voice gateways and network management systemsSatellite systems integrators, Commercialwireless and other communication service providers and defense transmission equipmentcontractors such as Intelsat, Globecom and systems service providersEmbratel, as well as U.S. and foreign governmentsCommercial and defense applications including the including: analog and contractors such as Intelsat, transmission of voice, video and digital modems, frequency PanAmSat, Globecom and Hughes data over the Internet, broadband, converters, power Network Systems long distance telephone, broadcast amplifiers, transceivers and and cable, distance learning and satellite bandwidth U.S. and foreign governments telemedicine utilization software - -----------------------------------------------------------------------------------------------------------------------------
Over-the-horizon microwave systems and 16 Mbps adaptive modemsMilitary customers primarily Highly secureand related prime manufacturers, as well as oil companies such as BP AmocoSecure defense systems foreign governments and applications, such as transmission related prime manufacturers, of sensitive military data, and and oil companies such as commercial applications such as ExxonMobil and BP Amoco the transmission of voice and data to and from oil platforms which are located more than twenty miles offshore - -----------------------------------------------------------------------------------------------------------------------------
Forward error correction technology such as TPC and data compression technologySatellite and wireless equipment providers and leading manufacturers of copier and data storage products, such as SonyEnables more efficient technology such as Turbo equipment providers and transmission of voice, video and Product Codec (TPC) leading manufacturers of data in wireless communication copier and data storage channels Data compression technology products, such as Konica and Sony - -----------------------------------------------------------------------------------------------------------------------------
Mobile data communicationsMobile data trackingsatellite transceivers, network services, installation, training and maintenanceU.S. Army logistics command community, CECOM, and prime contractors to the U.S. Armed Forces and commercial customersTwo-way satellite basedsatellite-based mobile communications messaging services for tracking, messaging services (U.S. mobile assets Prime contractors to the U.S. Army'sArmy’s MTS), battlefield command Armed Forces and control applications (FBCB2) Mobile satellite transceivers(FBCB2 or BFT), RFID applications and commercial applications such as fleet tracking and messaging - -----------------------------------------------------------------------------------------------------------------------------
RF microwave amplifiersSolid-state, high-power, broadband RF microwave amplifiersDomestic and international Defense applications including broadband RF microwave defense customers, related communications, radar, jamming and amplifiers prime contractors and system identification friend or foe (IFF) suppliers such as Raytheon and Thales, medical equipment companies such as Varian, and aviation industry system integrators such as Rockwell CollinsDefense applications including communications, radar, jamming and IFF and commercial applications such Thales as medical applications (oncology treatment systems), and satellite Medical equipment companies communications (including suchair-to-satellite-to-ground communications)

Acquisitions

We have made acquisitions of businesses and enabling technologies during the past three years and have followed a disciplined approach in identifying, executing and capitalizing on these acquisitions.

In May 2004, we acquired certain assets and product lines and assumed certain liabilities of Memotec, Inc. (“Memotec”), a subsidiary of Kontron AG, and at the same time, purchased inventory owned by Kontron Canada Inc., for an aggregate purchase price of approximately $5.2 million in cash. The products acquired allow us to offer customers a multi-service platform that converges voice, internet protocol (“IP”) and legacy data over packet-based networks with reduced bandwidth requirements. This operation is part of our telecommunications transmission segment.

In February 2005, we acquired certain assets and assumed certain liabilities of Tolt Technologies, Inc. (“Tolt”) for an aggregate purchase price of $3.7 million, including transaction costs of $0.2 million. In fiscal 2006, we significantly de-emphasized stand-alone sales of Tolt’s turnkey employee mobility solutions, and are focusing our


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efforts on selling commercial satellite-based mobile data applications. This operation is part of our mobile data communications segment.

In August 2006, we acquired certain assets and assumed certain liabilities of Insite Consulting, Inc. (“Insite”), a logistics application software company, for $2.7 million, plus certain earn-out payments based on the achievement of future sales targets. The first part of the earn-out cannot exceed $1.4 million and is limited to a five-year period. The second part of the earn-out, which is for a ten-year period, is unlimited and based on a per unit future sales target primarily relating to new commercial satellite-based mobile data communications markets. Insite has developed the geoOps™ Enterprise Location Monitoring System, a software-based solution that allows customers to integrate legacy data systems with near-real time logistics and operational data systems. This operation was combined with our existing business and is part of our mobile data communications segment.

Sales, Marketing and Customer Support

Sales and marketing strategies vary with particular markets served and include direct sales through sales, marketing and engineering personnel, sales through independent representatives, value-added resellers or a combination of the foregoing. We intend to continue to expand international marketing efforts by engaging additional independent sales representatives, distributors and value-added resellers and by establishing additional Comtech foreign sales offices. As appropriate and as Siemens Medical air-to-satellite-to-ground Systems communications)guided by corporate senior management, our three business segments capitalize on manufacturing, technology, sales, marketing and instrumentation (to test Aviation industrycustomer support synergies between them.

Our management, technical and marketing personnel establish and maintain relationships with customers. Our strategy includes a commitment to provide ongoing customer support for our systems and equipment. This support involves providing direct access to engineering staff or trained technical representatives to resolve technical or operational issues.

Our over-the-horizon microwave systems, mobile data communications products and services and our solid-state, high-power, broadband RF microwave amplifier product lines have long sales cycles. Once a product is designed into a system, electronic systems) providers suchcustomers may be reluctant to change the incumbent supplier due to the extensive qualification process and potential redesign required in using alternative sources. Accordingly, senior management is actively involved in key aspects of relations with our major customers.

Sales by geography and customer type, as Rockwell Collins - ----------------------------------------------------------------------------------------------------------------------------- a percentage of consolidated net sales, are as follows: 

Acquisitions We have made acquisitions during the past several years and have followed a disciplined approach in identifying, executing and capitalizing on these acquisitions. 6 In July 2000, we acquired EF Data, the satellite communications division of Adaptive Broadband Corporation, for approximately $54.2 million in cash. We combined this operation with our then existing Arizona based satellite earth station equipment operations, which resulted in enhanced product offerings, distribution reach and market presence. The combined operations are part of our telecommunications transmission segment. In April 2001, we acquired certain assets and product lines of MPD Technologies, Inc. for $12.7 million. The acquisition expanded our product offerings, customer base, market and applications in the RF microwave amplifier segment. Products acquired included amplifiers utilized in oncology treatment systems, satellite air-to-ground communications, as well as a wide range of defense applications. We combined this operation with our then existing New York-based operation in our RF microwave amplifiers segment. In July 2002, we acquired certain assets and product lines and assumed certain liabilities of Advanced Hardware Architectures, Inc. for $6.4 million in cash. The acquisition allowed us to design, develop and market forward error correction integrated circuits and data compression technology solutions which allow for more efficient transmission of voice, video and data in wireless communication channels. Products acquired included the patented forward error correction technology, TPC, which is included on a chip in our digital satellite earth station modems. We are currently exploring applications for TPC in our over-the-horizon microwave systems and other wireless applications. We also extended our diversified customer base by acquiring certain data compression technology solutions that are used by leading manufacturers of copiers and data storage products. This operation is part of our telecommunications transmission segment. In March 2003, we acquired certain Internet and TDMA-based software for $0.4 million in cash. The acquisition expanded our product line offering in our satellite earth station equipment and systems market. The software enables our customers to utilize bandwidth management techniques to enable applications such as video teleconferencing, distance learning, telemedicine and Internet content delivery. This operation is part of our telecommunications transmission segment. Sales, Marketing and Customer Support Sales and marketing strategies vary with particular markets served and include direct sales through sales, marketing and engineering personnel, sales through independent representatives, value-added resellers or a combination of the foregoing. We intend to continue to expand international marketing efforts by engaging additional independent sales representatives, distributors and value-added resellers and by establishing additional Comtech foreign sales offices. As appropriate and as guided by corporate senior management, our three business segments capitalize on manufacturing, technology, sales, marketing and customer support synergies between them. Our management, technical and marketing personnel establish and maintain relationships with customers. Our strategy includes a commitment to provide ongoing customer support for our systems and equipment. This support involves providing direct access to engineering staff or trained technical representatives to resolve technical or operational issues. Over-the-horizon microwave systems, mobile data tracking and messaging products and services and a portion of our solid-state high-power, broadband RF microwave amplifier product line have long sales cycles. Once a product is designed into a system, customers may be reluctant to change the incumbent supplier due to the extensive qualification process and potential redesign required in using alternative sources. Accordingly, senior management is actively involved in key aspects of relations with our major customers. Our international sales (including sales to prime contractors' international customers) represented approximately 39.7% 41.2% and 46.2% of total net sales in fiscal 2003, 2002 and 2001, respectively. Domestic commercial sales represented approximately 16.1%, 25.0% and 30.7% of our total net sales in fiscal 2003, 2002 and 2001, respectively. The balance of our sales were to the U.S. government (including sales to prime contractors to the U.S. government) and represented 44.2%, 33.8% and, 23.1% of our total net sales in fiscal 2003, 2002 and 2001, respectively. In fiscal 2003, sales to one customer, a prime contractor, represented 19.8% of our total net sales. There were no customers in fiscal 2002 or 2001, other than the U.S. government, that represented 10% or more of our total net sales. 7 Backlog

Fiscal Years Ended July 31,

 200620052004
   
  
  
  
 United States       
 U.S. government 47.3% 42.1% 40.1% 
 Commercial customers 17.1% 13.9% 14.5% 
   
  
  
  
      Total United States 64.4% 56.0% 54.6% 
   
 International          
 North African country 9.7% 13.2% 14.1% 
 Other international customers 25.9% 30.8% 31.3% 
   
  
  
  
      Total International 35.6% 44.0% 45.4% 

International sales include sales to U.S. domestic companies for inclusion in products that will be sold to international customers. One customer, a prime contractor, represented 10.2% of consolidated net sales in both fiscal 2006 and 2005. In fiscal 2004, one customer, another prime contractor, represented 12.5% of consolidated net sales.

Backlog

Our backlog as of July 31, 2003 and 2002 was approximately $100.1 million and $44.1 million, respectively. We expect that a majority of the backlog as of July 31, 2003 will be recognized as sales during fiscal 2004. We received advance payments aggregating approximately $2.5 million as of July 31, 2003 in connection with orders included in the backlog at that date. At July 31, 2003, approximately 34.9% of the backlog consisted of U.S. government contracts, subcontracts and government funded programs, approximately 52.7% consisted of orders for use by foreign customers (including sales to prime contractors' international customers) and approximately 12.4% consisted of orders for use by domestic commercial customers. Our backlog consists solely of orders believed to be firm. In the case of contracts with departments or agencies of the U.S. government, including our MTS contract discussed above, orders are only included in backlog to the extent funding has been obtained for such orders. All of the contracts in our backlog are subject to cancellation at the convenience of the customer or for default in the event that we are unable to perform under the contract. Variations in backlog from time to time are attributable, in part, to the timing of contract proposals, the timing of contract awards and the delivery schedules on specific contracts. As a result, we believe our backlog at any point in the fiscal year is not necessarily indicative of the total sales anticipated for any particular future period. Our satellite earth station equipment, forward error correction product lines and a portion of our RF microwave amplifier business operate under short lead times and usually generate sales out of inventory. Manufacturing and Service Our manufacturing operations consist principally of the assembly and testing of electronic products that we design and build from purchased fabricated parts, printed circuits and electronic components and, in the case of antennas, the casting of fiberglass antennas. We consider our facilities to be well maintained and adequate for current and planned production requirements. All of our manufacturing facilities, including those that serve the military market, must comply with stringent customer specifications. We employ formal quality management programs and other training programs, including the International Standard Organization's (ISO-9000) quality procedure registration programs. Our ability to deliver products to customers on a timely basis is dependent, in part, upon the availability and timely delivery by subcontractors and suppliers of the components and subsystems that we use in manufacturing our products. Electronic components and raw materials used in our products are generally obtained from independent suppliers. Some components are standard items and are available from a number of suppliers. Others are manufactured to our specifications by subcontractors. We obtain certain components and subsystems from a single source or a limited number of sources. We believe that most components and equipment are available from existing or alternative suppliers and sub-contractors. Research and Development We reported internal research and development expenses of $12.8 million, $11.0 million and $10.2 million in fiscal 2003, 2002 and 2001, respectively, representing 7.4%, 9.3% and 7.5% of total net sales, respectively, for these periods. A portion of our research and development efforts relates to the adaptation of our basic technology to specialized customer requirements and is recoverable under contracts, and such expenditures are not included in our research and development expenses for financial reporting purposes. During fiscal 2003, 2002 and 2001, we were reimbursed by customers for such activities in the amounts of $3.7 million, $2.0 million and $1.7 million, respectively. Our aggregate research and development expenditures (internal and customer funded) were $16.5 million, $13.0 million and $11.9 million or 9.5%, 11.0% and 8.7% of total net sales in fiscal 2003, 2002 and 2001, respectively. Intellectual Property We rely upon trade secrets, technical know-how and continuing technological innovation to develop and maintain our competitive position. The products we sell require a large amount of engineering design and manufacturing expertise. The majority of these technological capabilities, however, are not protected by patents and licenses. We rely on the expertise of our employees and our learned experiences in both the design and manufacture of our products and the delivery of our services. 8 Some of our telecommunications transmission technology is protected by patents, which are significant to protecting our proprietary technology. We have been issued several U.S. patents relating to forward error correction technology that is utilized in our turbo product codec satellite modems. The earliest of these patents expires in 2012. Competition Our businesses are highly competitive and characterized by rapid technological change. A significant technological breakthrough by others, including new companies or our customers, could have a material adverse effect on our business. Our growth and financial condition depend, among other things, on our ability to keep pace with such changes and developments and to respond to the sophisticated requirements of an increasing variety of electronic equipment users and transmission technologies. Certain of our competitors are substantially larger, have significantly greater financial, marketing, research and development, technological and operating resources and broader product lines than we do. The principal competitors in our telecommunications transmission segment include ViaSat, Inc., Radyne ComStream Corporation, Miteq, Inc. and Marconi Corporation plc. The principal competitors in our mobile data communications segment include Qualcomm, Inc., Aether Systems, Inc., and EMS Technologies, Inc. The principal competitors in our RF microwave amplifier segment include Herley Industries, Inc., Zeta (a division of Integrated Defense Technologies, Inc.) and ARKalmus. In addition, certain of our customers, such as prime contractors who currently outsource their engineering and manufacturing requirements to us, have technological capabilities in our product areas and could choose to replace our products with their own. We believe that competition in all of our markets is based primarily on product performance, reputation, delivery times, customer support and price. Due to our flexible organizational structure and proprietary know-how, we believe we have the ability to develop, produce and deliver equipment on a cost-effective basis faster than many of our competitors. Employees At July 31, 2003, we had 689 employees, 361 of whom were engaged in production and production support, 195 in research and development and other engineering support and 133 in marketing and administrative functions. None of our employees are represented by a labor union. We believe that our employee relations are good. Regulatory Matters We are subject to a variety of local, state and federal governmental regulations. Our products, which are incorporated into wireless communications systems, must comply with various government regulations, including those of the Federal Communications Commission. Our manufacturing facilities, which may store, handle, emit, generate and dispose hazardous substances to manufacture our products, are subject to a variety of local, state and federal regulations, including those issued by the Environmental Protection Agency. Our international sales are subject to U.S. and foreign regulations and may require licenses from U.S. government agencies or require the payment of certain tariffs. Our financial reporting, corporate governance, public disclosure and compliance practices are governed by laws such as the Sarbanes Oxley Act of 2002 and various rules and regulations issued by the Securities and Exchange Commission. As a U.S. government contractor and subcontractor, we are subject to a variety of rules and regulations, such as the Federal Acquisitions Regulations. To date, we have incurred costs in connection with compliance with these regulations in the normal course of business. We have not experienced material changes to our earnings, capital expenditures or competitive position caused by unexpected expenditures in connections with complying with such regulations. 9 ITEM 2. PROPERTIES Our corporate offices are located in a portion of a 46,000-square foot engineering and manufacturing facility on more than two acres of land in Melville, New York. This facility is primarily used by our RF microwave amplifier segment. We lease this facility from a partnership controlled by our Chairman, Chief Executive Officer and President. The lease, as amended, provides for our use of the premises as they now exist for a term of ten years through December 2011. We have a right of first refusal in the event of a sale of the facility. The base annual rental under the lease is subject to customary adjustments. Although primarily used for our satellite earth station product lines which are part of our telecommunications transmission segment, all three of our business segments utilize a 113,000-square foot, high volume manufacturing center located in Tempe, Arizona. This manufacturing center utilizes state-of-the-art design and production techniques, including analog, digital and RF microwave production, hardware assembly and full service engineering. The lease for this facility expires in February 2006 and we have the option to extend the term of the lease for an additional five-year period. Our telecommunication transmission segment leases an additional four facilities in Orlando, Florida, St. Cloud, Florida, Pullman, Washington, and Fremont, California, aggregating 194,500 square feet. Our mobile data communications segment leases a 12,000 square foot facility in Germantown, Maryland. All of these facilities, which are primarily utilized for manufacturing, engineering and general office use, are located in the United States and all are leased from unrelated third parties. The lease terms for these facilities are generally for multi-year periods and we believe that we will be able to renew these leases or find comparable facilities elsewhere. In addition, we operate two small offices in Asia and Africa. ITEM 3. LEGAL PROCEEDINGS We are subject to certain legal actions, which arise in the normal course of business. We believe that the outcome of these actions will not have a material effect on our consolidated financial position or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to our stockholders during the fourth quarter of the fiscal year ended July 31, 2003. 10 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Our common stock trades on the Nasdaq National Market under the symbol "CMTL". The following table shows the quarterly range of the high and low sale prices for our common stock as reported by the Nasdaq National Market, as adjusted to reflect the three-for-two stock split effected in July 2003. Such prices do not include retail markups, markdowns, or commissions. Common Stock ------------ High Low ---- --- Fiscal Year Ended 7-31-02 First Quarter $ 10.97 8.33 Second Quarter 9.22 7.43 Third Quarter 8.60 5.50 Fourth Quarter 7.15 4.21 Fiscal Year Ended 7-31-03 First Quarter 6.08 3.83 Second Quarter 7.93 4.88 Third Quarter 9.71 5.89 Fourth Quarter 23.60 9.67 Dividends We have never paid cash dividends on our common stock and we intend to continue this policy for the foreseeable future. We expect to use earnings to finance the development and expansion of our businesses. Our Board of Directors reviews our dividend policy periodically. The payment of dividends in the future will depend upon our earnings, capital requirements, financial condition and other factors considered relevant by our Board of Directors. Recent Sales of Unregistered Securities On July 16, 2003, we sold 2.1 million shares of our common stock to a limited number of accredited investors in a private placement transaction for an aggregate price of approximately $40.6 million (or $19.33 per share). We used a portion of the net proceeds of $38.2 million from the sale of shares to prepay long-term debt and will use the balance for other corporate purposes. The securities offered and sold in the private placement were not registered with the SEC and were sold without registration in reliance upon the exemption from securities registration afforded by the provisions of Regulation D under the Securities Act of 1933, as amended. We registered for resale the shares sold in the private placement by filing a registration statement with the SEC on July 28, 2003. On August 18, 2003, that registration statement became effective. In addition to the private placement, we sold, in the aggregate, 54,736 shares of our common stock to holders of warrants who exercised purchase rights during fiscal 2003. These warrants for the purchase of shares of our common stock were issued in connection with our acquisition of Mobile Datacom Corporation in September, 1998 and were issued with an exercise price of $4.38 per share. Approximate Number of Equity Security Holders As of September 15, 2003 there were approximately 678 holders of the Company's common stock. Such number of record owners was determined from the Company shareholders' records and does not include beneficial owners of the Company's common stock held in the name of various security holders, dealers and clearing agencies. ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA The following table shows selected historical consolidated financial data for the Company. Detailed historical financial information is included in the audited consolidated financial statements for fiscal years 2003 and 2002. 11
Years Ended July 31, (In thousands, except per share amounts) 1999 2000 2001 2002 2003 -------- -------- -------- -------- -------- Consolidated Statement2006 and 2005 was $186.0 million and $153.3 million, respectively. We expect that a majority of Operations Data: Netthe backlog as of July 31, 2006 will be recognized as sales $ 37,886 66,444 135,931 119,357 174,035 Costduring fiscal 2007. At July 31, 2006, 60.4% of the backlog consisted of U.S. government contracts, subcontracts and government funded programs, 28.4% consisted of orders for use by international customers (including sales 26,405 45,942 87,327 78,780 114,317 -------- -------- -------- -------- -------- Gross profit 11,481 20,502 48,604 40,577 59,718 Expenses: Selling, generalto U.S. domestic companies for inclusion in products that will be sold to international customers) and administrative 6,554 12,058 22,707 22,512 28,045 11.2% consisted of orders for use by U.S. commercial customers.


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Almost all of the contracts in our backlog are subject to cancellation at the convenience of the customer or for default in the event that we are unable to perform under the contract. In the case of contracts with departments or agencies of the U.S. government, including the MTS contract discussed above, orders are only included in backlog to the extent funding has been obtained for such orders.

Variations in backlog from time to time are attributable, in part, to the timing of contract proposals, the timing of contract awards and the delivery schedules on specific contracts. Our satellite earth station equipment product line operates under short lead times and usually generates sales out of inventory. As a result, we believe our backlog at any point in the fiscal year is not necessarily indicative of the total sales anticipated for any particular future period.

Manufacturing and Service

Our manufacturing operations consist principally of the assembly and testing of electronic products that we design and build from purchased fabricated parts, printed circuits and electronic components.

We consider our facilities to be well maintained and adequate for current and planned production requirements. All of our manufacturing facilities, including those that serve the military market, must comply with stringent customer specifications. We employ formal quality management programs and other training programs, including the International Standard Organization’s (“ISO-9000”) quality procedure registration programs.

Our ability to deliver products to customers on a timely basis is dependent, in part, upon the availability and timely delivery by subcontractors and suppliers of the components and subsystems that we use in manufacturing our products. Electronic components and raw materials used in our products are generally obtained from independent suppliers. Some components are standard items and are available from a number of suppliers. Others are manufactured to our specifications by subcontractors. Although we obtain certain components and subsystems from a single source or a limited number of sources, we believe that most components and equipment are available from multiple sources.

Research and development 2,022 2,644 10,190 11,041 12,828 In-processDevelopment

We reported research and development -- 10,218 -- 2,192 -- Amortizationexpenses for financial reporting purposes of intangibles 78 230 2,552 1,471 2,039 -------- -------- -------- -------- -------- 8,654 25,150 35,449 37,216 42,912 -------- -------- -------- -------- -------- Operating income (loss) 2,827 (4,648) 13,155 3,361 16,806 Other$25.8 million, $21.2 million and $15.9 million in fiscal 2006, 2005 and 2004, respectively, representing 6.6%, 6.9% and 7.1% of total net sales, respectively, for these periods.

A portion of our research and development efforts relates to the adaptation of our basic technology to specialized customer requirements and is recoverable under contracts, and such expenditures are not included in our research and development expenses (income): Interest expense 204 381 4,015 3,061 2,803 Interest income (65) (1,511) (2,303) (452) (275) Other (income) expense, net (39) 201 841 (28) -- -------- -------- -------- -------- -------- Income (loss) from continuing operations before income taxes 2,727 (3,719) 10,602 780 14,278 Provision (benefit) for income taxes (3,754) 85 3,888 (368) 4,569 -------- -------- -------- -------- -------- Income (loss) from continuing operations 6,481 (3,804) 6,714 1,148 9,709 Discontinued operations: Loss from operationsfinancial reporting purposes. During fiscal 2006, 2005 and 2004, we were reimbursed by customers for such activities in the amounts of discontinued segment (less applicable income tax benefit of $79 in 2000$4.4 million, $3.0 million and $320 in 1999) (622) (137) -- -- -- Loss on disposal of discontinued segment, including provision of $430 for operating losses during phase out period (net of income tax benefit of $306) (594) -- -- -- -- -------- -------- -------- -------- -------- Net income (loss) $ 5,265 (3,941) 6,714 1,148 9,709 ======== ======== ======== ======== ======== Basic income (loss) per share: Income (loss) from continuing operations $ 1.04 (0.45) 0.61 0.10 0.85 Loss from discontinued operations (0.19) (0.01) -- -- -- -------- -------- -------- -------- -------- Basic income (loss) $ 0.85 (0.46) 0.61 0.10 0.85 ======== ======== ======== ======== ======== Diluted income (loss) per share: Income (loss) from continuing operations $ 0.94 (0.45) 0.57 0.10 0.80 Loss from discontinued operations (0.17) (0.01) -- -- -- -------- -------- -------- -------- -------- Diluted income (loss) $ 0.77 (0.46) 0.57 0.10 0.80 ======== ======== ======== ======== ======== Weighted average number of common shares outstanding - Basic 6,214 8,495 11,022 11,192 11,445 Potential dilutive common shares 646 -- 843 516 748 -------- -------- -------- -------- -------- Weighted average number of common and common equivalent shares outstanding assuming dilution - Diluted 6,860 8,495 11,865 11,708 12,193 ======== ======== ======== ======== ======== Other Consolidated Operating Data: Backlog at period-end $ 38,637 50,538 50,094 44,121 100,142 New orders 61,071 78,345 135,487 113,384 230,056 Research$5.7 million, respectively. Our aggregate research and development expenditures - internal(internal and customer funded) were $30.2 million, $24.2 million and $21.7 million or 7.7%, 7.8% and 9.7% of total net sales in fiscal 2006, 2005 and 2004, respectively.

Intellectual Property

We rely upon trade secrets, technical know-how and continuing technological innovation to develop and maintain our competitive position. The products we sell require significant engineering design and manufacturing expertise. The majority of these technological capabilities, however, are not protected by patents and licenses. We rely on the expertise of our employees and our learned experiences in both the design and manufacture of our products and the delivery of our services.

Some of our telecommunications transmission technology is protected by patents, which are significant to protecting our proprietary technology. We have been issued several U.S. patents relating to forward error correction technology that is utilized in our TPC-enabled satellite modems. The earliest of these patents expires in 2012.

Competition

Our businesses are highly competitive and are characterized by rapid technological change. A significant technological breakthrough by others, including new companies or our customers, could have a material adverse effect on our business. Our growth and financial condition depend on, among other things, our ability to keep pace with such changes and developments and to respond to the sophisticated requirements of an increasing variety of electronic equipment users and transmission technologies.


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Certain of our competitors are substantially larger, have significantly greater financial, marketing, research and development, technological and operating resources and broader product lines than we do. The principal competitors in our telecommunications transmission segment include ViaSat, Inc., Radyne Corporation, Miteq Inc., iDirect, Inc. and Paradise Datacom LLC. The principal competitors in our mobile data communications segment include Qualcomm, Inc. and EMS Technologies, Inc. The principal competitors in our RF microwave amplifiers segment include Herley Industries, Inc., Zeta (a division of DRS Technologies, Inc.) and ARKalmus. In addition, certain of our customers, such as prime contractors who currently outsource their engineering and manufacturing requirements to us, have technological capabilities in our product areas and could choose to replace our products with their own. In some cases, we partner or team with companies (both large and mid-tier) to compete against other teams for large defense programs. In some cases, these same companies may be competitors as it relates to certain aspects of our business.

We believe that competition in all of our markets is based primarily on technology innovation, product performance, reputation, delivery times, customer support and price. Due to our flexible organizational structure and proprietary know-how, we believe we have the ability to develop, produce and deliver products on a cost-effective basis faster than many of our competitors.

Employees

At July 31, 2006, we had 1,228 employees (including temporary employees and contractors), 700 of whom were engaged in production and production support, 297 in research and development and other engineering support and 231 in marketing and administrative functions. None of our employees are represented by a labor union. We believe that our employee relations are good.

Regulatory Matters

We are subject to a variety of local, state and federal governmental regulations. Our products that are incorporated into wireless communications systems must comply with various governmental regulations, including those of the Federal Communications Commission (“FCC”). Our manufacturing facilities, which may store, handle, emit, generate and dispose of hazardous substances that are used in the manufacture of our products, are subject to a variety of local, state and federal regulations, including those issued by the Environmental Protection Agency. Our international sales are subject to U.S. and foreign regulations and may require licenses from U.S. government agencies or require the payment of certain tariffs. In addition, we are subject to recent directives by the European Union (“EU”) related to the recycling of electrical and electronic equipment. Our financial reporting, corporate governance, public disclosure and compliance practices are governed by laws such as the Sarbanes-Oxley Act of 2002 and rules and regulations issued by the Securities and Exchange Commission (“SEC”). As a U.S. government contractor and subcontractor, we are subject to a variety of rules and regulations, such as the Federal Acquisition Regulations.

To date, we have incurred costs in connection with compliance with these regulations in the normal course of business.

ITEM 1A.  RISK FACTORS

Forward-Looking Statements

This Form 10-K contains “forward-looking statements” including statements concerning the future of our industry, product development, business strategy, continued acceptance of our products, market growth, and dependence on significant customers. These statements can be identified by the use of forward-looking terminology such as “may,” “expect,” “anticipate,” “estimate,” “continue,” or other similar words. When considering forward-looking statements, you should keep in mind the risk factors and other cautionary statements in this Form 10-K. The risk factors noted below and other factors noted throughout this Form 10-K could cause our actual financial condition or results to differ significantly from those contained in any forward-looking statement.


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Due to many factors, including the amount of business represented by large contracts, new orders, net sales and our operating results are difficult to forecast and may be volatile.

We have experienced, and will experience in the future, significant fluctuations in new orders, net sales and operating results, including our net income and earnings per share, from quarter-to-quarter. One reason for this is that a significant portion of our business — primarily the over-the-horizon microwave systems of our telecommunications transmission segment, our RF microwave amplifiers segment and our mobile data communications segment — is derived from a limited number of relatively large customer contracts, the timing of which cannot be predicted. Our new orders, net sales and operating results, including our net income and earnings per share, also may vary significantly from period-to-period because of the following factors: product mix sold; fluctuating market demand; price competition; new product introductions by our competitors; fluctuations in foreign currency exchange rates; unexpected changes in delivery of components or subsystems; political instability; regulatory developments; the price and expected volatility of our stock (which will impact, among other items, the amount of stock based compensation expense we may record); and general economic conditions. Accordingly, you should not rely on period-to-period comparisons as indications of our future performance because these comparisons may not be meaningful.

Our business, results of operations, liquidity and financial position depend on our ability to maintain our level of U.S. government business.

In recent years, we have increased our dependence on U.S. government business. Our sales to the U.S. government (including sales to prime contractors to the U.S. government) accounted for approximately 47.3%, 42.1% and 40.1% of our consolidated net sales for the fiscal years ended July 31, 2006, 2005 and 2004, respectively. Approximately 60.4% of our backlog at July 31, 2006 consisted of orders from the U.S. government. We expect such business to represent a significant portion of our consolidated net sales for the foreseeable future. U.S. government business exposes us to various risks, including:

unexpected contract or project terminations or suspensions;
unpredictable order placements, reductions or cancellations;
reductions in government funds available for our projects due to government policy changes, budget cuts and other spending priorities;
penalties arising from post-award contract audits;
cost audits in which the value of our contracts may be reduced;
higher-than-expected final costs, particularly relating to software and hardware development, for work performed under contracts where we commit to specified deliveries for a fixed price; and
unpredictable cash collections of unbilled receivables that may be subject to acceptance of contract deliverables by the customer and contract close out procedures, including government approval of final indirect rates.

All of our U.S. government contracts can be terminated by the U.S. government for its convenience. Termination for convenience provisions provide only for our recovery of costs incurred or committed, settlement expenses and profit on work completed prior to termination. In addition to the right of the U.S. government to terminate, U.S. government contracts are conditioned upon the continuing approval by Congress of the necessary spending. Congress usually appropriates funds for a given program on a fiscal year basis even though contract performance may take more than one year. Consequently, at the beginning of a major program, the contract may not be fully funded, 3,801 6,916 11,846 13,070 16,504 and additional monies are normally committed to the contract only if, as and when appropriations are made by Congress for future fiscal years.

We obtain U.S. government contracts through a competitive bidding process. We cannot assure you that we will continue to win competitively awarded contracts or that awarded contracts will generate sufficient net sales to result in profitability.

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If we are unable to comply with complex U.S. government regulations governing security and contracting practices, we could be disqualified as a supplier to the U.S government.

As a supplier to the U.S. government we must comply with numerous regulations, including those governing security and contracting practices. Failure to comply with these procurement regulations and practices could result in fines being imposed against us or our suspension for a period of time from eligibility for bidding on, or for award of, new government contracts. If we are disqualified as a supplier to government agencies, we would lose most, if not all, of our U.S. government customers and revenues from sales of our products would decline significantly. Among the potential causes for disqualification are violations of various statutes, including those related to procurement integrity, export control, U.S. government security regulations, employment practices, protection of the environment, accuracy of records in the recording of costs, and foreign corruption. The government could investigate and make inquiries of our business practices and conduct audits of contract performance and cost accounting. Based on the results of such audits, the U.S. government could adjust our contract-related costs and fees. Depending on the results of these audits and investigations, the government could make claims against us, and if it were to prevail, certain incurred costs would not be recoverable by us.

Our dependence on international sales and international sales agents may adversely affect us.

Sales for use by international customers (including sales to U.S. domestic companies for inclusion in products that will be sold to international customers) represented approximately 35.6%, 44.0% and 45.4% of our consolidated net sales for the fiscal years ended July 31, 2006, 2005 and 2004, respectively. Approximately 28.4% of our backlog at July 31, 2006 consisted of orders for use by foreign customers. Direct and indirect sales to a North African country during the fiscal year ended July 31, 2006 were 9.7% of consolidated net sales. We expect that international sales will continue to be a substantial portion of our consolidated net sales.

These sales expose us to certain risks, including barriers to trade, fluctuations in foreign currency exchange rates (which may make our products less price-competitive), political and economic instability, exposure to public health epidemics, availability of suitable export financing, tariff regulations, and other U.S. and foreign regulations that may apply to the export of our products and the generally greater difficulties of doing business abroad.

We attempt to reduce the risk of doing business in foreign countries by seeking subcontracts with large systems suppliers, contracts denominated in U.S. dollars, advance or milestone payments and irrevocable letters of credit in our favor. However, we may not be able to reduce the economic risk of doing business in foreign countries, in all instances. In such cases, billed and unbilled receivables relating to international sales are subject to increased collectibility risk and may result in significant write-offs, which could have a material adverse impact on our business, results of operations and financial condition.

In some countries, such as the aforementioned North African country, we rely upon one international sales agent. We attempt to reduce our reliance on sales agents by establishing additional foreign sales offices and by engaging, where practicable, more than one independent sales representative in a territory.

Foreign defense contracts generally contain provisions relating to termination at the convenience of the government. In addition, certain of our products and systems may require licenses from U.S. government agencies for export from the U.S., and some of our products are not permitted to be exported. We cannot be sure of our ability to gain any licenses that may be required to export our products, and failure to receive required licenses could materially reduce our ability to sell our products outside the U.S.

All of our businesses are subject to rapid technological change; we must keep pace with changes to compete successfully.

We are engaged in businesses characterized by rapid technological change, evolving industry standards, frequent new product announcements and enhancements, and changing customer demands. The introduction of products and services embodying new technologies and the emergence of new industry standards could render any of our products and services obsolete or non-competitive. The technology used in our products and services evolves rapidly, and our business position depends, in large part, on the continuous refinement of our scientific and engineering expertise and the development, either through internal research and development or acquisitions, of new or enhanced products and technologies. We may not have the economic or technological resources to be successful in such efforts and we may not be able to identify and respond to technological improvements made by our competitors in a timely or cost-effective fashion. A significant technological breakthrough by others, including smaller competitors or new firms, could have a material adverse impact on our business, results of operations and financial condition.


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Reductions in telecommunications equipment and systems spending may negatively affect our revenues, profitability and the recoverability of our assets, including intangible assets.

From the second half of fiscal 2001 through fiscal 2003, our revenues from commercial customers were negatively affected by the uncertain economic environment both in the overall market, and more specifically in the telecommunications sector. Since 2003, the telecommunications sector has stabilized and is growing again; however, if the economy slows, some of our customers may reduce their budgets for spending on telecommunications equipment and systems. As a consequence, our current customers and other prospective customers may postpone, reduce or even forego the purchase of our products and systems, which could adversely affect our revenues, profitability and the recoverability of our assets, including intangible assets.

Our mobile data communications business is subject to unique risks.

Although sales and earnings have increased significantly in the past few years, our mobile data communications business has a relatively limited operating history compared to our other business segments. It is subject to many of the risks inherent in the operation of a new business enterprise. In addition to the other risk factors described in this section, the risk factors applicable to our mobile data communications business include the following:

Our contract for the U.S. Army logistics community’s MTS system currently obligates us to provide hardware, including mobile satellite transceivers, and satellite and other services, through July 2007, at fixed prices and other terms set forth in the contract. The U.S. Army is not obligated to purchase any equipment or services under the contract. Orders and related sales relating to this contract are subject to unpredictable funding and deployment decisions.
The MTS contract is not subject to automatic renewal or extension upon its scheduled expiration in July 2007. As such, the U.S. Army may decide to recompete the contract in which case a new MTS contract for all or a portion of our efforts could be awarded to another party in the future. If the MTS contract is not renewed, extended or if we fail to succeed in a recompete process, it would have a material adverse impact on our business and results of operations.
In general, as we seek to grow our mobile data communications business, we anticipate that we will need to maintain a substantial inventory in order to provide terminals to our customers on a timely basis. Certain components that we need have purchasing lead-times of four months or longer, and the MTS contract requires us to provide mobile terminals within 90 days after we receive an order. If forecasted orders are not received, we may be left with large inventories of slow moving or unusable parts or terminals that would result in an adverse impact on our business, results of operations and financial position.
We lease the satellite capacity necessary to operate our system from a limited number of third party satellite networks. Our ability to grow and remain profitable depends on the ability of our satellite network providers to provide sufficient network capacity, reliability and security to our customers. If our satellite network providers were to increase the prices of their services, or to suffer operational or technical failures, our business, results of operation and financial condition could be adversely affected.
Our systems occasionally experience downtime. All satellite communications are subject to the risk that a satellite or ground station failure or a natural disaster may interrupt service. Interruptions in service could have a material adverse impact on our business, results of operations and financial condition. Should we be required to restore service on another system in the event of a satellite failure, our costs could increase which would have an adverse effect on our business, results of operations and financial condition.
To date, commercial satellite-based mobile data applications have not been a material part of our business. Our future success in commercial markets will depend on, among other things, our ability to access the best distribution channels, the development or licensing of applications which create value for the customer and our ability to attract and retain qualified personnel. We may have to increase our operating expenses to be successful in the commercial satellite-based mobile data market.
There are several existing commercial and defense-related competitors, such as Qualcomm, Inc. and Northrop Grumman Corporation, that participate in the mobile data communications market and who have much greater financial resources than us. Existing competitors, including terrestrial-based service providers, are also aggressively pricing their products and services and may continue to do so in the future. Competitors continue to offer new value added products and services, which we may be unable to match on a timely or cost effective basis. Increased competition may impact margins throughout the industry. We anticipate that new competitors will also enter the mobile data communications market in the future. This

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could impact our penetration into the commercial market in a significant way and could negatively impact our existing business, results of operation and financial condition.

Our backlog is subject to customer cancellation or modification and such cancellation could result in decreased sales and increased provisions for excess and obsolete inventory.

We currently have a backlog of orders, mostly under contracts that the customer may modify or terminate. Almost all of the contracts in our backlog are subject to cancellation at the convenience of the customer or for default in the event that we are unable to perform under the contract. We cannot assure you that our backlog will result in net sales.

We record a provision for excess and obsolete inventory based on historical and future usage trends including the consideration of the amount of backlog we have on hand at any particular point in time. If our backlog is cancelled or modified, our estimates of future product demand may prove to be inaccurate, in which case we may have understated the provision required for excess and obsolete inventory. In the future, if we determine that our inventory was overvalued, we would be required to recognize such costs in our financial statements at the time of such determination. Any such charges could be material to our results of operations and financial position.

Our dependence on component availability, subcontractor availability and performance and key suppliers, including the core manufacturing expertise of our high-volume technology manufacturing center located in Tempe, Arizona, may adversely affect us.

None of our business segments generally maintain a substantial inventory of components and subsystems. Although we obtain certain components and subsystems from a single source or a limited number of sources, we believe that most components and subsystems are available from alternative suppliers and subcontractors. A significant interruption in the delivery of such items, however, could have a material adverse impact on our business, results of operations and financial condition.

In recent years, we have increased the company-wide dependency on our high-volume technology manufacturing center located in Tempe, Arizona, which is part of our telecommunications transmission segment. In fiscal 2006, 2005 and 2004, intersegment sales by the telecommunications transmission segment to the mobile data communications segment were $55.7 million, $19.5 million, and $12.8 million, respectively. Intersegment sales in fiscal 2006, 2005 and 2004 by the telecommunications transmission segment to the RF microwave amplifiers segment were $7.5 million, $8.6 million and $3.6 million, respectively. If a natural disaster or other business interruption occurred, we do not have immediate access to other manufacturing facilities, and as a result, our business would suffer. In addition, if our high-volume technology manufacturing center is unable to produce sufficient product or maintain quality, it could have a material adverse impact on all three of our business segments, our results of operations and our financial condition.

Contract cost growth on our fixed price contracts and other contracts that cannot be justified as an increase in contract value due from customers exposes us to reduced profitability and the potential loss of future business and other risks.

Almost all of our products and services are sold under fixed price contracts. This means that we bear the risk of unanticipated technological, manufacturing, supply or other problems, price increases or other increases in the cost of performance. Operating margin is adversely affected when contract costs that cannot be billed to the customer are incurred. This cost growth can occur if initial estimates used for calculating the contract price were incorrect, or if estimates to complete increase. The cost estimation process requires significant judgment and expertise. Reasons for cost growth may include unavailability and productivity of labor, the nature and complexity of the work to be performed, the effect of change orders, the availability of materials, the effect of any delays in performance, availability and timing of funding from the customer, natural disasters, and the inability to recover any claims included in the estimates to complete. A significant change in an estimate on one or more programs could have a material impact on our business, results of operations and financial position.

Adverse regulatory changes could impair our ability to sell products.

Our products are incorporated into wireless communications systems that must comply with various U.S. government regulations, including those of the FCC, as well as international laws and regulations. Regulatory changes, including changes in the allocation and availability of frequency spectrum, and in the military standards and specifications that define the current satellite networking environment, could materially harm our business by (i) restricting development efforts by us and our customers, (ii) making our current products less attractive or obsolete, or (iii) increasing the opportunity for additional competition.


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Changes in, or our failure to comply with, applicable laws and regulations could materially harm our business. In addition, the increasing demand for wireless communications has exerted pressure on regulatory bodies worldwide to adopt new standards and reassign bandwidth for these products and services. The reduced number of available frequencies for other products and services and the time delays inherent in the government approval process of new products and services have caused and may continue to cause our customers to cancel, postpone or reschedule their installation of communications systems including their satellite, over-the-horizon microwave, or terrestrial line-of-sight microwave communication systems. This, in turn, could have a material adverse effect on our sales of products to our customers.

The EU has recently adopted two directives to facilitate the recycling of electrical and electronic equipment sold in the EU. The first of these is the Waste from Electrical and Electronic Equipment directive, which directs EU member states to enact laws, regulations, and administrative provisions to ensure that producers of electrical and electronic equipment are financially responsible for the collection, recycling, treatment, and environmentally sound disposal of certain products placed on the market after August 13, 2005, and from products in use prior to that date that are being replaced. The EU has also adopted the Restriction on the Use of Certain Hazardous Substances in Electrical and Electronic Equipment (“RoHS”) directive. The RoHS directive restricts the use of lead, mercury, and certain other substances in electrical and electronic products placed on the market in the EU after July 1, 2006.

Similar laws and regulations have been or may be enacted in other regions, including in the U.S., China and Japan. Other environmental regulations may require us to reengineer our products to utilize components that are more environmentally compatible, and such reengineering and component substitution may result in additional costs to us. There can be no assurance that such existing or future laws will not have a material adverse effect on our business.

Acquisitions and strategic investments may divert our resources and management attention; results may fall short of expectations.

We intend to continue pursuing selected acquisitions of and investments in businesses, technologies and product lines as a key component of our growth strategy. Any future acquisition or investment may result in the use of significant amounts of cash, potentially dilutive issuances of equity securities, incurrence of debt and amortization expenses or in process research and development charges related to intangible assets. Acquisitions involve numerous risks, including:

difficulties in the integration and assimilation of the operations, technologies, products and personnel of an acquired business;
diversion of management’s attention from other business concerns;
increased expenses associated with the acquisition; and
potential loss of key employees or customers of any acquired business.

We cannot assure you that our acquisitions will be successful and will not adversely affect our business, results of operations or financial condition.

We have investments in recorded goodwill as a result of prior acquisitions, and changes in future business conditions could cause these investments to become impaired, requiring substantial write-downs that would reduce our operating income.

Goodwill recorded on our balance sheet as of July 31, 2006 was $22.2 million. We evaluate the recoverability of recorded goodwill amounts annually, or when evidence of potential impairment exists. The annual impairment test is based on several factors requiring judgment. Changes in our operating performance or business conditions, in general, could result in an impairment of goodwill which could be material to our results of operations.

The loss of key technical or management personnel could adversely affect our business.

Our success depends on the continued contributions of key technical management personnel, including the key corporate and operating unit management at each of our subsidiaries. Many of our key personnel, particularly the key engineers of our subsidiaries, would be difficult to replace, and are not subject to employment or noncompetition agreements. Our growth and future success will depend in large part upon our ability to attract and retain highly qualified engineering, sales and marketing personnel. Competition for such personnel from other companies, academic institutions, government entities and other organizations is intense. Although we believe that we have been successful to date in recruiting and keeping key personnel, we may not be successful in attracting and


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retaining the personnel we will need to continue to grow and operate profitably. Also, the management skills that have been appropriate for us in the past may not continue to be appropriate if we continue to grow and diversify.

Our business and operating results may be negatively impacted if we are unable to continue to manage growth of our businesses.

Certain of our businesses have experienced periods of rapid growth that have placed, and may continue to place, significant demands on our managerial, operational and financial resources. In order to manage this growth, we must continue to improve and expand our management, operational and financial systems and controls. We also need to continue to recruit and retain personnel and train and manage our employee base. We must carefully manage research and development capabilities and production and inventory levels to meet product demand, new product introductions and product and technology transitions. If we are not able to timely and effectively manage our growth and maintain the quality standards required by our existing and potential customers, we could experience a material adverse impact on our business, results of operations and financial condition.

Our markets are highly competitive.

The markets for our products are highly competitive. We cannot assure you that we will be able to successfully compete or that our competitors will not develop new technologies and products that are more effective than our own. We expect the DoD’s increased use of commercial off-the-shelf products and components in military equipment will encourage new competitors to enter the market. Also, although the implementation of advanced telecommunications services is in its early stages in many developing countries, we believe competition may intensify as businesses and foreign governments realize the market potential of telecommunications services. Many of our competitors have financial, technical, marketing, sales and distribution resources greater than ours.

Protection of our intellectual property is limited; we are subject to the risk of third party claims of infringement.

Our businesses rely in large part upon our proprietary scientific and engineering “know-how” and production techniques. Historically, patents have not been an important part of our protection of our intellectual property rights. We rely upon the laws of unfair competition, restrictions in licensing agreements and confidentiality agreements to protect our intellectual property. We limit access to and distribution of our proprietary information. These efforts allow us to rely upon the knowledge and experience of our management and technical personnel to market our existing products and to develop new products. The departure of any of our key management and technical personnel, the breach of their confidentiality and non-disclosure obligations to us or the failure to achieve our intellectual property objectives may have a material adverse impact on our business, results of operations and financial condition.

Our ability to compete successfully and achieve future revenue growth will depend, in part, on our ability to protect our proprietary technology and operate without infringing upon the rights of others. We may fail to do so. In addition, the laws of certain countries in which our products are or may be sold may not protect our products and intellectual property rights to the same extent as the laws of the U.S.

We believe that we own or have licensed all intellectual property rights necessary for the operation of our businesses as currently contemplated. If the technology we use is found to infringe on protected technology, we could be required to change our business practices, license the protected technology, and/or pay damages or other compensation to the infringed party. If we are unable to license protected technology that we use in our business or if we are required to change our business practices, we could be prohibited from making and selling our products or providing certain telecommunications services.

Our operations are subject to environmental laws and regulations and we may be subject to environmental liabilities.

We engage in manufacturing and are subject to a variety of local, state and federal governmental regulations relating to the storage, discharge, handling, emission, generation, manufacture and disposal of toxic or other hazardous substances used to manufacture our products, particularly in the fabrication of fiberglass antennas by our Comtech Antenna Systems, Inc. subsidiary. We are also subject to the RoHS directive which restricts the use of lead, mercury and other substances in electrical and electronic products. The failure to comply with current or future environmental requirements could result in the imposition of substantial fines, suspension of production, alteration of our manufacturing processes or cessation of operations that could have a material adverse impact on our business, results of operations and financial condition.


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In addition, the handling, treatment or disposal of hazardous substances by us or our predecessors may have resulted or could in the future result in contamination requiring investigation or remediation, or leading to other liabilities, any of which could have a material adverse impact on our business, results of operations and financial condition.

Our fiscal 2004 Federal income tax return is being audited by the Internal Revenue Service, other returns may be selected for audit and a resulting tax assessment or settlement could have a material adverse impact on our results of operations and financial position.

We are subject to income taxes in both the U.S. and certain foreign jurisdictions, including Canada. Significant judgment is required in determining the provision for income taxes. Although we believe our tax estimates are reasonable, the final determination of tax examinations and any related litigation could be materially different than what is reflected in historical income tax provisions and accruals.

In fiscal 2006, we were informed by the Internal Revenue Service that our Federal income tax return for the fiscal year ended July 31, 2004 was selected for a general tax audit. The audit is in the early stages and additional income tax returns for other fiscal years may be examined. If the outcome of the audit differs materially from our original income tax provisions, it could have a material impact on our results of operations and financial position.

Recently enacted securities laws and regulations are increasing our costs.

The Sarbanes-Oxley Act of 2002 required changes in some of our corporate governance, public disclosure and compliance practices. For example, the SEC has promulgated new rules on a variety of subjects. In addition, the NASDAQ Stock Market LLC (“NASDAQ”) has revised its requirements for companies, such as us, that are listed on the NASDAQ. These changes are increasing our legal and financial compliance costs including making it more difficult and more expensive for us to obtain director and officer liability insurance or maintain our current liability coverage. We believe that these new laws and regulations could make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee, and qualified executive officers.

We are subject to the ongoing internal control provisions of Section 404 of the Sarbanes-Oxley Act of 2002. Identification of material weaknesses in internal controls, if identified, could indicate a lack of proper controls to generate accurate financial statements.

Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 and related SEC rules, we are required to furnish a report of management’s assessment of the effectiveness of our internal controls as part of our Annual Report on Form 10-K. Our auditors are required to attest to and report on management’s assessment, as well as provide a separate opinion. To issue our report, we document our internal control design and the testing processes that support our evaluation and conclusion, and then we test and evaluate the results. There can be no assurance, however, that we will be able to remediate material weaknesses, if any, that may be identified in future periods, or maintain all of the controls necessary for continued compliance. There likewise can be no assurance that we will be able to retain sufficient skilled finance and accounting personnel, especially in light of the increased demand for such personnel among publicly traded companies.

Changes in financial accounting standards related to stock option expenses are expected to continue to have a significant effect on our reported results.

In fiscal 2006, we adopted Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment,” a revised standard that requires that we record compensation expense in the statement of operations for employee stock options using a fair value method. The adoption of the new standard had a significant effect on our reported earnings, and could adversely impact our ability to provide accurate guidance on our future reported financial results due to the variability of the factors used to estimate the value of stock options. As a result, the ongoing application of the new standard could impact the future value of our common stock and may result in greater stock price volatility.

In addition, since our inception, we have used stock options and other long-term equity incentives as a fundamental component of our employee compensation packages. We believe that stock options and other long-term equity incentives directly motivate our employees to maximize long-term stockholder value and, through the use of long-term vesting, encourage employees to remain with us. To the extent that this accounting standard makes it less attractive to grant options to employees, we may incur increased compensation costs, change our equity compensation strategy or find it difficult to attract, retain and motivate employees, each of which could have a material adverse impact on our business, results of operations and financial condition.


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We face risks from the uncertainty of prevailing economic and political conditions.

Current global political and economic conditions are uncertain. As a result, it is difficult to estimate the level of expansion, if any, for the global or U.S. economies generally or the markets in which we participate. Because our budgeting and forecasting process relies on estimates of growth in the markets we serve, the current economic environment renders estimates of future income and expenses even more difficult than usual to formulate. The future direction of the domestic and global economies and political environment could have a material adverse impact on our business, results of operations and financial condition.

Terrorist attacks and threats, and government responses thereto, and threats of war elsewhere may negatively impact all aspects of our operations, revenues, costs and stock price.

Terrorist attacks, the U.S. government’s and other governments’ responses thereto, and threats of war could adversely impact our business, results of operations and financial condition. Any escalation in these events or similar or future events may disrupt our operations or those of our customers and may affect the availability of materials needed to manufacture our products or the means to transport those materials to manufacturing facilities and finished products to customers. In addition, these could have an adverse impact on the U.S. and world economy in general.

Provisions in our corporate documents, stockholder rights plan, and Delaware law could delay or prevent a change in control of Comtech.

We have taken a number of actions that could have the effect of discouraging, delaying or preventing a merger or acquisition involving Comtech that our stockholders may consider favorable. For example, we have a classified board and the employment contract of our chief executive officer provides for a substantial payment in the event of a change of control of Comtech. We also adopted a stockholder rights plan that could cause substantial dilution to a stockholder, and substantially increase the cost paid by a stockholder, who attempts to acquire us on terms not approved by our Board of Directors. These provisions could prevent us from being acquired. In addition, our certificate of incorporation grants our Board of Directors the authority to fix the rights, preferences and privileges of and issue up to 2,000,000 shares of preferred stock without stockholder action. Although we have no present intention to issue shares of preferred stock, such an issuance of any class or series of our preferred stock could have rights which would adversely affect the voting power of the common stock or which could delay, defer, or prevent a change in control of Comtech. In addition, we are subject to the provisions of Section 203 of the Delaware General Corporation Law, an anti-takeover law. In general, this statute provides that except in certain limited circumstances a corporation shall not engage in any “business combination” with an “interested stockholder” for a period of three years after the date of the transaction in which the person became an interested stockholder, unless the business combination is approved in a prescribed manner. A “business combination” includes mergers, asset sales and other transactions resulting in a financial benefit to the interested stockholder. Subject to certain exceptions, for purposes of Section 203 of the Delaware General Corporation Law, an “interested stockholder” is a person who, together with affiliates, owns, or within three years did own, 15% or more of the corporation’s voting stock. This provision could have the effect of delaying or preventing a change in control of Comtech.

Our debt service obligations may adversely affect our cash flow.

The higher level of indebtedness resulting from the issuance of our 2.0% convertible senior notes increases the risk that we may default on our debt obligations. We cannot assure you that we will be able to generate sufficient cash flow to pay the interest on our debt or that future working capital, borrowings or equity financing will be available to pay or refinance such debt.

The level of our indebtedness, among other things, could:

make it difficult for us to make payments on our debt;
make it difficult for us to obtain any necessary financing in the future for working capital, acquisitions, capital expenditures, debt service requirements or other purposes;
limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we compete; and
make us more vulnerable in the event of a downturn in our business.

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Our stock price is volatile.

The stock market in general, and the stock prices of technology-based companies in particular, have experienced extreme volatility that often has been unrelated to the operating performance of any specific public company. The market price of our common stock has fluctuated significantly in the past and is likely to fluctuate significantly in the future as well. Factors that could have a significant impact on the market price of our stock are described throughout the Risk Factors section and include:

strategic transactions, such as acquisitions and divestures;
future announcements concerning us or our competitors;
receipt or non-receipt of substantial orders for products and services;
quality deficiencies in services or products;
results of technological innovations;
new commercial products;
changes in recommendations of securities analysts;
government regulations;
proprietary rights or product or patent litigation;
changes in economic conditions generally, particularly in the telecommunications sector;
changes in securities market conditions, generally;
energy blackouts;
acts of terrorism or war;
inflation or deflation; and
rumors or allegations regarding our financial disclosures or practices.

Shortfalls in our sales or earnings in any given period relative to the levels expected by securities analysts could immediately, significantly and adversely affect the trading price of our common stock.

We have never declared or paid cash dividends.

We have never declared or paid a cash dividend and do not intend to declare any cash dividends on our common stock in the foreseeable future.

ITEM 1B.  UNRESOLVED STAFF COMMENTS

None.

ITEM 2. PROPERTIES

Our corporate headquarters are located in an office building complex in Melville, New York. The lease, which is for 9,600 square feet, provides for our use of the premises for seven years through July 2013.

Our RF microwave amplifiers segment is primarily located in a 46,000 square foot engineering and manufacturing facility on more than two acres of land in Melville, New York. We lease this facility from a partnership controlled by our Chairman, Chief Executive Officer and President. The lease, as amended, provides for our use of the premises as they now exist for a term of ten years through December 2011. We have a right of first refusal in the event of a sale of the facility. The base annual rent under the lease is subject to customary adjustments.

Although primarily used for our satellite earth station product lines which are part of the telecommunications transmission segment, all three of our business segments utilize our recently expanded 136,000 square foot, high-volume technology manufacturing center located in Tempe, Arizona. This manufacturing center utilizes state-of-the-art design and production techniques, including analog, digital and RF microwave production, hardware assembly and full service engineering. The lease for this facility expires in fiscal 2011 and we have the option to extend the term of the lease for an additional five-year period.

Our telecommunications transmission segment leases an additional ten facilities, five of which are located in the U.S. The U.S. facilities (excluding our Tempe, Arizona facility) aggregate 118,000 square feet and are primarily utilized for manufacturing, engineering, and general office use. Our telecommunications transmission segment also


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operates five small offices in China, North Africa, Thailand, the United Kingdom and Canada that are primarily utilized for customer support, engineering and sales.

Our mobile data communications segment operates in a 31,000 square foot facility located in Germantown, Maryland. The lease terms for all of these facilities are generally for multi-year periods and we believe that we will be able to renew these leases or find comparable facilities elsewhere.

ITEM 3.  LEGAL PROCEEDINGS

We are subject to certain legal actions, which arise in the normal course of business. Although the ultimate outcome of litigation is difficult to accurately predict, we believe that the outcome of these actions will not have a material effect on our consolidated financial position or results of operations.

During fiscal 2005, two of our leased facilities located in Florida experienced hurricane damage to both leasehold improvements and personal property. As of July 31, (In thousands) 1999 2000 2001 2002 2003 -------- -------- -------- -------- -------- Consolidated Balance Sheet Data: Total assets $ 29,847 126,031 146,988 126,586 164,250 Working capital 10,192 65,267 67,089 51,577 74,801 Long-term debt -- 37,900 42,000 28,683 -- Long-term capital lease obligations 959 908 2,157 1,294 393 Stockholders' equity 18,357 57,782 65,565 67,288 117,568

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview We design, develop, produce and market innovative products, systems and services for advanced communications solutions. We conduct our business through three complementary segments: telecommunications transmission, mobile data communications and RF microwave amplifiers. We offer niche product lines where we believe we have technological, engineering, systems design or other expertise that differentiate our product offerings. We believe we are leaders in the market segments that we serve. Our telecommunications transmission segment, which is our largest business segment, provides sophisticated products and systems for satellite, over-the-horizon microwave and wireless line-of-sight telecommunication systems. Our mobile data communications segment provides satellite-based mobile tracking and messaging services and mobile satellite transceivers primarily for defense applications, including logistics, support and battlefield command and control. Our RF microwave amplifier segment designs, manufactures and markets solid-state high power, broadband RF microwave amplifier products. All of our products and services are used in a variety of commercial and defense applications by domestic and international customers. A substantial portion of our sales may be derived from a limited number of relatively large customer contracts, the timing of revenues from which cannot be predicted. Quarterly sales and operating results may be significantly affected by one or more of such contracts. Accordingly, we can experience significant fluctuations in sales and operating results from quarter to quarter. We generally recognize income on contracts only when the products are shipped. However, when the performance of a contract will extend beyond a 12-month period, revenue is recognized on the percentage-of-completion method. Profits expected to be realized on contracts are based on total estimated sales value as related to estimated costs at completion. These estimates are reviewed and revised periodically throughout the lives of the contracts, and adjustments to profits resulting from such revisions are made cumulative to the date of the change. Estimated losses on long-term contracts-in-progress are recorded in the period in which such losses become known. Since our contract with the U.S. Army for the Movement Tracking System is for an eight-year period, revenue recognition is based on the percentage-of-completion method. The gross margin is based on the estimated sales and expenses for the entire eight-year contract. The amount of revenue recognized has been limited to the amount of funded orders received from the U.S. Army. The portion of such orders representing prepaid service time revenue is being deferred until the service time is used by the customer. Significant changes in the estimates used to derive the gross profit margin can materially impact our operating results and financial condition in future periods (see Critical Accounting Policies below for more information). Our gross profit is affected by a variety of factors, including the mix of products, systems and services sold, production efficiency, price competition and general economic conditions. 13 Selling, general and administrative expenses consist primarily of salaries and benefits for marketing, sales and administrative employees, advertising and trade show costs, professional fees and amortization of deferred compensation. Our research and development expenses relate to both existing product enhancement and new product development. A portion of our research and development efforts is related to specific contracts and is recoverable under those contracts because they are funded by the customers. Such customer-funded expenditures are not included in research and development expenses for financial reporting purposes, but are reflected in cost of sales. In July 2000, we acquired the business of EF Data, the satellite communications division of Adaptive Broadband Corporation, for $54.2 million in cash. The acquisition was accounted for under the purchase method of accounting. Accordingly, we allocated the purchase price to the assets purchased and the liabilities assumed based upon the estimated fair values at the date of the acquisition. The excess of the purchase price over the fair values of the net assets acquired was approximately $26.8 million, of which $10.2 million was allocated to in-process research and development and expensed as of the acquisition date. We combined this operation with our existing Arizona-based satellite earth station equipment operations, which resulted in enhanced product offerings, distribution reach and market presence. The combined operations are part of our telecommunications transmission segment. In April 2001, we acquired certain assets and product lines of MPD Technologies, Inc. for $12.7 million in cash. The acquisition was accounted for under the purchase method of accounting. Accordingly, we recorded the assets purchased and the liabilities assumed based upon the estimated fair values at the date of acquisition. The excess of the purchase price over the fair values of the net assets acquired was approximately $9.8 million. We combined this operation with our existing New York-based operation, which resulted in expanded product offerings, customer base, and market presence. The combined operations are part of our RF microwave amplifiers segment. In July 2002, we acquired certain assets and assumed certain liabilities of Advanced Hardware Architectures, Inc. ("AHA") for $6.4 million in cash. The acquisition was accounted for under the purchase method of accounting. Accordingly, we allocated the purchase price to the assets purchased and the liabilities assumed based upon the estimated fair values at the date of acquisition. The excess of the purchase price over the fair values of the net assets acquired was approximately $6.3 million, of which $2.2 million was allocated to in-process research and development and expensed as of the acquisition date. The results of operations in our telecommunications transmission segment include the AHA related business commencing on August 1, 2002. Critical Accounting Policies We consider certain accounting policies to be critical due to the estimation process involved in each. Revenue Recognition on Long-Term Contracts. As discussed above, when the performance of a contract will extend beyond a 12-month period, revenue and related costs are recognized on the percentage-of-completion method of accounting. Profits expected to be realized on such contracts are based on total estimated sales for the contract compared to total estimated costs at completion of the contract. These estimates are reviewed and revised periodically throughout the lives of the contracts, and adjustments to profits resulting from such revisions are made cumulative to the date of the change. Estimated losses on long-term contracts are recorded in the period in which the losses become known. Some of our largest contracts, including our contract with the U.S. Army for the Movement Tracking System, are accounted for using the percentage-of-completion method. We have been engaged in the production and delivery of goods and services on a continual basis under contractual arrangements for many years. Historically, we have demonstrated an ability to accurately estimate revenues and expenses relating to our long-term contracts. However, there exist inherent risks and uncertainties in estimating revenues and expenses, particularly on larger or longer-term contracts. If we do not accurately estimate the total sales and related costs on such contracts, the estimated gross margins may be significantly impacted or losses may need to be recognized in future periods. Any such resulting reductions in margins or contract losses could be material to our results of operations and financial position. In addition, most government contracts have termination for convenience clauses that provide the customer with the right to terminate the contract at any time. Such terminations could impact the assumptions regarding total contract revenues and expenses utilized in recognizing profit under the percentage-of-completion method of accounting. Changes to these assumptions could materially impact our results of operations and financial position. Historically, we have not experienced material terminations of our long-term contracts. 14 We also address customer acceptance provisions in assessing our ability to perform our contractual obligations under long-term contracts. Our inability to perform on our long-term contracts could materially impact our results of operations and financial position. Historically, we have been able to perform on our long-term contracts. Impairment of Intangible Assets. As of July 31, 2003, our company's intangible assets, including goodwill, aggregated $29.1 million. In assessing the recoverability of goodwill and other intangibles, we must make various assumptions regarding estimated future cash flows and other factors in determining the fair values of the respective assets. If these estimates or their related assumptions change in the future, we may be required to record impairment charges for these assets in future periods. Any such resulting impairment charges could be material to our results of operations. Provisions for Excess and Obsolete Inventory. We regularly review inventory quantities on hand and record a provision for excess and obsolete inventory based on historical and future usage trends. Several factors may influence the sale and use of our inventories, including decisions to exit a product line, technological change and new product development. These factors could result in a change in the amount of excess and obsolete inventory on hand. Additionally, our estimates of future product demand may prove to be inaccurate, in which case we may have understated or overstated the provision required for excess and obsolete inventory. In the future, if we determine that our inventory was overvalued, we would be required to recognize such costs in our financial statements at the time of such determination. Any such charges could be material to our results of operations and financial position. Allowance for Doubtful Accounts. We perform ongoing credit evaluations of our customers and adjust credit limits based upon customer payment history and current creditworthiness, as determined by our review of our customers' current credit information. Generally, we will require cash in advance or payment secured by irrevocable letters of credit before an order is accepted from an international customer that we do not do business with regularly. In addition, we seek to obtain insurance for certain international customers that we have determined could be a credit risk. However, we are not able to obtain irrevocable letters of credit or credit insurance in all instances. We continuously monitor collections and payments from our customers and maintain an allowance for doubtful accounts based upon our historical experience and any specific customer collection issues that we have identified. While such credit losses have historically been within our expectations and the allowances established, we cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. Measurement of such losses requires consideration of historical loss experience, including the need to adjust for current conditions, and judgments about the probable effects of relevant observable data, including present economic conditions such as delinquency rates and financial health of specific customers. Changes to the estimated allowance for doubtful accounts could be material to our results of operations and financial position. Results of Operations The following table sets forth, for the periods indicated, certain income and expense items expressed as a percentage of our net sales:
Year Ended2006, we have completed all restoration efforts relating to the hurricane damage and have recorded an $0.8 million insurance recovery receivable and accrued a total of $2.2 million for hurricane related costs. Despite a written agreement with the general contractor that we believe limits our liability for the cost of the repairs to the amount of insurance proceeds ultimately received from our insurance company, a dispute has arisen with the general contractor and a certain subcontractor over the subcontractor’s demand for payment directly from us (by virtue of a purported assignment of rights and other grounds) in an amount exceeding the insurance proceeds by $0.8 million, plus late charges, interest, fees, costs and certain treble damages. As a result of this dispute, we deposited approximately $1.4 million, representing the balance of the insurance proceeds received, in our attorneys’ trust account and filed a complaint for declaratory judgment in the 9th Judicial Circuit Court for Orange County, Florida. The general contractor and the subcontractor have filed separate and independent actions against us and our insurance company, all of which have now been consolidated under our original action. The Court has scheduled December 1, 2006 as the discovery cutoff and trial for February 13, 2007; however, these dates are subject to change as the litigation progresses. We do not expect that the outcome of this matter will have a material effect on our consolidated financial position.

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

No matters were submitted to our stockholders during the fourth quarter of the fiscal year ended July 31, -------------------------------------------------------------- 2003 2002 2001 ------------------ ------------------ ------------------ 2006.

PART II

ITEM 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock trades on the NASDAQ Stock Market LLC (“NASDAQ”) under the symbol “CMTL.” The following table shows the quarterly range of the high and low sale prices for our common stock as reported by the NASDAQ, as adjusted to reflect the three-for-two stock split effected in April 2005. Such prices do not include retail markups, markdowns or commissions.

Common Stock

HighLow
    
 
  
 Fiscal Year Ended July 31, 2005       
 First Quarter  $19.71 $10.85  
 Second Quarter   25.63  17.87  
 Third Quarter   36.65  22.07  
 Fourth Quarter   39.70  31.80  
    
 Fiscal Year Ended July 31, 2006  
 First Quarter   43.36  30.60  
 Second Quarter   45.65  29.42  
 Third Quarter   33.44  27.40  
 Fourth Quarter   33.80  25.67  

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Dividends

We have never paid cash dividends on our common stock and we intend to continue this policy for the foreseeable future. We expect to use earnings to finance the development and expansion of our businesses. Our Board of Directors reviews our dividend policy periodically. The payment of dividends in the future will depend upon our earnings, capital requirements, financial condition and other factors considered relevant by our Board of Directors.

Recent Sales of Unregistered Securities

We sold 47,370 shares of our common stock to holders of warrants who exercised purchase rights during fiscal 2004. These warrants for the purchase of shares of our common stock were issued in connection with our acquisition of Mobile Datacom Corporation in September 1998 and were issued with an exercise price of $2.92 per share.

On January 27, 2004, we issued $105.0 million of 2.0% convertible senior notes in a private offering pursuant to Rule 144A under the Securities Act of 1933, as amended. During certain periods, the notes are convertible into shares of our common stock at an initial conversion price of $31.50 per share (a conversion rate of 31.7460 shares per $1,000 original principal amount of notes), subject to adjustment in certain circumstances. The notes may be converted if, during a conversion period on each of at least 20 trading days, the closing sale price of our common stock exceeds 120% of the conversion price in effect. Upon conversion of the notes, in lieu of delivering common stock, we may, in our discretion, deliver cash or a combination of cash and common stock. We may, at our option, redeem some or all of the notes on or after February 4, 2009. Holders of the notes will have the right to require us to repurchase some or all of the outstanding notes on February 1, 2011, February 1, 2014 and February 1, 2019 and upon certain events, including a change in control. If not redeemed by us or repaid pursuant to the holders’ right to require repurchase, the notes mature on February 1, 2024.

The 2.0% interest is payable in cash, semi-annually, through February 1, 2011. After such date, the 2.0% interest will be accreted into the principal amount of the notes. Also, commencing with the six-month period beginning February 1, 2009, if the average note price for the applicable trading period equals 120% or more of the accreted principal amount of such notes, we will pay contingent interest at an annual rate of 0.25%.

The notes are general unsecured obligations of Comtech Telecommunications Corp. (the “Parent”), ranking equally in right of payment with all of its other existing and future unsecured senior indebtedness and senior in right of payment to any of its future subordinated indebtedness. All of the Parent’s wholly-owned subsidiaries have issued full and unconditional guarantees in favor of the holders of Comtech’s 2.0% convertible senior notes (the “Guarantor Subsidiaries”), except for the subsidiary that purchased Memotec, Inc. in fiscal 2004 (the “Non-Guarantor Subsidiary”). Tolt, which was purchased in February 2005, became a guarantor in July 2005. These full and unconditional guarantees are joint and several. Other than supporting the operations of its subsidiaries, the Parent has no independent assets or operations and there are currently no significant restrictions on its ability, or the ability of the guarantors, to obtain funds from each other by dividend or loan. Consolidating financial information regarding the Parent, the Guarantor Subsidiaries and the Non-Guarantor Subsidiary can be found in Note 17 to the consolidated financial statements beginning on page F-29.

The net proceeds of the offering are being used for working capital and general corporate purposes and potentially may be used for future acquisitions of businesses or technologies or repurchases of our common stock. We filed a registration statement with the SEC, which became effective in April 2004, for the resale of the notes and the shares of common stock issuable upon conversion of the notes.

Issuer Purchases of Equity Securities

We did not repurchase any of our equity securities during fiscal 2006.

Approximate Number of Equity Security Holders

As of September 15, 2006, there were approximately 788 holders of our common stock. Such number of record owners was determined from our shareholder records and does not include beneficial owners of our common stock held in the name of various security holders, dealers and clearing agencies.


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ITEM 6.  SELECTED CONSOLIDATED FINANCIAL DATA

The following table shows selected historical consolidated financial data for our Company. During the fiscal quarter ended January 31, 2005, the Company adopted Emerging Issues Task Force (“EITF”) Issue No. 04-8, “The Effect of Contingently Convertible Instruments on Diluted Earnings Per Share.” The Company has restated, for comparative purposes, the historical share and per share data, including earnings per share (“EPS”), to reflect the impact of the assumed conversion of the Company’s 2.0% convertible senior notes in calculating diluted EPS. No restatement of EPS for periods prior to fiscal 2004 was required since the convertible senior notes were not outstanding during these periods. In addition, effective August 1, 2005, we adopted the provisions of SFAS No. 123(R), “Share-Based Payment” using the modified prospective method and, as a result, periods prior to August 1, 2005 do not reflect the recognition of stock-based compensation expense.

All share and per share amounts have also been adjusted to reflect the three-for-two stock splits of the Company’s common shares that occurred in April 2005 and July 2003. Detailed historical financial information is included in the audited consolidated financial statements for fiscal 2006, 2005 and 2004.


Fiscal Years Ended July 31,
(In thousands, except per share amounts)

20062005200420032002
  
 
 
 
 
 
Consolidated Statement of
Operations Data:
           
Net sales $391,511  307,890  223,390  174,035  119,357 
Cost of sales  232,210  180,524  135,858  114,317  78,780 
  
 
 
 
 
 
      Gross profit  159,301  127,366  87,532  59,718  40,577 
  
 
 
 
 
 
                 
Expenses:                
      Selling, general and administrative  67,071  51,819  36,016  28,045  22,512 
      Research and development  25,834  21,155  15,907  12,828  11,041 
      In-process research and development      940    2,192 
      Amortization of intangibles  2,465  2,328  2,067  2,039  1,471 
  
 
 
 
 
 
   95,370  75,302  54,930  42,912  37,216 
  
 
 
 
 
 
                 
Operating income  63,931  52,064  32,602  16,806  3,361 
                 
Other expenses (income):                
      Interest expense  2,687  2,679  1,425  2,803  3,061 
      Interest income  (9,243) (4,072) (921) (275) (452)
      Other income, net          (28)
  
 
 
 
 
 
                 
Income before provision (benefit) for
      income taxes
  70,487  53,457  32,098  14,278  780 
  
Provision (benefit) for income taxes  25,218  16,802  10,271  4,569  (368)
  
 
 
 
 
 
Net income $45,269  36,655  21,827  9,709  1,148 
  
 
 
 
 
 
Net income per share: 
      Basic $1.99  1.69  1.03  0.57  0.07 
  
 
 
 
 
 
      Diluted $1.72  1.42  0.92  0.53  0.07 
  
 
 
 
 
 
Weighted average number of common
      shares outstanding - basic
  22,753  21,673  21,178  17,168  16,788 
  
 
 
 
 
 
                 
Weighted average number of common
      and common equivalent shares
      outstanding assuming dilution —
      diluted
  27,324  27,064  24,781  18,290  17,562 
  
 
 
 
 
 

(continued)


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Fiscal Years Ended July 31,
(In thousands)

20062005200420032002
  
 
 
 
 
 
Other Consolidated Operating Data:           
Backlog at period-end $186,007  153,314  83,549  100,142  44,121 
New orders  424,204  377,655  206,797  230,056  113,384 
Research and development expenditures
  - internal and customer funded
  30,243  24,156  21,656  16,504  13,070 

As of July 31,
(In thousands)

20062005200420032002
  
 
 
 
 
 
Consolidated Balance Sheet Data:           
Total assets $455,266  382,403  306,390  164,250  126,586 
Working capital  308,986  254,690  201,218  74,801  51,577 
Long-term debt          28,683 
Convertible senior notes  105,000  105,000  105,000     
Other long-term obligations  243  396  158  393  1,294 
Stockholders’ equity  254,242  196,629  142,398  117,568  67,288 

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

Overview

We design, develop, produce and market innovative products, systems and services for advanced communications solutions. We believe many of our solutions play a vital role in providing or enhancing communication capabilities when terrestrial communications infrastructure is unavailable or ineffective.

We conduct our business through three complementary segments: telecommunications transmission, mobile data communications and RF microwave amplifiers. We sell our products to a diverse customer base in the global commercial and government communications markets. We believe we are a leader in the market segments that we serve.

Our telecommunications transmission segment, which is currently our largest business segment, provides sophisticated equipment and systems that are used to enhance satellite transmission efficiency and that enable wireless communications in environments where terrestrial communications are unavailable, inefficient or too expensive. Our mobile data communications segment, currently our fastest growing segment, provides customers with an integrated solution including mobile satellite transceivers and satellite network support to enable global satellite-based communications when mobile, real-time, secure transmission is required for applications including logistics, support and battlefield command and control applications. Our RF microwave amplifiers segment designs, manufactures and markets solid-state, high-power, broadband RF microwave amplifier products.

A substantial portion of our sales may be derived from a limited number of relatively large customer contracts, the timing of revenues from which cannot be predicted. Quarterly and period-to-period sales and operating results may be significantly affected by one or more of such contracts. In addition, our gross profit is affected by a variety of factors, including the mix of products, systems and services sold, production efficiencies, estimates of warranty expense, price competition and general economic conditions. Our gross profit may also be affected by the impact of any cumulative adjustments to contracts that are accounted for under the percentage-of-completion method. Accordingly, we can experience significant fluctuations in sales and operating results from quarter-to-quarter and period-to-period comparisons may not be indicative of future performance.

Revenue from the sale of our products is generally recognized when the earnings process is complete, upon shipment or customer acceptance. Revenue from contracts relating to the design, development or manufacturing of complex electronic equipment to a buyer’s specification or to provide services relating to the performance of such contracts is recognized using the percentage-of-completion method. Revenue from contracts that contain multiple elements that are not accounted for under the percentage-of-completion method are accounted for in accordance with Emerging Issues Task Force (“EITF”) Issue No. 00-21, “Accounting for Revenue Arrangements with Multiple


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Deliverables.”  Revenue from these contracts is allocated to each respective element based on each element’s relative fair value and is recognized when the respective revenue recognition criteria for each element are met.
Our contract with the United States (“U.S.”) Army for the Movement Tracking System (“MTS”) is for an eight-year period ending in July 2007 and revenue recognition is based on the percentage-of-completion method. The gross margin is based on the estimated sales and expenses for the entire eight-year contract. The amount of revenue recognized has been limited to the amount of funded orders received from the U.S. Army. Through the end of our fiscal quarter ended October 31, 2004, we recognized revenue on the portion of such orders that relate to prepaid service time when the time was used by the customer. As a result of changes to the manner in which our technology is being deployed and used, commencing November 1, 2004, we are recognizing service time revenue based on a network availability method which recognizes prepaid service time on a straight-line basis from the date of shipment through the end of the contract term in July 2007.

Recent Acquisitions

In May 2004, we acquired certain assets and assumed certain liabilities of Memotec, Inc. (“Memotec”), a subsidiary of Kontron AG, and at the same time, purchased related inventory owned by Kontron Canada Inc., for an aggregate purchase price of approximately $5.2 million in cash. Commencing in May 2004, Memotec’s results of operations have been included in our telecommunications transmission segment.

In February 2005, we acquired certain assets and assumed certain liabilities of Tolt Technologies, Inc. (“Tolt”) for an aggregate purchase price of $3.7 million, including transaction costs of $0.2 million. In fiscal 2006, we significantly de-emphasized stand-alone sales of Tolt’s turnkey employee mobility solutions, and are focusing our efforts on selling commercial satellite-based mobile data applications. This operation is part of our mobile data communications segment.
In August 2006, we acquired certain assets and assumed certain liabilities of Insite Consulting, Inc. (“Insite”), a logistics application software company, for $2.7 million, plus certain earn-out payments based on the achievement of future sales targets. The first part of the earn-out cannot exceed $1.4 million and is limited to a five-year period. The second part of the earn-out, which is for a ten-year period, is unlimited and based on a per unit future sales target primarily relating to new commercial satellite-based mobile data communications markets. Insite has developed the geoOps™ Enterprise Location Monitoring System, a software-based solution that allows customers to integrate legacy data systems with near-real time logistics and operational data systems. This operation was combined with our existing business and is part of our mobile data communications segment.

Critical Accounting Policies

We consider certain accounting policies to be critical due to the estimation process involved in each.

Revenue Recognition on Long-Term Contracts. Revenues and related costs from long-term contracts relating to the design, development or manufacturing of complex electronic equipment to a buyer’s specification or to provide services relating to the performance of such contracts are recognized using the percentage-of-completion method. Revenue is recognized based on the relationship of total costs incurred to total projected costs, or, alternatively, based on output measures, such as units delivered. Profits expected to be realized on such contracts are based on total estimated sales for the contract compared to total estimated costs, including warranty costs, at completion of the contract. These estimates are reviewed and revised periodically throughout the lives of the contracts, and adjustments to profits resulting from such revisions are made cumulative to the date of the change. The impact of any such adjustments discussed in“Management’s Discussion and Analysis of Financial Condition and Results of Operations” represents the cumulative impact of the adjustment on the relevant financial statement amount as of the beginning of the period being discussed. Estimated losses on long-term contracts are recorded in the period in which the losses become evident.
Some of our largest contracts, including our MTS contract with the U.S. Army, are accounted for using the percentage-of-completion method. We have been engaged in the production and delivery of goods and services on a continual basis under contractual arrangements for many years. Historically, we have demonstrated an ability to accurately estimate revenues and expenses relating to our long-term contracts. However, there exist inherent risks and uncertainties in estimating revenues, expenses and progress toward completion, particularly on larger or longer-term contracts. If we do not accurately estimate the total sales, related costs and progress towards completion on such contracts, the estimated gross margins may be significantly impacted or losses may need to be recognized in future periods. Any such resulting changes in margins or contract losses could be material to our results of operations and financial position.

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In addition, most government contracts have termination for convenience clauses that provide the customer with the right to terminate the contract at any time. Such terminations could impact the assumptions regarding total contract revenues and expenses utilized in recognizing profit under the percentage-of-completion method of accounting. Changes to these assumptions could materially impact our results of operations and financial position. Historically, we have not experienced material terminations of our long-term contracts.
We also address customer acceptance provisions in assessing our ability to perform our contractual obligations under long-term contracts. Our inability to perform on our long-term contracts could materially impact our results of operations and financial position. Historically, we have been able to perform on our long-term contracts.
Accounting for Stock-Based Compensation. As discussed further in“Notes to Consolidated Financial Statements – Note 1(j) Accounting for Stock-Based Compensation,” we adopted Statement of Financial Accounting Standards (“SFAS”) No. 123(R) on August 1, 2005 using the modified prospective method. Through July 31, 2005, we accounted for our stock option and employee stock purchase plans under the intrinsic value method of Accounting Principles Board (“APB”) Opinion No. 25, and as a result no compensation costs had been recognized in our historical consolidated statements of operations.
We have used and expect to continue to use the Black-Scholes option pricing model to compute the estimated fair value of stock-based awards. The Black-Scholes option pricing model includes assumptions regarding dividend yields, expected volatility, expected option term and risk-free interest rates. The assumptions used in computing the fair value of stock-based awards reflect our best estimates, but involve uncertainties relating to market and other conditions, many of which are outside of our control. We estimate expected volatility by considering the historical volatility of our stock, the implied volatility of publicly traded stock options in our stock and our expectations of volatility for the expected term of stock-based compensation awards. As a result, if other assumptions or estimates had been used for options granted in 2006 and in prior periods, the stock-based compensation expense that was recorded for fiscal 2006 could have been materially different. Furthermore, if different assumptions are used in future periods, stock-based compensation expense could be materially impacted in the future.
Impairment of Goodwill and Other Intangible Assets. As of July 31, 2006, our company’s goodwill and other intangible assets aggregated $29.1 million. In assessing the recoverability of goodwill and other intangibles, we must make various assumptions regarding estimated future cash flows and other factors in determining the fair values of the respective assets. If these estimates or their related assumptions change in the future, we may be required to record impairment charges for these assets in future periods. Any such resulting impairment charges could be material to our results of operations.

Provision for Warranty Obligations. We provide warranty coverage for most of our products, including products under long-term contracts, for a period of at least one year from the date of shipment. We record a liability for estimated warranty expense based on historical claims, product failure rates and other factors. There exist inherent risks and uncertainties in estimating warranty expenses, particularly on larger or longer-term contracts. As such, if we do not accurately estimate our warranty costs, any changes to our original estimates could be material to our results of operations and financial position.

Accounting for Income Taxes.Our deferred tax assets and liabilities are determined based on temporary differences between financial reporting and tax bases of assets and liabilities, applying enacted tax rates expected to be in effect for the year in which the differences are expected to reverse. The provision for income taxes is based on domestic and international statutory income tax rates in the tax jurisdictions where we operate, permanent differences between financial reporting and tax reporting and available credits and incentives. Significant judgment is required in determining income tax provisions and tax positions. We may be challenged upon review by the applicable taxing authority and positions taken by us may not be sustained. We provide tax reserves for tax exposures relating to periods subject to audit. The development of reserves for these exposures requires consideration of timing and judgments about tax issues and potential outcomes, and is a subjective critical estimate. In certain circumstances, the ultimate outcome of exposures and risks involves significant uncertainties. If actual outcomes differ materially from these estimates, they could have a material impact on our results of operations and our financial position.

Provisions for Excess and Obsolete Inventory.We record a provision for excess and obsolete inventory based on historical and future usage trends. Several factors may influence the sale and use of our inventories, including decisions to exit a product line, technological change and new product development. These factors could result in a change in the amount of excess and obsolete inventory on hand. Additionally, our estimates of future product demand may prove to be inaccurate, in which case we may have understated or overstated the provision required for

25



excess and obsolete inventory. In the future, if we determine that our inventory was overvalued, we would be required to recognize such costs in our financial statements at the time of such determination. Any such charges could be material to our results of operations and financial position.

Allowance for Doubtful Accounts.We perform credit evaluations of our customers and adjust credit limits based upon customer payment history and current creditworthiness, as determined by our review of our customers’ current credit information. Generally, we will require cash in advance or payment secured by irrevocable letters of credit before an order is accepted from an international customer that we do not do business with regularly. In addition, we seek to obtain insurance for certain international customers. We monitor collections and payments from our customers and maintain an allowance for doubtful accounts based upon our historical experience and any specific customer collection issues that we have identified. While such credit losses have historically been within our expectations and the allowances established, we cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. Measurement of such losses requires consideration of historical loss experience, including the need to adjust for current conditions, and judgments about the probable effects of relevant observable data, including present economic conditions such as delinquency rates and the financial health of specific customers. Changes to the estimated allowance for doubtful accounts could be material to our results of operations and financial position.

Results of Operations

The following table sets forth, for the periods indicated, certain income and expense items expressed as a percentage of our consolidated net sales:


Fiscal Years Ended July 31,

200620052004
  
 
 
 
Net sales  100.0%  100.0%  100.0% 
Gross margin  40.7   41.4   39.2  
Selling, general and administrative expenses  17.1   16.8   16.1  
Research and development expenses  6.6   6.9   7.1  
In-process research and development        0.4  
Amortization of intangibles  0.6   0.8   0.9  
Operating income  16.3   16.9   14.6  
Interest expense (income), net  (1.7)  (0.5)  0.2  
Income before provision for income taxes  18.0   17.4   14.4  
Net income  11.6   11.9   9.8  

Comparison of Fiscal 2006 and 2005

Net Sales.  Consolidated net sales were $391.5 million and $307.9 million for fiscal 2006 and 2005, respectively, representing an increase of $83.6 million, or 27.2%. The increase in net sales was driven by an increase in our telecommunications transmission and our mobile data communications segments, partially offset by lower net sales in our RF microwave amplifiers segment.

Net sales 100.0% 100.0% 100.0% in our telecommunications transmission segment were $197.9 million and $174.5 million for fiscal 2006 and 2005, respectively, an increase of $23.4 million, or 13.4%. The growth in this segment resulted primarily from an increase in demand for our satellite earth station products and sales related to a contract with a third-party commercial customer to outsource its manufacturing. Fiscal 2005 also includes a $4.0 million cumulative adjustment to net sales which resulted from lower than anticipated costs on two large over-the-horizon microwave system contracts. In late fiscal 2006, we announced that the U.S. Department of Defense (“DoD”) awarded us a $28.3 million contract to purchase our 16 Mbps troposcatter modem upgrade kits for use on the AN/TRC-170 digital troposcatter. Sales related to this U.S. government program in fiscal 2007 are expected to offset any reduction in sales, both direct and indirect, to a North African country. We believe that sales, both direct and indirect, to this North African country, could be lower in fiscal 2007 as we believe our North African end customer is in between major phases of a large program. Sales in the over-the-horizon microwave systems product line can fluctuate dramatically from period to period based on the receipt of large contracts and our performance thereon. Our telecommunications transmission segment represented 50.5% of consolidated net sales for fiscal 2006 as compared to 56.7% for fiscal 2005.


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Net sales in our mobile data communications segment were $149.5 million and $86.1 million for fiscal 2006 and 2005, respectively, an increase of $63.4 million, or 73.6%. The increase in net sales was due to (i) higher sales on the MTS contract, including $9.5 million of sales relating to the gross profit adjustment discussed below underGross Profit,” (ii) higher sales of battlefield command and control applications to the U.S. military, and (iii) our acquisition of Tolt in February 2005 which contributed $18.7 million of net sales for fiscal 2006 compared to $11.3 million of net sales for fiscal 2005. In the second half of fiscal 2006, we significantly de-emphasized stand-alone sales of Tolt’s low margin 34.3 34.0 35.8 turnkey employee mobility solutions to further focus its sales efforts on commercial satellite-based mobile data applications. Stand-alone sales of these low margin turnkey employee mobility solutions during fiscal 2006 were approximately $15.0 million and such sales in fiscal 2007 are expected to be nominal. Net sales for fiscal 2005 were positively impacted by a favorable cumulative adjustment associated with the change from the usage method to the straight-line method of accounting for MTS prepaid service time revenue, which contributed $3.8 million to net sales. Period-to-period sales and profitability in our mobile data communications segment can fluctuate dramatically due to funding fluctuations. In fiscal 2006, we began to receive orders under our MTS contract for the Army National Guard’s acquisition of MTS equipment, including our MT 2012 transceiver and related services. If we receive additional significant orders from the Army National Guard and if we continue to experience strong demand from the U.S. Army, we expect that sales in this segment will increase in fiscal 2007. The MTS contract is not subject to automatic renewal or extension upon its scheduled expiration in July 2007. If the MTS contract is not renewed, extended or if we fail to succeed in a recompete process, it would have a material adverse impact on our business and results of operations. Our mobile data communications segment represented 38.2% of consolidated net sales for fiscal 2006 as compared to 27.9% for fiscal 2005.

Net sales in our RF microwave amplifiers segment were $44.1 million for fiscal 2006 compared to $47.3 million for fiscal 2005, a decrease of $3.2 million, or 6.8%. The decrease in net sales was due primarily to lower sales of our amplifiers that are incorporated into improvised explosive device jamming systems, partially offset by increased demand for other defense-related products in this segment. Our RF microwave amplifiers segment represented 11.3% of consolidated net sales for fiscal 2006 as compared to 15.4% for fiscal 2005.

International sales (which include sales to U.S. companies for inclusion in products which are sold to international customers) represented 35.6% and 44.0% of consolidated net sales for fiscal 2006 and 2005, respectively. Domestic commercial sales represented 17.1% and 13.9% of consolidated net sales for fiscal 2006 and 2005, respectively. Sales to the U.S. government (including sales to prime contractors to the U.S. government) represented 47.3% and 42.1% of consolidated net sales for fiscal 2006 and 2005, respectively.

One customer, a prime contractor, represented 10.2% of consolidated net sales in both fiscal 2006 and 2005. Direct and indirect sales to a North African country, including certain sales to the prime contractor mentioned above, represented 9.7% and 13.2% of consolidated net sales for fiscal 2006 and 2005, respectively.

Gross Profit.  Gross profit was $159.3 million and $127.4 million for fiscal 2006 and 2005, respectively, representing an increase of $31.9 million, or 25.0%. Our gross profit percentage was 40.7% for fiscal 2006 as compared to 41.4% for fiscal 2005.

Excluding the impact of adjustments to both net sales and gross profit in both periods, as discussed below, our gross profit as a percentage of net sales for fiscal 2006 and 2005 would have been 39.8% and 40.5%, respectively. This decrease was primarily due to a higher proportion of our consolidated net sales being in the mobile data communications segment, which typically realizes lower gross margins than sales in our other two segments. In addition, fiscal 2006 includes higher sales relating to Tolt’s turnkey employee mobility solutions, which have lower gross margins than any of our other product lines. The decline in gross margin percentage due to the change in product mix was partially offset by continued increased operating efficiencies associated with increased usage of our high-volume technology manufacturing facility during fiscal 2006.

During fiscal 2006, we recorded favorable cumulative gross profit adjustments of $9.1 million (of which $8.5 million relates to the mobile data communications segment and $0.6 million relates to the RF microwave amplifiers segment). The adjustment in our mobile data communications segment was primarily the result of increased MTS funding from the U.S. Army, as well as improved operating efficiencies. The adjustment in our RF microwave amplifiers segment related to a military contract that was substantially completed in fiscal 2006. These favorable adjustments were partially offset by a $1.7 million warranty provision in our mobile data communications segment relating to certain of our firmware that needs to be modified. During fiscal 2005, we recorded cumulative adjustments related to two large over-the-horizon microwave system contracts and the MTS contract with an aggregate impact of $5.8 million on gross profit (of which $2.2 million relates to the mobile data communications segment and $3.6 million relates to the telecommunications transmission segment).


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In our mobile data communications segment, we continue to rollout our next generation satellite transceiver, known as the MT 2012, and enhance our network and related software to provide increased speed and performance. We continue to work closely with our customers and currently expect to continue these initiatives through fiscal 2007. If the current funding levels of MTS and battlefield command and control applications are maintained or increased, or if and when we receive additional orders from the Army National Guard, we may experience additional increased operating efficiencies in fiscal 2007. Unrelated to the next generation MTS technology upgrade, we are also continuing to upgrade certain of our firmware that needs to be modified. The ultimate amount of warranty expense could differ from our initial estimate and we may incur additional unanticipated costs or delays.

Included in cost of sales for fiscal 2006 and 2005 are provisions for excess and obsolete inventory of $2.0 million and $2.1 million, respectively. As discussed under“Critical Accounting Policies – Provisions for Excess and Obsolete Inventory,” we regularly review our inventory and record a provision for excess and obsolete inventory based on historical and projected usage assumptions.

Selling, General and Administrative Expenses.Selling, general and administrative expenses 16.1 18.9 16.7 were $67.1 million and $51.8 million for fiscal 2006 and 2005, respectively, representing an increase of $15.3 million, or 29.5%. The increase in expenses was primarily attributable to (i) the increased level of net sales and activity in our telecommunications transmission and mobile data communications segments, (ii) the recording of $4.6 million of stock-based compensation expense during fiscal 2006, and (iii) a full year of expenses associated with Tolt, which was acquired in February 2005. There was no stock-based compensation expense included in selling, general and administrative expenses in fiscal 2005. As a percentage of consolidated net sales, selling, general and administrative expenses were 17.1% and 16.8% for fiscal 2006 and 2005, respectively.

Research and Development Expenses.Research and development expenses 7.4 9.3 7.5 were $25.8 million and $21.2 million for fiscal 2006 and 2005, respectively, representing an increase of $4.6 million, or 21.7%. Approximately $19.0 million and $17.7 million of such amounts, respectively, related to our telecommunications transmission segment, with the remaining expenses primarily related to our mobile data communications segment and, to a lesser extent, our RF microwave amplifiers segment. In addition, during fiscal 2006, we recorded $0.7 million of stock-based compensation expense in research and development expenses. There was no stock-based compensation expense included in research and development expenses in fiscal 2005. As an investment for the future, we are continually enhancing our existing products and developing new products and technologies. Whenever possible, we seek customer funding for research and development to adapt our products to specialized customer requirements. During fiscal 2006 and 2005, customers reimbursed us $4.4 million and $3.0 million, respectively, which is not reflected in the reported research and development expenses, but is included in net sales with the related costs included in cost of sales.

Amortization of Intangibles.Amortization of intangibles 1.2 1.2 1.9 for fiscal 2006 and 2005 was $2.5 million and $2.3 million, respectively. The amortization primarily relates to intangibles with finite lives that we acquired in connection with various acquisitions.

Operating Income.  Operating income 9.7 2.8 9.7 for fiscal 2006 and 2005 was $63.9 million and $52.1 million, respectively. The $11.8 million, or 22.6% increase, was the result of the higher sales and gross profit, discussed above, partially offset by higher operating expenses.

Operating income in our telecommunications transmission segment increased to $49.8 million for fiscal 2006 from $40.2 million for fiscal 2005, as a result of increased net sales and gross profit, partially offset by increased operating expenses. In addition, fiscal 2005 included a $3.1 million positive impact on operating income from the cumulative gross margin adjustments discussed above under “Gross Profit” related to two large over-the-horizon microwave system contracts.

Our mobile data communications segment generated operating income of $21.7 million for fiscal 2006 compared to $11.9 million for fiscal 2005 due primarily to the significant increase in net sales and gross profit, partially offset by increased operating expenses, including increased research and development expenses. The operations relating to Tolt, which incurred an operating loss of $5.0 million in fiscal 2006, have been combined into our network operations center facility. In fiscal 2007, although we expect to incur lower expenses relating to our commercial satellite-based mobile data applications, we do expect to increase other operating expenses, particularly research and development expenses, as we continue to position ourselves to win an extension or recompete of the MTS contract that expires in July 2007 and as we develop new technologies for other programs, such as Blue Force Tracking. In addition, fiscal 2006 and 2005 included positive impacts on operating income from the cumulative gross margin

28



adjustments, net of the warranty provision in the fiscal 2006 period, discussed above under“Gross Profit”of $5.8 million and $2.0 million, respectively.

Operating income in our RF microwave amplifiers segment increased to $8.3 million for fiscal 2006 from $8.2 million for fiscal 2005. Operating income for fiscal 2006 includes a $0.5 million benefit from a positive gross margin adjustment on a contract discussed above under“Gross Profit.”

Unallocated operating expenses increased to $15.9 million for fiscal 2006 from $8.2 million for fiscal 2005 due primarily to the recording of $5.7 million of stock-based compensation expense associated with SFAS No. 123(R) and increased incentive compensation costs in connection with the significant increase in pre-tax income.

Interest Expense.  Interest expense (income), net 1.5 2.2 1.3was $2.7 million for both fiscal 2006 and 2005. Interest expense primarily relates to our 2.0% convertible senior notes issued in January 2004.

Interest Income.  Interest income for fiscal 2006 was $9.2 million, as compared to $4.1 million for fiscal 2005. The $5.1 million increase was due primarily to an increase in interest rates and additional investable cash, primarily provided by our operating cash flow.

Provision for Income beforeTaxes.The provision for income taxes 8.2 0.7 7.8 was $25.2 million and $16.8 million for fiscal 2006 and 2005, respectively. Our effective tax rate for fiscal 2006 was 35.8% as compared to 31.4% for fiscal 2005.

The increase in the effective tax rate was primarily attributable to (i) the increased level of pre-tax profit, (ii) the nondeductibility of stock-based compensation expense in fiscal 2006 relating to incentive stock options, (iii) the expiration, in December 2005, of the Federal research and experimentation credit, and (iv) the scheduled phase-out of the extraterritorial income exclusion which was slightly offset by the scheduled phase-in of the deduction for domestic production activities.

In fiscal 2006, we recorded a net tax benefit of $0.6 million primarily relating to the favorable settlement of a state tax matter. In fiscal 2005, we recorded a $1.1 million tax benefit related to the reduction in the valuation allowance that was established for the extended write-off period of acquired in-process research and development.

We currently expect our effective tax rate for fiscal 2007 to approximate 36.5%. If legislation to extend the Federal research and experimentation credit is not signed into law, our effective tax rate for fiscal 2007 could approximate 38.0%.

In fiscal 2006, we were informed by the Internal Revenue Service that our Federal income tax return for the fiscal year ended July 31, 2004 was selected for audit. The audit is in the early stages and additional income tax returns for other fiscal years may be examined. If the outcome of the audit differs materially from our original income tax provisions, it could have a material adverse impact on our results of operations and financial position.

Comparison of Fiscal 2005 and 2004

Net Sales. Consolidated net sales were $307.9 million and $223.4 million for fiscal 2005 and 2004, respectively, representing an increase of $84.5 million, or 37.8%. The increase in net sales was driven by increased demand for our products in all three business segments.

Net sales in our telecommunications transmission segment were $174.5 million and $141.5 million for fiscal 2005 and 2004, respectively, an increase of $33.0 million, or 23.3%. The growth in this segment resulted primarily from a significant increase in demand for our satellite earth station products and incremental sales of our over-the-horizon microwave systems. In addition, favorable cumulative gross margin adjustments, resulting from lower than anticipated costs on two large over-the-horizon microwave system contracts, contributed $4.0 million and $0.8 million in net sales for fiscal 2005 and 2004, respectively. Memotec, which we acquired in May 2004, contributed $6.3 million and $1.3 million to net sales for fiscal 2005 and 2004, respectively. Our telecommunications transmission segment represented 56.7% of consolidated net sales for fiscal 2005 as compared to 63.3% for fiscal 2004.

Net sales in our mobile data communications segment were $86.1 million and $59.8 million for fiscal 2005 and 2004, respectively, an increase of $26.3 million, or 44.0%. The increase in net sales was due, in part, to increased demand and continued deployment of our MTS system by the U.S. Army and higher sales of battlefield command and control applications to the U.S. military. Tolt, which we acquired in February 2005, contributed $11.3 million of net sales for fiscal 2005. Also, included in net sales for fiscal 2005 is a $3.8 million cumulative adjustment


29



associated with the aforementioned change from the usage method to the straight-line method of accounting for MTS prepaid service time revenue. Our mobile data communications segment represented 27.9% of consolidated net sales for fiscal 2005 as compared to 26.8% for fiscal 2004.

Net sales in our RF microwave amplifiers segment were $47.3 million for fiscal 2005 compared to $22.1 million for fiscal 2004, an increase of $25.2 million, or 114.0%. The significant increase in net sales was primarily the result of increased demand for our defense-related products. In particular, we experienced a marked increase in demand for our RF microwave amplifiers that are incorporated into improvised explosive device jamming systems. Our RF microwave amplifiers segment represented 15.4% of consolidated net sales for fiscal 2005 as compared to 9.9% for fiscal 2004.

International sales (which include sales to domestic companies for inclusion in products which are sold to international customers) represented 44.0% and 45.4% of consolidated net sales for fiscal 2005 and 2004, respectively. Domestic commercial sales represented 13.9% and 14.5% of consolidated net sales for fiscal 2005 and 2004, respectively. Sales to the U.S. government (including sales to prime contractors to the U.S. government) represented 42.1% and 40.1% of consolidated net sales for fiscal 2005 and 2004, respectively.

During fiscal 2005, one customer, a prime contractor, represented 10.2% of consolidated net sales. During fiscal 2004, one customer, another prime contractor, represented 12.5% of consolidated net sales. Direct and indirect sales to a North African country, including certain sales to the prime contractors mentioned above, during fiscal 2005 and 2004 represented 13.2% and 14.1%, respectively, of consolidated net sales.

Gross Profit.  Gross profit was $127.4 million and $87.5 million for fiscal 2005 and 2004, respectively, representing an increase of $39.9 million, or 45.6%. The increase in gross profit was primarily attributable to the increase in net sales and the gross profit percentage, which increased from 39.2% for fiscal 2004 to 41.4% for fiscal 2005. Fiscal 2005 includes favorable cumulative gross margin adjustments on two large over-the-horizon microwave system contracts and the MTS contract (including the MTS prepaid service time adjustment as discussed above), which had an aggregate impact of $5.8 million on gross profit compared to favorable cumulative gross margin adjustments during fiscal 2004 of $1.9 million. Excluding the sales and gross profit relating to prior periods from these adjustments, our gross margin percentage still improved significantly due to increased operating efficiencies.

As mentioned above, in fiscal 2005, we continued to realize increased operating efficiencies. In our telecommunications transmission segment, such efficiencies were achieved, in part, by our continuing efforts to expand the usage of our high-volume manufacturing facility in Tempe, Arizona. The increased utilization and resulting operating efficiencies were the result of higher demand for our satellite earth station products, as well as the continued use of the facility by our other two segments for certain high-volume manufacturing requirements. In addition, as part of our strategy to leverage the high-volume technology manufacturing center and further develop a diversified customer base, we produced and currently have on-hand $1.6 million of inventory relating to a contract from a third-party commercial customer to outsource its manufacturing.

In our mobile data communications segment, operating efficiencies were the result of incremental MTS and battlefield command and control applications funding from the U.S. Army.

Our RF microwave amplifiers segment experienced increased operating efficiencies associated with significant operating leverage driven by the increase in sales and a more favorable product mix.

Included in cost of sales for fiscal 2005 and 2004 are provisions for excess and obsolete inventory of $2.1 million and $1.2 million, respectively.

Selling, General and Administrative Expenses.Selling, general and administrative expenses were $51.8 million and $36.0 million for fiscal 2005 and 2004, respectively, representing an increase of $15.8 million, or 43.9%. The increase in expenses is primarily attributable to (i) the increased level of net sales in all three of our business segments, (ii) expenses associated with the Memotec and Tolt acquisitions in May 2004 and February 2005, respectively, and (iii) costs of compliance with recent corporate governance regulations. As a percentage of consolidated net sales, selling, general and administrative expenses were 16.8% and 16.1% for fiscal 2005 and 2004, respectively.

Research and Development Expenses.Research and development expenses were $21.2 million and $15.9 million for fiscal 2005 and 2004, respectively representing an increase of $5.3 million or 33.3%. Approximately $17.7


30



million and $14.2 million of such amounts, respectively, related to our telecommunications transmission segment. As an investment for the future, we are continually enhancing our existing products and developing new products and technologies. Whenever possible, we seek customer funding for research and development to adapt our products to specialized customer requirements. During fiscal 2005 and 2004, customers reimbursed us $3.0 million and $5.7 million, respectively, which is not reflected in the reported research and development expenses, but is included in net sales with the related costs included in cost of sales.

In-Process Research and Development Expense.In connection with the purchase of certain assets and liabilities of Memotec in fiscal 2004, we recorded a charge of $0.9 million for the write-off of in-process research and development. There was no in-process research and development expense in fiscal 2005.

Amortization of Intangibles.Amortization of intangibles for fiscal 2005 and 2004 was $2.3 million and $2.1 million, respectively. The increase was attributable to the Memotec and Tolt acquisitions.

Operating Income.  Operating income 5.6 1.0 4.9 for fiscal 2005 and 2004 was $52.1 million and $32.6 million, respectively. The $19.5 million, or 59.8%, increase was the result of the higher sales and gross profit, discussed above, partially offset by higher operating expenses.

Operating income in our telecommunications transmission segment increased to $40.2 million for fiscal 2005 from $29.2 million for fiscal 2004 as a result of increased sales and associated operating efficiencies. Fiscal 2005 operating income included favorable cumulative gross margin adjustments on two large over-the-horizon microwave system contracts which aggregated $3.1 million, compared to $0.6 million in 2004.

Our mobile data communications segment generated operating income of $11.9 million for fiscal 2005 compared to $9.5 million for fiscal 2004 as a result of increased sales and associated operating efficiencies. In addition, fiscal 2005 operating income included a $2.0 million favorable impact of the cumulative MTS contract adjustments discussed above in“Gross Profit,” compared to $1.0 million in fiscal 2004. This was partially offset by increased operating costs, including expenses associated with Tolt and our continued initiation of commercial marketing efforts.

Operating income in our RF microwave amplifiers segment increased to $8.2 million for fiscal 2005 from $0.3 million for fiscal 2004 primarily as a result of the significant increase in net sales and improved operating efficiencies.

Unallocated operating expenses increased to $8.2 million for fiscal 2005 from $6.4 million for fiscal 2004, due primarily to increased compensation expense and increased costs in connection with recent corporate governance regulations.

Interest Expense.  Interest expense increased from $1.4 million for fiscal 2004 to $2.7 million for fiscal 2005. Interest expense primarily represents interest expense associated with our 2.0% convertible senior notes issued in January 2004.

Interest Income.  Interest income for fiscal 2005 was $4.1 million, as compared to $0.9 million for fiscal 2004. The $3.2 million increase was due primarily to a higher average cash position resulting from the proceeds received from the issuance of our 2.0% convertible senior notes in January 2004 and cash provided by our operating activities, as well as an increase in interest rates.

Provision for Income Taxes.The provision for income taxes was $16.8 million and $10.3 million for fiscal 2005 and 2004, respectively. The increase was the result of the significant increase in pre-tax profit in fiscal 2005. The effective tax rate was 31.4% and 32.0% in fiscal 2005 and 2004, respectively. The fiscal 2005 provision for income taxes was offset by a tax benefit of $1.1 million primarily relating to the reduction in the valuation allowance that was established for the extended write-off period of acquired in-process research and development. During fiscal 2005, it became more likely than not that the related deferred tax asset would be recoverable. Excluding the tax benefit, the effective tax rate for fiscal 2005 was 33.5%.

Liquidity and Capital Resources

Our unrestricted cash and cash equivalents increased to $251.6 million at July 31, 2006 from $214.4 million at July 31, 2005, representing an increase of $37.2 million.

Comparison of Fiscal 2003 and 2002 Net Sales. Consolidated net sales were $174.0 million and $119.4 million for fiscal 2003 and 2002, respectively, representing an increase of $54.6 million or 45.7%. The increase was driven by significant growth in our telecommunications transmission and mobile data communications segments, as described below. Sales from our telecommunications transmission segment were $102.6 million in fiscal 2003, as compared to sales of $78.6 million in fiscal 2002, an increase of $24.0 million or 30.5%. The sales growth in this segment resulted from (i) incremental sales of our over-the-horizon microwave systems in connection with two large contract awards 15

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in fiscal 2003, (ii) sales relating to AHA which we purchased in July 2002 and (iii) increased sales of our satellite earth station products. Our telecommunications transmission segment represented 59.0% of total net sales in fiscal 2003 as compared to 65.9% in fiscal 2002. Mobile data communications segment sales increased $30.1 million, or 167.2%, from $18.0 million in fiscal 2002 to $48.1 million in fiscal 2003. The sales growth in this segment was the result of higher sales of our Movement Tracking System to the U.S. Army, as well as sales to a major U.S. prime contractor that is providing a battle command application to the U.S. Army. Our mobile data communications segment represented 27.6% of total net sales in fiscal 2003 as compared to 15.0% in fiscal 2002. Sales from our RF microwave amplifier segment were $23.3 million in fiscal 2003 versus $22.8 million in fiscal 2002. The 2.2% increase was the result of strong defense related sales partially offset by weakness in our commercial product lines, such as our commercial aviation product line. Our RF microwave amplifier segment represented 13.4% of total net sales in fiscal 2003 as compared to 19.1% in fiscal 2002. In fiscal 2003, one customer, a prime contractor, represented 19.8% of total net sales. In fiscal 2002, no customer, other than the U.S. government, represented more than 10% of total net sales. International sales represented 39.7% and 41.2% of total net sales in fiscal 2003 and 2002, respectively. Domestic commercial sales represented 16.1% and 25.0% of total net sales in fiscal 2003 and 2002, respectively. Sales to the U.S. government (including prime contractors to the U.S. government) represented 44.2% and 33.8% of total net sales in fiscal 2003 and 2002, respectively. Gross Profit. Gross profit was $59.7 million and $40.6 million in fiscal 2003 and 2002, respectively, representing an increase of $19.1 million. The increase was primarily due to the higher sales levels in fiscal 2003 as compared to fiscal 2002. Gross margin, as a percentage of net sales, was 34.3% and 34.0% in fiscal 2003 and 2002, respectively. Although fiscal 2003 contained a significantly higher proportion of mobile data communications segment sales, which generally are at lower gross margins than our other businesses, the overall increase in sales resulted in greater operating efficiencies and overhead absorption. Included in cost of sales for fiscal 2003 and 2002, respectively, are provisions for excess and obsolete inventory of $2.5 million and $1.7 million. As discussed above under "Critical Accounting Policies - Provisions for Excess and Obsolete Inventory", we regularly review our inventory and record a provision, approximately $2.1 million and $1.7 million for fiscal 2003 and 2002, respectively, for excess and obsolete inventory based on historical usage and future usage assumptions. The provision for fiscal 2003 also includes $0.4 million relating to certain product line discontinuances in our telecommunications transmission segment. Selling, General and Administrative Expenses. Selling, general and administrative expenses were $28.0 million and $22.5 million in fiscal 2003 and 2002, respectively, representing an increase of $5.5 million. The increase was due to the addition of AHA, as well as higher expenses relating to the higher sales and profit levels in fiscal 2003. As a percentage of net sales, selling, general and administrative expenses were 16.1% and 18.9% in fiscal 2003 and 2002, respectively. Research and Development Expenses. Research and development expenses were $12.8 million and $11.0 million in fiscal 2003 and 2002, respectively. Approximately $11.6 million and $10.2 million of such amounts, respectively, related to our telecommunications transmission segment. As an investment for the future, we are continually enhancing our existing products and developing new products and technologies. Whenever possible, we seek customer funding for research and development to adapt our products to specialized customer requirements. During fiscal 2003 and 2002, customers reimbursed us $3.7 million and $2.0 million, respectively, which amounts are not reflected in the reported research and development expenses, but are included in sales with the related estimated costs included in cost of sales. In-Process Research and Development. In connection with the purchase of certain assets and liabilities of AHA in fiscal 2002, we recorded a charge of $2.2 million for the write-off of in-process research and development in fiscal 2002. There was no in-process research and development expense in fiscal 2003. Amortization of Intangibles. Amortization of intangibles was $2.0 million and $1.5 million in fiscal 2003 and 2002, respectively. The increase was primarily the result of the amortization related to intangibles with definite lives we acquired in connection with the acquisition of AHA. 16 Operating Income. Operating income in fiscal 2003 and 2002 was $16.8 million and $3.4 million, respectively. The increase was the result of the higher sales and gross profit, discussed above, partially offset by higher operating expenses. Operating income in our telecommunications transmission segment increased from $5.3 million in fiscal 2002 to $14.2 million in fiscal 2003 as a result of higher sales, as discussed above, combined with increased operating efficiencies and overhead absorption. In addition, fiscal 2002 operating income included a $2.2 million charge for in-process research and development. Our mobile data communications segment's operating income increased from $0.2 million in fiscal 2002 to $5.2 million in fiscal 2003 as a result of the significant increase in sales, as discussed above. Operating income in our RF microwave amplifier segment increased from $1.2 million in fiscal 2002 to $1.8 million in fiscal 2003 as a result of a more favorable product mix in fiscal 2003. Unallocated expenses increased from $3.3 million in fiscal 2002 to $4.4 million in fiscal 2003 as a result of higher incentive compensation expense, as well as increased costs in connection with recent corporate governance regulations. Interest Expense. Interest expense decreased to $2.8 million in fiscal 2003 from $3.1 million in fiscal 2002. The decrease was the result of a partial debt prepayment during the first quarter of fiscal 2002. In addition, we prepaid the balance of our long-term debt in July 2003. Interest Income. Interest income was $0.3 million and $0.5 million in fiscal 2003 and 2002, respectively. The decrease was primarily the result of lower interest rates in fiscal 2003. Provision for Income Taxes. The effective tax rate of 32% for fiscal 2003 reflects the tax benefits of among other items, research and experimentation tax credits. The research and experimentation tax credits in fiscal 2002 more than offset the tax expense on the lower level of pre-tax income, resulting in a tax benefit of $0.4 million. Comparison of Fiscal 2002 and 2001 Net Sales. Consolidated net sales were $119.4 million and $135.9 million for fiscal 2002 and 2001, respectively, representing a decrease of $16.5 million or 12.1%. The decrease was primarily due to the weak economic environment, particularly in our telecommunications transmission segment. Sales from our telecommunications transmission segment were $78.6 million in fiscal 2002, as compared to sales of $106.3 million in fiscal 2001, a decrease of $27.7 million or 26.1%. We believe sales in this segment will continue to be adversely impacted until conditions in the telecommunications industry improve. Our telecommunications transmission segment represented 65.9% of total net sales in fiscal 2002 as compared to 78.2% in fiscal 2001. In fiscal 2002, sales from our RF microwave amplifier segment were $22.8 million as compared to $16.4 million in fiscal 2001. This increase of $6.4 million or 39.0% was principally the result of the acquisition in April 2001 of certain assets and product lines of MPD Technologies, Inc. Our RF microwave amplifier segment represented 19.1% of total net sales in fiscal 2002 as compared to 12.1% in fiscal 2001. Sales from our mobile data communications segment were $18.0 million in fiscal 2002 as compared to $13.2 million in fiscal 2001, an increase of $4.8 million or 36.4%. This increase was due to increased sales of our Movement Tracking System to the U.S. Army. Sales from this segment represented 15.0% and 9.7% of total net sales in fiscal 2002 and 2001, respectively. There were no customers in fiscal 2002 or 2001 which constituted 10% or more of our total net sales other than the U. S. governement. International sales represented 41.2% of total net sales in fiscal 2002 as compared to 46.2% in fiscal 2001. Domestic commercial sales represented 25.0% of total net sales as compared to 30.7% in fiscal 2001 and sales to the U.S. government and its agencies represented 33.8% and 23.1% in fiscal 2002 and 2001, respectively. Gross Profit. Gross profit was $40.6 million and $48.6 million for fiscal 2002 and 2001, respectively, representing a decrease of $8.0 million or 16.5%. This decrease was primarily due to the reduced total level of sales discussed above. Gross margin, as a percentage of net sales, decreased to 34.0% in fiscal 2002 compared to 35.8% in fiscal 2001. The decrease in the gross margin percentage was driven by the significant decrease in telecommunications transmission segment sales which generally carry higher margins than sales from the other two segments. Selling, General and Administrative. Selling, general and administrative expenses were $22.5 million and $22.7 million in fiscal 2002 and 2001, respectively, representing a decrease of $0.2 million. The decrease is related to the reduction in sales during fiscal 2002. Research and Development. Research and development expenses were $11.0 million and $10.2 million in fiscal 2002 and 2001, respectively. Despite the softness in sales discussed above, we are continuing to invest in the future by enhancing our existing products and developing new products and technologies. Whenever possible, we seek customer funding for research and development to adapt our products to specialized customer requirements. During 17 fiscal 2002 and 2001, customers reimbursed us $2.0 million and $1.7 million, respectively, which amounts are not reflected in the reported research and development expenses. In-Process Research and Development. In connection with the purchase of certain assets and liabilities of Advanced Hardware Architectures, Inc., $2.2 million of the purchase price was allocated to in-process research and development. This allocation was part of the overall purchase price allocation performed by an independent third party. The value of in-process research and development is based upon new product development projects that were underway at the time of the acquisition and are expected to eventually lead to new products but had not yet established technological feasibility and for which no future alternative use was identified. In accordance with generally accepted accounting principles ("GAAP"), we recorded a charge of $2.2 million for the write-off of this amount. There was no in-process research and development expense in fiscal 2001. Amortization of Intangibles. Amortization of intangibles was $1.5 million and $2.6 million for fiscal 2002 and 2001, respectively, representing a decrease of $1.1 million. In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets." Under SFAS No. 142, goodwill and indefinite lived intangible assets are no longer amortized but are reviewed at least annually for impairment. Separate intangible assets that are not deemed to have an indefinite life continue to be amortized over their useful lives. We applied the new rules on accounting for goodwill and other intangible assets beginning in the first quarter of fiscal 2002. If SFAS No. 142 had been effective August 1, 2000, approximately $1.4 million of amortization expense would not have been expensed in fiscal 2001. Operating Income. As a result of the foregoing factors,

Net cash provided by operating activities was $44.3 million for fiscal 2006. Such amount reflects net income of $45.3 million, the impact of depreciation and amortization and the provisions for doubtful accounts and inventory reserves aggregating $12.0 million and stock-based compensation expense of $5.7 million, offset by changes in working capital balances, most notably an increase in accounts receivable and inventory associated with the increase in net sales.

Net cash used in investing activities for fiscal 2006 was $13.5 million, primarily representing capital expenditures including expenditures related to the continued expansion of our high-volume technology manufacturing center located in Tempe, Arizona, as well as continued enhancements to our network operations facility in Germantown, Maryland. We currently expect capital expenditures for fiscal 2007 to be between $12.0 million and $14.0 million.

Net cash provided by financing activities for fiscal 2006 was $6.4 million, due primarily to proceeds from stock option exercises and employee stock purchase plan shares aggregating $2.5 million and a $4.1 million excess income tax benefit from the exercise of stock options.

Financing Arrangement

On January 27, 2004, we issued $105.0 million of our 2.0% convertible senior notes in a private offering pursuant to Rule 144A under the Securities Act of 1933, as amended. The net proceeds from this transaction were $101.2 million after deducting the initial purchaser’s discount and other transaction costs. For further information concerning this financing, see“Notes to Consolidated Financial Statements – Note 8 - 2.0% Convertible Senior Notes due 2024.”

Commitments

In the normal course of business, we routinely enter into binding and non-binding purchase obligations primarily covering anticipated purchases of inventory and equipment. We do not expect that these commitments as of July 31, 2006 will materially adversely affect our liquidity.

At July 31, 2006, we had operating income from continuing operations of $3.4 million and $13.2 million in fiscal 2002 and 2001, respectively. Excluding the impact of the in-process research and development charge in fiscal 2002, operating income was $5.6 million. Interest Expense. Interest expense was $3.1 million and $4.0 million in fiscal 2002 and 2001, respectively. Additional interest on borrowings in connection with the acquisition of MPD Technologies, Inc. in April 2001 were more than offset by interest savings from the prepayment of $19.2 million of debt in August 2001. Interest Income. Interest income was $0.5 million and $2.3 million for fiscal 2002 and 2001, respectively. The decrease was the result of a lower level of investable funds during fiscal 2002, as well as lower interest rates. Other, Net. Our other income for fiscal 2002 was $28,000 as compared to other expense of $0.8 million for fiscal 2001. The amount in fiscal 2001 primarily related to the loss realized upon the sale in March 2001 of a short-term investment classified as available-for-sale, offset by royalty and other income received of $0.1 million. Provision (Benefit) for Income Taxes. During fiscal 2002, the Company conducted an independent study and identified certain research and experimentation tax credits, relating to the current and prior years, which can be used to offset regular income taxes. The total amount of these credits more than offset the provision for income taxes. The net effect was a benefit of $0.4 million for fiscal 2002. Liquidity and Capital Resources Our cash and cash equivalents position increased to $48.6 million at July 31, 2003 from $15.5 million at July 31, 2002. Net cash provided by operating activities was $26.8 million in fiscal 2003. Such amount reflects (i) net income of $9.7 million, plus the impact of non-cash items such as depreciation, amortization and provisions for inventory and bad debt reserves aggregating $9.0 million and (ii) changes in working capital balances, most notably an increase in deferred service revenue of $6.8 million relating to our Movement Tracking System contract with the U.S. Army. Net cash used in investing activities in fiscal 2003 was $4.3 million. Cash of $4.3 million was used for capital expenditures and $0.1 million was used for the purchase of a technology license. In March 2003, we acquired certain satellite bandwidth control technology for $0.4 million in cash and established Comtech Vipersat Networks, Inc. These uses of cash were offset by $0.6 million we received in connection with the final adjustment to the AHA purchase price. Net cash provided by financing activities was $10.6 million. In July 2003, we sold 2,100,000 shares of our common stock in a private placement transaction. Aggregate proceeds from the sale, net of related costs, were $38.2 million. We utilized the proceeds to prepay the balance of our long-term debt. The entire $28.7 million of long-term debt outstanding as of July 31, 2002 was repaid in fiscal 2003. In addition, we made principal payments on capital lease 18 obligations aggregating $1.1 million. We also received proceeds of $2.2 million in connection with stock option and warrant exercises and employee stock purchase plan shares. In the normal course of business, we routinely enter into binding and non-binding purchase obligations primarily covering anticipated purchases of inventory and equipment. We do not expect that these commitments as of July 31, 2003 will materially adversely affect our liquidity. At July 31, 2003 we had contractual cash obligations to repay debt related to capital lease obligations and to make payments under operating leases. Payments due under these long-term obligations are as follows: Obligations due by fiscal years (in thousands)
2005 2007 and and After Total 2004 2006 2008 2008 ------- ----- ----- ----- ----- Capital lease obligations $ 1,292 899 364 29 -- Operating lease commitments 15,504 7,617 4,658 1,396 1,833 ------- ----- ----- ----- ----- Total contractual cash obligations $16,796 8,516 5,022 1,425 1,833 ======= ===== ===== ===== ===== to repay our 2.0% convertible senior notes, capital lease and operating lease obligations (including satellite lease expenditures relating to our mobile data communications segment contracts) and the financing of a purchase of proprietary technology. Payments due under these long-term obligations, excluding interest on the 2.0% convertible senior notes, are as follows:

We have entered into standby letter of credit agreements with financial institutions relating to the guarantee of future performance on certain contracts. At July 31, 2003, the balance of these agreements was $4.7 million. Cash we have pledged against such agreements aggregating $4.3 million has been classified as restricted cash in the consolidated balance sheet. We believe that our cash and cash equivalents will be sufficient to meet our operating cash requirements for the foreseeable future. In the event that we identify a significant acquisition that requires additional cash, we would seek to borrow funds or raise additional equity capital. Recent Accounting Pronouncements In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," which is effective for exit or disposal activities that are initiated after December 31, 2002. The adoption did not have a material impact on our consolidated financial statements. In November 2002, the FASB issued Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others." FIN 45 requires certain guarantees to be recorded at fair value regardless of the probability of the loss. The adoption did not have a material impact on our consolidated financial statements. In November 2002, the Emerging Issues Task Force ("EITF") finalized EITF Issue 00-21, "Revenue Arrangements with Multiple Deliverables," which provides guidance on the timing and method of revenue recognition for sales arrangements that include the delivery of more than one product or service. EITF Issue 00-21 is effective prospectively for arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption did not have a material impact on our consolidated financial statements. In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure." SFAS No. 148 provides alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation as originally provided by SFAS No. 123 "Accounting for Stock-Based Compensation." Additionally, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 in both annual and interim financial statements. Comtech adopted the disclosure portion of this statement during fiscal 2003. The adoption did not have any impact on Comtech's consolidated financial statements. The FASB recently indicated that it will eventually require stock-based employee compensation to be recorded as a charge to earnings. We will monitor the FASB's progress on the issuance of a new standard and its impact on our consolidated financial statements. In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"), "Consolidation of Variable Interest Entities," which addresses consolidation by business enterprises of variable interest entities that either: (1) do not have sufficient equity investment at risk to permit the entity to finance its activities without additional subordinated 19

Obligations Due by Fiscal Years

Total20072008
and
2009
2010
and
2011
After
2011

        
Maturity of our 2.0% convertible
  senior notes
$105,000,000    105,000,000 
            
Operating lease commitments 17,956,000 8,565,000 5,325,000 3,268,000 798,000 
            
Other obligations 443,000 180,000 263,000   
 
 
 
 
 
 
        
Total contractual cash obligations$123,399,000 8,745,000 5,588,000 3,268,000 105,798,000 
 
 
 
 
 
 

As further discussed in“Notes to Consolidated Financial Statements – Note 8 - 2.0% Convertible Senior Notes due 2024,” we may, at our option, redeem some or all of the notes on or after February 4, 2009. Holders of our 2% convertible senior notes will have the right to require us to repurchase some or all of the outstanding notes on February 1, 2011, February 1, 2014 and February 1, 2009 and upon certain events.

We have entered into standby letter of credit agreements with financial institutions relating to the guarantee of future performance on certain contracts. At July 31, 2006, the balance of these agreements was $2.8 million. Cash we have pledged against such agreements aggregating $1.0 million has been classified as restricted cash in the consolidated balance sheet.

We believe that our cash and cash equivalents will be sufficient to meet our operating cash requirements for the foreseeable future. In the event that we identify a significant acquisition that requires additional cash, we would seek to borrow funds or raise additional equity capital.


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financial support, or (2) the equity investors lack an essential characteristic of a controlling financial interest. We do not expect that the adoption of FIN 46 will have a material effect on our consolidated financial statements. In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities," which amends SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," to address decisions reached by the Derivatives Implementation Group, developments in other Board projects that address financial instruments, and implementation issues related to the definition of a derivative. We do not expect that the adoption of SFAS No. 149 will have a material impact on our consolidated financial statements. In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity." This statement establishes standards for how an issuer classifies and measures in its statement of financial position certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances) because that financial instrument embodies an obligation of the issuer. This statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatorily redeemable financial instruments of nonpublic entities. We do not expect that the adoption of this standard will have a material effect on our consolidated financial statements. Forward-Looking Statements and Risk Factors This Form 10-K contains "forward-looking statements" including statements concerning the future of our industry, product development, business strategy, continued acceptance of our products, market growth, and dependence on significant customers. These statements can be identified by the use of forward-looking terminology such as "may," "expect," "anticipate," "estimate," "continue," or other similar words. When considering forward looking statements, you should keep in mind the risk factors and other cautionary statements in this Form 10-K. The risk factors noted below and other factors noted throughout this Form 10-K could cause our actual results to differ significantly from those contained in any forward-looking statement. Due to many factors, including the amount of business represented by large contracts, our operating results are difficult to forecast and may be volatile. We have experienced, and will experience in the future, significant fluctuations in sales and operating results from quarter to quarter. One reason for this is that a significant portion of our business - primarily the over-the-horizon microwave systems of our telecommunications transmission business segment, a portion of our RF microwave amplifier business segment and the majority of our mobile data communications segment - is derived from a limited number of relatively large customer contracts, the timing of which cannot be predicted. While we generally recognize revenue on contracts when the products are shipped, revenue is recognized on the percentage-of-completion method when the performance of a contract will extend beyond a 12 month period. Our net sales and operating results also may vary significantly from period to period because of the following factors: product mix sold; fluctuating market demand; price competition; new product introductions by our competitors; fluctuations in foreign currency exchange rates; unexpected changes in delivery of components or subsystems; political instability; regulatory developments; and general economic conditions. Accordingly, you should not rely on period-to-period comparisons as indications of our future performance because these comparisons may not be meaningful. Our business, results of operations, liquidity and financial position depend on our ability to maintain our level of government business. The recent slowdown in our commercial business, particularly in the telecommunications and aviation sectors, has increased our dependence on U.S. government business. Our sales to the U.S. government (including sales to prime contractors to the U.S. government) accounted for approximately 44.2%, 33.8% and 23.1% of our total net sales for the fiscal years ended 2003, 2002 and 2001, respectively. We expect such business to represent a significant portion of our revenues for the foreseeable future. U.S. government business exposes us to various risks, including: o unexpected contract or project terminations or suspensions; o unpredictable order placements, reductions or cancellations; o reductions in government funds available for our projects due to government policy changes, budget cuts and other spending priorities; o penalties arising from post-award contract audits; o cost audits in which the value of our contracts may be reduced; 20

Legal Proceedings

We are subject to certain legal actions, which arise in the normal course of business. Although the ultimate outcome of litigation is difficult to accurately predict, we believe that the outcome of these actions will not have a material effect on our consolidated financial position or results of operations.

During fiscal 2005, two of our leased facilities located in Florida experienced hurricane damage to both leasehold improvements and personal property. As of July 31, 2006, we have completed all restoration efforts relating to the hurricane damage and have recorded an $0.8 million insurance recovery receivable and accrued a total of $2.2 million for hurricane related costs. Despite a written agreement with the general contractor that we believe limits our liability for the cost of the repairs to the amount of insurance proceeds ultimately received from our insurance company, a dispute has arisen with the general contractor and a certain subcontractor over the subcontractor’s demand for payment directly from us (by virtue of a purported assignment of rights and other grounds) in an amount exceeding the insurance proceeds by $0.8 million, plus late charges, interest, fees, costs and certain treble damages. As a result of this dispute, we deposited approximately $1.4 million, representing the balance of the insurance proceeds received, in our attorneys’ trust account and filed a complaint for declaratory judgment in the 9th Judicial Circuit Court for Orange County, Florida. The general contractor and the subcontractor have filed separate and independent actions against us and our insurance company, all of which have now been consolidated under our original action. The Court has scheduled December 1, 2006 as the discovery cutoff and trial for February 13, 2007; however, these dates are subject to change as the litigation progresses. We do not expect that the outcome of this matter will have a material effect on our consolidated financial position.

Recent Accounting Pronouncements

On September 13, 2006, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin No. (“SAB 108”) which provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. The guidance is applicable for our fiscal 2007. We are not yet in a position to determine what, if any, effects SAB No. 108 will have on our consolidated financial statements.

In July 2006, the Financial Accounting Standards Board (“FASB”) released FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 clarifies the accounting and reporting for uncertainties in income tax law and prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. FIN 48 prescribes a two-step evaluation process for tax positions. The first step is recognition based on a determination of whether it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The second step is to measure a tax position that meets the more-likely-than-not threshold. The tax position is measured at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. If a tax position does not meet the more-likely-than-not recognition threshold, the benefit of that position is not recognized in the financial statements. FIN 48 is effective beginning in our first quarter of fiscal 2008. The cumulative effects, if any, of applying FIN 48 will be recorded as an adjustment to retained earnings as of the beginning of the period of adoption. We have commenced the process of evaluating the potential effects of FIN 48 on our consolidated financial statements and are not yet in a position to determine what, if any, effects FIN 48 will have on our consolidated financial statements.

In June 2006, the EITF reached a consensus on EITF 06-3, “How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement” (“EITF 06-3”). EITF 06-3 provides that taxes imposed by a governmental authority on a revenue producing transaction between a seller and a customer should be shown in the income statement on either a gross or a net basis, based on the entity’s accounting policy, which should be disclosed pursuant to APB Opinion No. 22, “Disclosure of Accounting Policies.” If such taxes are significant, and are presented on a gross basis, the amounts of those taxes should be disclosed. EITF 06-3 will be effective beginning with our third quarter of fiscal 2007. We are currently evaluating the impact EITF 06-3 will have on the presentation of our consolidated financial statements.

In June 2006, the EITF reached a consensus on EITF 05-1, “Accounting for the Conversion of an Instrument that Becomes Convertible Upon the Issuer’s Exercise of a Call Option” (“EITF 05-1”). This guidance requires that the issuance of equity securities to settle an instrument (pursuant to the instrument’s original conversion terms) that becomes convertible upon the issuer’s exercise of a call option should be accounted for as a conversion if the debt instrument contained a substantive conversion feature as of its issuance date (i.e., no gain or loss should be recognized related to the equity securities issued to settle the instrument). The guidance is effective for all conversions within its scope that result from the exercise of call options in interim or annual reporting periods beginning after June 28, 2006. In the future, if we issue common stock pursuant to the conversion terms to settle our 2% convertible senior notes, we would not recognize a gain or loss because our notes have substantive conversion features as defined by EITF 05-1.


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o higher-than-expected final costs, particularly relating to software and hardware development, for work performed under contracts where we commit to specified deliveries for a fixed price; and o unpredictable cash collections of unbilled receivables that may be subject to acceptance of contract deliverables by the customer and contract close-out procedures, including government approval of final indirect rates. All of our U.S. government contracts can be terminated by the U.S. government for its convenience. Termination for convenience provisions provide only for our recovery of costs incurred or committed, settlement expenses and profit on work completed prior to termination. In addition to the right of the U.S. government to terminate, U.S. government contracts are conditioned upon the continuing approval by Congress of the necessary spending. Congress usually appropriates funds for a given program on a fiscal-year basis even though contract performance may take more than one year. Consequently, at the beginning of a major program, the contract may not be fully funded, and additional monies are normally committed to the contract only if, as and when appropriations are made by Congress for future fiscal years. The U.S. government may review our costs and performance on certain contracts, as well as our accounting and general business practices. Based on the result of such audits, the U.S. government may adjust our contract-related costs and fees. We obtain U.S. government contracts through a competitive bidding process. We cannot assure you that we will continue to win competitively awarded contracts or that awarded contracts will generate sufficient net sales to result in profitability. All of our businesses are subject to rapid technological change; we must keep pace with changes to compete successfully. We are engaged in businesses characterized by rapid technological change, evolving industry standards, frequent new product announcements and enhancements, and changing customer demands. The introduction of products and services embodying new technologies and the emergence of new industry standards could render our products and services obsolete or non-competitive. The technology used in our products and services evolves rapidly, and our business position depends, in large part, on the continuous refinement of our scientific and engineering expertise and the development, either through internal research and development or acquisitions, of new or enhanced products and technologies. We may not have the economic or technological resources to be successful in such efforts and we may not be able to identify and respond to technological improvements made by our competitors in a timely or cost-effective fashion. A significant technological breakthrough by others, including smaller competitors or new firms, could have a material adverse impact on our business, results of operations and financial condition. Our dependence on international sales may adversely affect us. Sales for use by international customers (including sales to prime contractors' international customers) represented approximately 39.7%, 41.2% and 46.2% of our total net sales for the fiscal years ended July 31, 2003, 2002 and 2001, respectively. Approximately 52.7% of our backlog at July 31, 2003 consisted of orders for use by foreign customers. We expect that international sales will continue to be a substantial portion of our total sales. These sales expose us to certain risks, including barriers to trade, fluctuations in foreign currency exchange rates (which may make our products less price competitive), political and economic instability, exposure to public health epidemics (such as Severe Acute Respiratory Syndrome ("SARS")), availability of suitable export financing, tariff regulations, and other U.S. and foreign regulations that may apply to the export of our products and the generally greater difficulties of doing business abroad. We attempt to reduce the risk of doing business in foreign countries by seeking subcontracts with large systems suppliers, contracts denominated in U.S. dollars, advance or milestone payments and irrevocable letters of credit in our favor. However, we may not be able to reduce the economic risk of doing business in foreign countries, in all instances. Foreign defense contracts generally contain provisions relating to termination at the convenience of the government. In addition, certain of our products and systems may require licenses from U.S. government agencies for export from the United States, and some of our products are not permitted to be exported. We cannot be sure of our ability to gain any licenses that may be required to export our products, and failure to receive required licenses could materially reduce our ability to sell our products outside the United States. 21

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections,” which changes the requirements for the accounting and reporting of a change in accounting principle (“SFAS No. 154”). SFAS No. 154 applies to all voluntary changes in accounting principles, as well as to changes required by an accounting pronouncement that does not include specific transition provisions. SFAS No. 154 eliminates the requirement to include the cumulative effect of changes in accounting principle in the income statement and instead requires that changes in accounting principle be retroactively applied. A change in accounting estimate continues to be accounted for in the period of change and future periods if necessary. A correction of an error continues to be reported by restating prior period financial statements. SFAS No. 154 is effective for our first quarter of fiscal 2007.

In March 2005, the FASB issued interpretation FIN No. 47, “Accounting for Conditional Asset Retirement Obligations (“FIN 47”). FIN 47 clarifies that the term conditional asset retirement obligation as used in SFAS 143, Accounting for Asset Retirement Obligations, refers to a legal obligation to perform an asset retirement activity in which the timing and (or) method of settlement are conditional on a future event that may or may not be within the control of the entity. We adopted FIN 47 in fiscal 2006 and it had no material effect on our consolidated financial condition or results of operations.

ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our earnings and cash flows are subject to fluctuations due to changes in interest rates, primarily from our investment of available cash balances. Under our current policies, we do not use interest rate derivative instruments to manage exposure to interest rate changes. If the interest rate we receive on our investment of available cash balances were to change by 10%, our interest income would be impacted by approximately $1.1 million.

Our 2.0% convertible senior notes bear a fixed rate of interest. As such, our earnings and cash flows are not sensitive to changes in interest rates on our long-term debt.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Reports of Independent Registered Public Accounting Firm, Consolidated Financial Statements, Notes to Consolidated Financial Statements and Related Financial Schedule are listed in the Index to Consolidated Financial Statements and Schedule annexed hereto.

ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this Annual Report on Form 10-K, an evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures was carried out by the Company under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures have been designed and are being operated in a manner that provides reasonable assurance that the information required to be disclosed by the Company in reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. A system of controls, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the system of controls are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.


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A slowing economy and continued reduction in telecommunications equipment and systems spending may negatively affect our revenues, profitability and the recoverability of our assets, including intangible assets. Since the second half of fiscal 2001, our revenues from commercial customers have been negatively affected by the uncertain economic environment both in the overall market, and more specifically in the telecommunications and aviation sectors. If the economy continues to slow, some of our customers may further reduce their budgets for spending on telecommunications equipment and systems. As a consequence, our current customers and other prospective customers may postpone, reduce or even forego the purchase of our products and systems, which could adversely affect our revenues, profitability and the recoverability of our assets, including intangible assets, particularly in our telecommunications transmission and RF microwave amplifier segments, which are exposed to the telecommunications and aviation sectors. Our mobile data communications business is subject to risk. Although fiscal 2003 sales and earnings increased significantly over prior years, our mobile data communications business has a relatively limited operating history compared to our other business segments. It is subject to all of the risks inherent in the operation of a new business enterprise. In addition to the other risk factors described in this section, the risk factors applicable to our mobile data communications services business include the following: o Although the U.S. Army contract obligates us to provide satellite services and hardware, including mobile satellite transceivers and computers, over an eight year period as and when ordered by the U.S. Army and at the fixed prices and other terms set forth in this contract, the U.S. Army is not obligated to purchase any terminals or services under this contract and may terminate this contract. Sales under the U.S. Army contract could be subject to unpredictable funding and deployment decisions. Through July 31, 2003, we have received orders for $71.5 million under this contract. o Certain components that we need have purchasing lead-time of four months or longer, and the U.S. Army contract requires us to provide mobile terminals within 90 days after we receive an order. o Our success in commercial markets will depend on, among other things, our ability to access the best distribution channels, the development or licensing of applications which create value for the customer and our ability to attract and retain qualified personnel. Delays in delivering terminals could also adversely affect our ability to obtain and retain commercial customers. o In general, as we seek to grow our mobile data communications services business, we anticipate that we will need to maintain a substantial inventory in order to provide terminals to our customers on a timely basis. If forecasted orders are not received, we might be left with large inventories of slow moving or unusable parts or terminals. This could result in an adverse effect on our business, results of operations and financial position. o We lease the satellite capacity necessary to operate our system from third party satellite networks. We currently have a long-term lease that expires on June 30, 2005 with a satellite network operator, Mobile Satellite Ventures, for satellite coverage in North America, Central America and the northern rim of South America. We have leases with other vendors for satellite coverage in other parts of the world as required by the U.S. Army contract. We cannot assure you that we will be able to obtain sufficient satellite capacity or geographical coverage from any vendor to operate our mobile data communications services system on acceptable terms or on a timely basis. o There are several existing competitors in the mobile data communications market that have established systems with sizable customer bases and much greater financial resources than us. The largest of these competitors is Qualcomm, Inc. Existing competitors, including terrestrial service providers, are also aggressively pricing their products and services and may continue to do so in the future. Competitors continue to offer new value added products and services, which we may be unable to match on a timely or cost effective basis. Increased competition may impact margins throughout the industry. We anticipate that new competitors will enter the mobile data communications market in the future. This could impact our entry into the commercial market in a significant way. o All satellite communications are subject to the risk that a satellite or ground station failure or a natural disaster may interrupt service. Interruptions in service could have a material adverse impact on our business, results of operations and financial condition. At present, one of our satellite providers, is operating without a full in-orbit back-up capability in the event of a failure of one of its two satellites 22

Management’s Report on Internal Control Over Financial Reporting

Management of Comtech is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. The 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 accounted accounting principles.

All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. 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.

Management assessed the effectiveness of the Company’s internal control over financial reporting as of July 31, 2006. In making this assessment, we used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control – Integrated Framework. Based on our assessment, we determined that, as of July 31, 2006, the Company’s internal control over financial reporting was effective based on those criteria.

KPMG LLP (“KPMG”), our independent registered public accounting firm, has performed an audit of our assessment of the effectiveness of the Company’s internal control over financial reporting as of July 31, 2006. This audit is required to be performed in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our independent auditors were given unrestricted access to all financial records and related data. KPMG’s audit reports appear on pages F-2 and F-3 of this annual report.

Changes In Internal Control Over Financial Reporting

There have been no changes in our internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act that occurred during our fiscal quarter ended July 31, 2006, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

ITEM 9B. OTHER INFORMATION

Not applicable.

PART III

ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT

Certain information concerning directors and officers is incorporated by reference to our Proxy Statement for the Annual Meeting of Stockholders to be held December 5, 2006 (the “Proxy Statement”) which will be filed with the Securities and Exchange Commission no more than 120 days after the close of our fiscal year.

ITEM 11. EXECUTIVE COMPENSATION

Information regarding executive compensation is incorporated by reference to the Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of our fiscal year.

ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Information regarding securities authorized for issuance under equity compensation plans and certain information regarding security ownership of certain beneficial owners and management is incorporated by reference to the Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of our fiscal year.


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in operation. Should we be obliged to restore service on another system in the event of a satellite failure, our costs would increase and could have an adverse effect on our business, results of operation, liquidity and financial position. Our backlog is subject to customer cancellation or modification. We currently have a backlog of orders, mostly under contracts that the customer may modify or terminate. We cannot assure you that our backlog will result in net sales. Our dependence on component availability, subcontractor availability and performance and key suppliers may adversely affect us. We do not generally maintain a substantial inventory of components and subsystems. We obtain certain components and subsystems from a single source or a limited number of sources, but believe that most components and subsystems are available from alternative suppliers and subcontractors. A significant interruption in the delivery of such items, however, could have a material adverse impact on our business, results of operations and financial condition. Our fixed price contracts subject us to risk. Almost all of our products and services are sold under fixed price contracts. This means that we bear the risk of unanticipated technological, manufacturing, supply or other problems, price increases or increases in the cost of performance. Adverse regulatory changes could impair our ability to sell products. Our products are incorporated into wireless communications systems that must comply with various government regulations, including those of the Federal Communications Commission ("FCC"). Regulatory changes, including changes in the allocation and availability of frequency spectrum, and in the military standards and specifications that define the current satellite networking environment, could materially harm our business by (1) restricting development efforts by us and our customers, (2) making our current products less attractive or obsolete, or (3) increasing the opportunity for additional competition. Changes in, or our failure to comply with, applicable regulations could materially harm our business. In addition, the increasing demand for wireless communications has exerted pressure on regulatory bodies world wide to adopt new standards and reassign bandwidth for these products and services. The reduced number of available frequencies for other products and services and the time delays inherent in the government approval process of new products and services have caused and may continue to cause our customers to cancel, postpone or reschedule their installation of communications systems including their satellite, over-the-horizon microwave, or terrestrial line-of-sight microwave communication systems. This, in turn, could have a material adverse effect on our sales of products to our customers. We face risks from the uncertainty of prevailing economic and political conditions. Current global political and economic conditions are uncertain. As a result, it is difficult to estimate the level of expansion, if any, for the global or U.S. economies generally or the markets in which we participate. Because our budgeting and forecasting process relies on estimates of growth in the markets we serve, the current economic environment renders estimates of future income and expenses even more difficult than usual to formulate. The future direction of the domestic and global economies and political environment could have a material adverse impact on our business, results of operations and financial condition. Acquisitions and strategic investments may divert our resources and management attention; results may fall short of expectations. We intend to continue pursuing selected acquisitions of and investments in businesses, technologies and product lines as a key component of our growth strategy. Any future acquisition or investment may result in the use of significant amounts of cash, potentially dilutive issuances of equity securities, incurrence of debt and amortization expenses or in process research and development charges related to intangible assets. Acquisitions involve numerous risks, including: 23

ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information regarding certain relationships and related transactions is incorporated by reference to the Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of our fiscal year.

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

Information regarding principal accountant fees and services is incorporated by reference to the Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of our fiscal year.


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o difficulties in the integration and assimilation of the operations, technologies, products and personnel of an acquired business; o diversion of management's attention from other business concerns; and o potential loss of key employees or customers of any acquired business. The loss of key technical or management personnel could adversely affect our business. Our success depends on the continued contributions of key technical management personnel, including the key corporate and operating unit management at each of our subsidiaries. Many of our key personnel, particularly the key engineers of our subsidiaries, would be difficult to replace, and are not subject to employment or noncompetition agreements. Our growth and future success will depend in large part upon our ability to attract and retain highly qualified engineering, sales and marketing personnel. Competition for such personnel from other companies, academic institutions, government entities and other organizations is intense. Although we believe that we have been successful to date in recruiting and keeping key personnel, we may not be successful in attracting and retaining the personnel we will need to continue to grow and operate profitably. Also, the management skills that have been appropriate for us in the past may not continue to be appropriate if we continue to grow and diversify. Our markets are highly competitive. The markets for our products are highly competitive. We cannot assure you that we will be able to successfully compete or that our competitors will not develop new technologies and products that are more commercially effective than our own. We expect the Department of Defense's increased use of commercial off-the-shelf products and components in military equipment will encourage new competitors to enter the market. Also, although the implementation of advanced telecommunications services is in its early stages in many developing countries, we believe competition may intensify as businesses and foreign governments realize the market potential of telecommunications services. Many of our competitors have financial, technical, marketing, sales and distribution resources greater than ours. Protection of our intellectual property is limited; we are subject to the risk of third party claims of infringement. Our businesses rely in large part upon our proprietary scientific and engineering "know-how" and production techniques. Historically, patents have not been an important part of our protection of our intellectual property rights. We rely upon the laws of unfair competition, restrictions in licensing agreements and confidentiality agreements to protect our intellectual property. We limit access to and distribution of our proprietary information. These efforts allow us to rely upon the knowledge and experience of our management and technical personnel to market our existing products and to develop new products. The departure of any of our key management and technical personnel, the breach of their confidentiality and non-disclosure obligations to us or the failure to achieve our intellectual property objectives may have a material adverse impact on our business, results of operations and financial condition. Our ability to compete successfully and achieve future revenue growth will depend, in part, on our ability to protect our proprietary technology and operate without infringing upon the rights of others. We may fail to do so. In addition, the laws of certain countries in which our products are or may be sold may not protect our products and intellectual property rights to the same extent as the laws of the United States. We believe that we own or have licensed all intellectual property rights necessary for the operation of our businesses as currently contemplated. If the technology we use is found to infringe on protected technology, we could be required to change our business practices, license the protected technology, and/or pay damages or other compensation to the infringed party. If we are unable to license protected technology used in our business or if we were required to change our business practices, we could be prohibited from making and selling our products or providing certain telecommunications services. Our operations are subject to environmental regulation. We are subject to a variety of local, state and federal governmental regulations relating to the storage, discharge, handling, emission, generation, manufacture and disposal of toxic or other hazardous substances used to manufacture our products, particularly in the fabrication of fiberglass antennas by our Comtech Antenna Systems, Inc. subsidiary. We believe that we are currently in compliance, in all material respects, with such regulations and that we have obtained all necessary environmental permits to conduct our business. Nevertheless, the failure to 24 comply with current or future regulations could result in the imposition of substantial fines, suspension of production, alteration of our manufacturing processes or cessation of operations that could have a material adverse impact on our business, results of operations and financial condition. Recently enacted and proposed changes in securities laws and regulations are likely to increase our costs. The Sarbanes-Oxley Act of 2002 that became law in July 2002 requires changes in some of our corporate governance, public disclosure and compliance practices. The Act also requires the SEC to promulgate new rules on a variety of subjects. In addition to final rules and rule proposals already made, the Nasdaq National Market has proposed revisions to its requirements for companies, such as us, that are listed on the Nasdaq National Market. We expect these developments to increase our legal and financial compliance costs. We expect these developments to make it more difficult and more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These developments could make it more difficult for us to attract and retain qualified members of our board of directors, particularly to serve on our audit committee, and qualified executive officers. We are presently evaluating and monitoring regulatory developments and cannot estimate the timing or magnitude of additional costs we could incur as a result. Terrorist attacks and threats, and government responses thereto, and threats of war elsewhere may negatively impact all aspects of our operations, revenues, costs and stock price. The terrorist attacks in the United States and against United States' interests overseas, the U.S. government's response thereto, and threats of war may negatively affect our business, financial condition and results of operations. Any escalation in these events or similar or future events may disrupt our operations or those of our customers and may affect the availability of materials needed to manufacture our products or the means to transport those materials to manufacturing facilities and finished products to customers. In addition, these events have had and could continue to have an adverse impact on the U.S. and world economy in general. Our stock price is volatile. The stock market in general, and the stock prices of technology-based companies in particular, have experienced extreme volatility that often has been unrelated to the operating performance of any specific public company. The market price of our common stock has fluctuated significantly in the past and is likely to fluctuate significantly in the future as well. Factors that may have a significant impact on the market price of our stock include: o future announcements concerning us or our competitors; o receipt or non-receipt of substantial orders for products and services; o results of technological innovations; o new commercial products; o changes in recommendations of securities analysts; o government regulations; o proprietary rights or product or patent litigation; o changes in economic conditions generally, particularly in the telecommunications sector; o changes in market conditions generally, particularly in the market for small cap stocks; and o limited public float. Shortfalls in our sales or earnings in any given period relative to the levels expected by securities analysts could immediately, significantly and adversely affect the trading price of our common stock. We have never declared or paid cash dividends. We have never declared or paid a cash dividend and do not intend to declare any cash dividends on our common stock in the foreseeable future. Provisions in our corporate documents, stockholder rights plan, and Delaware law could delay or prevent a change in control of Comtech. We have taken a number of actions that could have the effect of discouraging, delaying or preventing a merger or acquisition involving Comtech that our stockholders may consider favorable. For example, we have adopted a 25 stockholder rights plan that could cause substantial dilution to a stockholder, and substantially increase the cost paid by a stockholder, who attempts to acquire us on terms not approved by our board of directors. This could prevent us from being acquired. In addition, our certificate of incorporation grants the board of directors the authority to fix the rights, preferences and privileges of and issue up to 2,000,000 shares of preferred stock without stockholder action. Although we have no present intention to issue shares of preferred stock, such an issuance of any class or series of our preferred stock could have rights which would adversely affect the voting power of the common stock or which could delay, defer, or prevent a change in control of Comtech. In addition, we are subject to the provisions of Section 203 of the Delaware General Corporation Law, an anti-takeover law. In general, this statute provides that except in certain limited circumstances a corporation shall not engage in any "business combination" includes mergers, asset sales and other transactions resulting in a financial benefit to the interested stockholder. Subject to certain exceptions, for purposes of Section 203 of the Delaware General Corporation Law, an "interested stockholder" is a person who, together with affiliates, owns, or within three years did own, 15% or more of the corporation's voting stock. This provision could have the effect of delaying or preventing a change in control of Comtech. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's earnings and cash flows are subject to fluctuations due to changes in interest rates primarily from its investment of available cash balances in money market funds and short-term U.S. treasury securities. Under its current policies, the Company does not use interest rate derivative instruments to manage exposure to interest rate changes on its available cash balances. The Company's long-term debt was at fixed rates. As such, the Company's earnings and cash flows were not sensitive to changes in interest rates. The Company prepaid its long-term debt in full in July 2003. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Independent Auditors' Report, Consolidated Financial Statements, Notes to Consolidated Financial Statements and Related Financial Schedule are listed in the Index to Consolidated Financial Statements and Schedule annexed hereto. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 9A. CONTROLS AND PROCEDURES As of the end of the period covered by this Annual Report on Form 10-K, an evaluation of the effectiveness of the design and operation of the Company's disclosure controls and procedures was carried out by the Company under the supervision and with the participation of the Company's management, including the Chief Executive Officer and Chief Financial Officer. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures have been designed and are being operated in a manner that provides reasonable assurance that the information required to be disclosed by the Company in reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. A system of controls, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the system of controls are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected. 26 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT Certain information concerning the directors and officers of the Company is incorporated by reference to the Proxy Statement of the Company for the Annual Meeting of Stockholders to be held December 9, 2003 (the "Proxy Statement") which will be filed with the Securities and Exchange Commission no more than 120 days after the close of its fiscal year. ITEM 11. EXECUTIVE COMPENSATION Information regarding executive compensation is incorporated by reference to the Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of its fiscal year. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS Information regarding securities authorized for issuance under equity compensation plans and certain information regarding security ownership of certain beneficial owners and management is incorporated by reference to the Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of its fiscal year. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information regarding certain relationships and related transactions is incorporated by reference to the Company's Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of its fiscal year. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES Information regarding principal accountant fees and services is incorporated by reference to the Proxy Statement, which will be filed with the Securities and Exchange Commission no more than 120 days after the close of its fiscal year. PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K (a) Documents filed as part of this report: 1. and 2. Financial Statements and Financial Statement Schedule The Financial Statements filed as part of this report are listed in the accompanying Index to Consolidated Financial Statements and Schedule. (b) Reports on Form 8-K Form 8-K dated June 5, 2003 - Item 9 - Press release announcing Results of Operations for the quarter ended April 30, 2003 Form 8-K dated June 18, 2003 - Item 7 - Three-for-Two Stock Split Form 8-K dated July 16, 2003 - Item 7 - Announcement of Private Placement of Common Stock Form 8-K dated July 17, 2003 - Item 7 - Completion of Private Placement of Common Stock (c) Exhibit index 27

PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

(a)      (1) The Registrant’s financial statements together with a separate index are annexed hereto.

           (2) The Financial Statement Schedule listed in a separate index is annexed hereto.

           (3) Exhibits required by Item 601 of Regulation S-K are listed below.

Exhibit Incorporated By NumberDescription of ExhibitIncorporated By
Reference to Exhibit ------ ---------------------- --------------------



3(a)(i)Restated Certificate of Incorporation of the Registrant Exhibit
3(a) of the Registrant's 1987 Form 10-K 3(b) Amendment of the Certificate of Incorporation effecting Exhibit 3(b) to the Registrant's 1991 Form 10-K the 5 to 1 reverse stock split 3(c) (ii)Amended and restatedRestated By-Laws of the RegistrantExhibit 3(c) of Registrant'sto the Registrant’s 1998 Form 10-K 3(d) Amendment to the Certificate of Incorporation increasing Exhibit 3(d) to the Registrant's 1994 Form 10-K authorized shares to 12 million 3(e) Amendment to the Certificate of Incorporation increasing Exhibit 3(e) to Registrant's 1998 Form 10-K the authorized shares to 17 million 3(f) Form of Certificate of Designation of the Series A Junior Exhibit 4(1) to the Registrant's Form 8-A/A Participating Preferred Stock dated December 23, 1998 3(g) Amendment to the Certificate of Incorporation increasing Exhibit 3(g) to Registrant's 2000 Form 10-K the authorized shares to 32 million
4(a)Rights Agreement dated as of December 15, 1998 between the Exhibit 4(1) to the Registrant's Form 8-A/ARegistrant and American Stock Transfer and Trust Company, as Rights Agent Registrant andExhibit 4(1) to the Registrant’s Form 8-A/A dated December 23, 1998
4(b)Indenture by and between the Registrant and The Bank of New York, as trustee, dated as of January 27, 2004, including form of NoteExhibit 4.2 to the Registrant’s Form S-3 (File No. 333-114268)
4(c)Registration Rights Agreement dated as of January 27, 2004, between the Registrant and Bear, Stearns & Co. Inc., as Initial PurchaserExhibit 4.4 to the Registrant’s Form S-3 (File No. 333-114268)
10(a)*Amended and restated Employment Agreement dated June 2, Exhibit 10(a) to the Registrant's Form 10-Q 2003, between the Registrant and Fred KornbergExhibit 10(a) to the Registrant’s Form 10-Q for quarter ended April 30, 2003
10(b)*Amended and restated Employment Agreement dated June 2, Exhibit 10(b) to the Registrant's Form 10-Q 2003, between the Registrant and Robert G. RouseExhibit 10(b) to the Registrant’s Form 10-Q for quarter ended April 30, 2003
10(c)Lease and amendment thereto on the Melville, New York FacilityExhibit 10(k) to the Registrant'sRegistrant’s 1992 Form 10-K
10(d)*Amended and restated 1993 Incentive Stock Option PlanAppendix A to the Registrant'sRegistrant’s Proxy Statement dated November 3, 1997
10(e) Time Accelerated Restricted Stock Purchase Agreements Exhibit 10(f) to the Registrant's 1999 Form 10-K between Registrant and Principals of Comtech Mobile Datacom Corp. operating unit 10(f) Movement Tracking System Contract between Comtech Mobile Exhibit 10(g) to the Registrant's 1999 Form 10-K Datacom Corp. and U.S. Army'sArmy’s CECOM Acquisition Center dated June 24, 1999 (certain portions of this agreement have been omitted and filed separately with the Securities and Exchange Commission pursuant to a request for confidential treatment)Exhibit 10(g) License Agreement between Vistar Telecommunications Inc. Exhibit 10(h) to the Registrant'sRegistrant’s 1999 Form 10-K and Comtech Mobile Datacom Corp. dated August 31, 1999 (certain portions of this agreement have been omitted and filed separately with the Securities and Exchange Commission pursuant to a request for confidential treatment) 10(h)
10(f)(1)*2000 Stock Incentive PlanAppendix A to the Registrant'sRegistrant’s Proxy Statement dated November 8, 1999 10(h)
10(f)(2)*Amendment to the 2000 Stock Incentive PlanAppendix A to the Registrant'sRegistrant’s Proxy Statement dated November 6, 2000 10(h)
10(f)(3)*Amendment to the 2000 Stock Incentive PlanExhibit 10(g)(3) to the Registrant'sRegistrant’s 2002 Form 10-K 10(h)
10(f)(4)*Amendment to the 2000 Stock Incentive Plan 10(i) Asset Purchase Agreement between the Registrant, Exhibit 10(h)(4) to the Registrant's 2002Registrant’s 2003 Form 10-K Comtech/AHA Acquisition Corp. and Advanced Hardware Architectures, Inc.
28
Exhibit Incorporated By Number Description of Exhibit Reference to Exhibit ------ ---------------------- -------------------- 10(j)(1) Loan and Security Agreement between the Registrant and The Exhibit 10(k) to the Registrant's 2000 Form 10-K Teachers' Retirement System of Alabama, The Employees' Retirement System of Alabama, The Alabama Heritage Trust Fund, PEIRAF - Deferred Compensation Plan and State Employees' Health Insurance Fund, dated July 7, 2000 10(j)(2)
10(f)(5)*Amendment to the Loan and Security Agreement between the 2000 Stock Incentive PlanExhibit 10(i)(2)10(g)(5) to the Registrant's 2001Registrant’s 2004 Form Registrant and The Teachers' Retirement System of Alabama, 10-K The Employees' Retirement System of Alabama, The Alabama Heritage Trust Fund, PEIRAF - Deferred Compensation Plan and State Employees' Health Insurance Fund, dated April 30, 2001 10(k) Asset Purchase Agreement between the Registrant and MPD Exhibit 2.1
10(f)(6)*Amendment to the Registrant's2000 Stock Incentive PlanExhibit 10.1 to the Registrant’s Form Technologies, Inc., dated March 2, 2001 8-K dated April 30, 2001 10(l) filed December 12, 2005
10(f)(7)*Form of Stock Option Agreement pursuant to the 2000 Stock Incentive PlanExhibit 10(f)(7) to the Registrant’s 2005 Form 10-K
10(f)(8)*Form of Stock Option Agreement for Non-employee Directors pursuant to the 2000 Stock Incentive Plan

37



Exhibit NumberDescription of ExhibitIncorporated By
Reference to Exhibit



10(g)*2001 Employee Stock Purchase PlanAppendix B to the Registrant'sRegistrant’s Proxy Statement dated November 6, 2000
21Subsidiaries of the Registrant
23Consent of KPMG LLP Independent Registered Public Accounting Firm
31.1Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
Exhibits to this Annual Report on Form 10-K are available from the Company upon request and payment to the Company for the cost of reproduction. 29

*

Management contract or compensatory plan or arrangement.

Exhibits to this Annual Report on Form 10-K are available from the Company upon request and payment to the Company for the cost of reproduction. The information is also available on our Internet website atwww.comtechtel.com.


38


SIGNATURE Pursuant to the requirements of Section 13 or 15 (d) of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. COMTECH TELECOMMUNICATIONS CORP. September 23, 2003 By: /s/ Fred Kornberg (Date) ----------------------------------- Fred Kornberg, Chairman of the Board and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature Title ---------------------------- ---------------------------
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

COMTECH TELECOMMUNICATIONS CORP.
September 23, 200320, 2006By: /s/Fred Kornberg
         (Date)Fred Kornberg, Chairman of the Board - --------------------------- -----------------------------
and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
SignatureTitle
September 20, 2006/s/Fred KornbergChairman of the Board
         (Date)   Fred KornbergChief Executive Officer and President (Date) Fred Kornberg (Principal
(Principal Executive Officer)
September 23, 2003 /s/Robert G. Rouse 20, 2006/s/Michael D. PorcelainSenior Vice President and - --------------------------- -----------------------------
         (Date)   Michael D. PorcelainChief Financial Officer (Date) Robert G. Rouse (Principal
(Principal Financial and Accounting Officer)
September 23, 2003 /s/20, 2006/s/George BugliarelloDirector - --------------------------- -----------------------------
         (Date)   George Bugliarello
September 23, 2003 /s/20, 2006/s/Richard L. GoldbergDirector - --------------------------- -----------------------------
         (Date)   Richard L. Goldberg
September 23, 2003 /s/20, 2006/s/Edwin KantorDirector - --------------------------- -----------------------------
         (Date)   Edwin Kantor
September 23, 2003 /s/20, 2006/s/Ira KaplanDirector - --------------------------- -----------------------------
         (Date)   Ira Kaplan
September 23, 2003 /s/20, 2006/s/Gerard R. NocitaDirector - --------------------------- -----------------------------
         (Date)   Gerard R. Nocita
30

39


COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Index to Consolidated Financial Statements and Schedule Page ---- Independent Auditors' Report F-2 Consolidated Financial Statements: Balance Sheets at July 31, 2003 and 2002 F-3 Statements of Operations for each of the years in the three-year period ended July 31, 2003 F-4 Statements of Stockholders' Equity for each of the years in the three-year period ended July 31, 2003 F-5 Statements of Cash Flows for each of the years in the three-year period ended July 31, 2003 F-6, F-7 Notes to Consolidated Financial Statements F-8 to F-23 Additional Financial Information Pursuant to the Requirements of Form 10-K: Schedule II - Valuation and Qualifying Accounts and Reserves S-1 Schedules not listed above have been omitted because they are either not applicable or the required information has been provided elsewhere in the consolidated financial statements or notes thereto. F-1

COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES

Index to Consolidated Financial Statements and Schedule 

Page

Reports of Independent Registered Public Accounting FirmF-2, F-3
Consolidated Financial Statements:
Balance Sheets as of July 31, 2006 and 2005F-4
Statements of Operations for each of the years in the three-year period ended July 31, 2006F-5
Statements of Stockholders’ Equity and Comprehensive Income for each of the years in the
three-year period ended July 31, 2006
F-6
Statements of Cash Flows for each of the years in the three-year period ended July 31, 2006F-7, F-8
Notes to Consolidated Financial StatementsF-9 to F-36
Additional Financial Information Pursuant to the Requirements of Form 10-K:
Schedule II – Valuation and Qualifying Accounts and ReservesS-1
Schedules not listed above have been omitted because they are either not applicable or the required information has been provided elsewhere in the consolidated financial statements or notes thereto.

F-1


[LETTERHEAD OF KPMG LLP] Independent Auditors' Report The Board of Directors and Stockholders Comtech Telecommunications Corp.: We have audited the consolidated financial statements of Comtech Telecommunications Corp. and subsidiaries as listed in the accompanying index. In connection with our audits of the consolidated financial statements, we also audited the consolidated financial statement schedule as listed in the accompanying index. These consolidated financial statements and the consolidated financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and the consolidated financial statement schedule based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Comtech Telecommunications Corp. and subsidiaries as of July 31, 2003 and 2002, and the results of their operations and their cash flows for each of the years in the three-year period ended July 31, 2003 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related consolidated financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. KPMG LLP Melville, New York September 18, 2003 F-2 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Consolidated Balance Sheets July 31, 2003 and 2002
Assets 2003 2002 ------------- ------------ Current assets: Cash
KPMG LLP
Suite 200
1305 Walt Whitman Road
Melville, NY 11747-4302
Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders of Comtech Telecommunications Corp.:

We have audited the accompanying consolidated balance sheets of Comtech Telecommunications Corp. and subsidiaries as of July 31, 2006 and 2005, and the related consolidated statements of operations, stockholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended July 31, 2006. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule listed in the accompanying index. These consolidated financial statements and the financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and the financial statement schedule 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 audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Comtech Telecommunications Corp. and subsidiaries as of July 31, 2006 and 2005, and the results of their operations and their cash flows for each of the years in the three-year period ended July 31, 2006, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

As discussed in Notes 1(j) and 10 to the consolidated financial statements, the Company adopted Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment,” effective August 1, 2005.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Comtech Telecommunications Corp.’s internal control over financial reporting as of July 31, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated September 19, 2006 expressed an unqualified opinion on management’s assessment of, and the effective operation of, the Company’s internal control over financial reporting.

Melville, New York
September 19, 2006

F-2



KPMG LLP
Suite 200
1305 Walt Whitman Road
Melville, NY 11747-4302

Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders of Comtech Telecommunications Corp.:

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Comtech Telecommunications Corp. maintained effective internal control over financial reporting as of July 31, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Comtech Telecommunications Corp.’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

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, management’s assessment that Comtech Telecommunications Corp. maintained effective internal control over financial reporting as of July 31, 2006, is fairly stated, in all material respects, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, Comtech Telecommunications Corp. maintained, in all material respects, effective internal control over financial reporting as of July 31, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Comtech Telecommunications Corp. and subsidiaries as of July 31, 2006 and 2005, and the related consolidated statements of operations, stockholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended July 31, 2006, and our report dated September 19, 2006, expressed an unqualified opinion on those consolidated financial statements. Our report, dated September 19, 2006, refers to the Company’s adoption of Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment”, effective August 1, 2005.

Melville, New York
September 19, 2006

F-3



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES
Consolidated Balance Sheets
As of July 31, 2006 and 2005

Assets 2006  2005 


Current assets:      
      Cash and cash equivalents$251,587,000  214,413,000 
      Restricted cash 1,003,000  1,034,000 
      Accounts receivable, net 70,047,000  56,052,000 
      Inventories, net 61,043,000  45,103,000 
      Prepaid expenses and other current assets 7,178,000  4,387,000 
      Deferred tax asset – current 7,591,000  8,092,000 


                       Total current assets 398,449,000  329,081,000 
  
Property, plant and equipment, net 24,732,000  18,683,000 
Goodwill 22,244,000  22,244,000 
Intangibles with finite lives, net 6,855,000  9,123,000 
Deferred financing costs, net 2,449,000  2,995,000 
Other assets, net 537,000  277,000 


                       Total assets$455,266,000  382,403,000 


  
                       Liabilities and Stockholders’ Equity       
Current liabilities:      
     Accounts payable$28,337,000  23,577,000 
     Accrued expenses and other current liabilities 41,230,000  34,497,000 
     Customer advances and deposits 3,544,000  5,282,000 
     Deferred service revenue 9,896,000  8,210,000 
     Current installments of other obligations 154,000  235,000 
     Interest payable 1,050,000  1,050,000 
     Income taxes payable 5,252,000  1,540,000 


                       Total current liabilities 89,463,000  74,391,000 
  
Convertible senior notes 105,000,000  105,000,000 
Other obligations, less current installments 243,000  396,000 
Deferred tax liability – non-current 6,318,000  5,987,000 


                       Total liabilities 201,024,000  185,774,000 
  
Commitments and contingencies (See Note 13)      
  
Stockholders’ equity:      
      Preferred stock, par value $.10 per share; shares authorized
          and unissued 2,000,000
    
      Common stock, par value $.10 per share; authorized 100,000,000
          shares and 30,000,000 shares at July 31, 2006 and July 31, 2005,
          respectively; issued 23,052,593 shares and 22,781,678 shares at
          July 31, 2006 and 2005, respectively
 2,305,000  2,278,000 
      Additional paid-in capital 139,487,000  127,170,000 
      Retained earnings 112,635,000  67,366,000 


  254,427,000  196,814,000 
   
       Less:      
         Treasury stock (210,937 shares) (185,000) (185,000)


  
                       Total stockholders’ equity 254,242,000  196,629,000 


                       Total liabilities and stockholders’ equity$455,266,000  382,403,000 


See accompanying notes to consolidated financial statements.


F-4



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES
Consolidated Statements of Operations
Fiscal Years Ended July 31, 2006, 2005 and 2004

2006 2005 2004 

 
 
 
  
Net sales$391,511,000  307,890,000  223,390,000 
Cost of sales 232,210,000  180,524,000  135,858,000 

 
 
 
       Gross profit 159,301,000  127,366,000  87,532,000 

 
 
 
  
Expenses:         
      Selling, general and administrative 67,071,000  51,819,000  36,016,000 
      Research and development 25,834,000  21,155,000  15,907,000 
      In-process research and development     940,000 
      Amortization of intangibles 2,465,000  2,328,000  2,067,000 

 
 
 
  95,370,000  75,302,000  54,930,000 

 
 
 
  
Operating income 63,931,000  52,064,000  32,602,000 
  
Other expenses (income):
      Interest expense 2,687,000  2,679,000  1,425,000 
      Interest income (9,243,000) (4,072,000) (921,000)

 
 
 
  
Income before provision for income taxes 70,487,000  53,457,000  32,098,000 
Provision for income taxes 25,218,000  16,802,000  10,271,000 

 
 
 
Net income$45,269,000  36,655,000  21,827,000 

 
 
 
  
Net income per share (See Note 1(i)):         
      Basic$1.99  1.69  1.03 

 
 
 
      Diluted$1.72  1.42  0.92 

 
 
 
  
Weighted average number of common shares
      outstanding – basic
 22,753,000  21,673,000  21,178,000 

 
 
 
  
Weighted average number of common and common
      equivalent shares outstanding assuming dilution – diluted
 27,324,000  27,064,000  24,781,000 

 
 
 

See accompanying notes to consolidated financial statements.


F-5



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES
Consolidated Statements of Stockholders’ Equity and Comprehensive Income
Fiscal Years Ended July 31, 2006, 2005 and 2004

Common Stock Additional
Paid-in
Capital
 Retained
Earnings
 Treasury Stock Deferred
Compensation
 Stockholders’
Equity
 Comprehensive
Income
 
 
   
    
Shares Amount   Shares Amount    
 
 
 
 
 
 
 
 
 
 
Balance July 31, 200321,031,153 $2,103,000 $106,872,000 $8,884,000  210,937 $(185,000)$(106,000)$117,568,000 $9,709,000 
                        
 
  
Amortization of deferred
     compensation
            106,000  106,000   
Issuance of shares - stock options
    exercised and related income
    tax benefit
450,210  45,000  2,470,000          2,515,000   
Issuance of shares - employee
    stock purchase plan
28,269  3,000  352,000          355,000   
Issuance of shares - warrants
     exercised
47,370  5,000  22,000          27,000   
Net income      21,827,000        21,827,000  21,827,000 
 
 
 
 
 
 
 
 
 
 
  
Balance July 31, 200421,557,002  2,156,000  109,716,000  30,711,000  210,937  (185,000)   142,398,000  21,827,000 
                        
 
  
Issuance of shares - stock options
    exercised and related income
     tax benefit
1,209,799  121,000  17,012,000          17,133,000   
Issuance of shares - employee
    stock purchase plan
28,827  3,000  517,000          520,000   
Termination of unvested restricted
    shares issued pursuant to
    employee stock award
    agreement
(13,950) (2,000) (75,000)         (77,000)
Net income      36,655,000        36,655,000  36,655,000 
 
 
 
 
 
 
 
 
 
 
  
Balance July 31, 200522,781,678  2,278,000  127,170,000  67,366,000  210,937  (185,000)   196,629,000  36,655,000 
                        
 
  
 Stock-based compensation
     programs
    5,742,000          5,742,000   
 Issuance of shares - stock
    options exercised and related
    income tax benefit
244,737  24,000  5,904,000          5,928,000   
Issuance of shares - employee 
    stock purchase plan
26,178  3,000  671,000          674,000   
Net income      45,269,000        45,269,000  45,269,000 
 
 
 
 
 
 
 
 
 
 
  
Balance July 31, 200623,052,593 $2,305,000 $139,487,000 $112,635,000  210,937 $(185,000)$ $254,242,000 $45,269,000 
 
 
 
 
 
 
 
 
 
 
See accompanying notes to consolidated financial statements.

F-6



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows 
Fiscal Years Ended July 31, 2006, 2005 and 2004

2006 2005 2004 
 
 
 
 
Cash flows from operating activities:    
   Net income$45,269,000 36,655,000 21,827,000 
   Adjustments to reconcile net income to net cash provided by
          operating activities:
    
       Depreciation and amortization of property, plant and equipment 6,242,000 5,315,000 4,341,000 
       Amortization of intangible assets with finite lives 2,465,000 2,328,000 2,067,000 
       Amortization of stock-based compensation 5,681,000   
       Amortization of deferred compensation   106,000 
       Amortization of deferred financing costs 546,000 546,000 280,000 
       Loss on disposal of property, plant and equipment 36,000 284,000 91,000 
       Write-off of in-process research and development   940,000 
       Provision for allowance for doubtful accounts 748,000 287,000 147,000 
       Provision for excess and obsolete inventory 2,030,000 2,098,000 1,193,000 
       Income tax benefit from stock option exercises  9,896,000 1,001,000 
       Excess income tax benefit from stock option exercises (4,065,000)  
       Deferred income tax expense 832,000 2,768,000 2,079,000 
       Changes in assets and liabilities, net of effects of
         acquisitions:
            Restricted cash securing letter of credit obligations 31,000 3,020,000 234,000 
            Accounts receivable (14,743,000)(13,337,000)(16,453,000)
            Inventories (17,909,000)(7,236,000)(5,152,000)
            Prepaid expenses and other current assets (2,791,000)(2,373,000)284,000 
            Other assets (260,000)69,000 44,000 
            Accounts payable 4,760,000 14,011,000 (1,961,000)
            Accrued expenses and other current liabilities 7,733,000 12,532,000 6,915,000 
            Customer advances and deposits (1,738,000)(2,008,000)4,799,000 
            Deferred service revenue 1,686,000 (5,506,000)2,556,000 
            Interest payable  (23,000)1,073,000 
            Income taxes payable 7,777,000 (3,272,000)(2,133,000)
 
 
 
 
       Net cash provided by operating activities 44,330,000 56,054,000 24,278,000 
 
 
 
 
  
Cash flows from investing activities:       
   Purchases of property, plant and equipment (12,327,000)(9,532,000)(6,591,000)
   Purchases of other intangibles with finite lives (197,000)(75,000) 
   Payments for business acquisitions (1,000,000)(2,735,000)(5,187,000)
 
 
 
 
       Net cash used in investing activities (13,524,000)(12,342,000)(11,778,000)
 
 
 
 
  
Cash flows from financing activities:       
   Net proceeds from issuance of convertible senior notes   101,179,000 
   Principal payments on other obligations (234,000)(271,000)(900,000)
   Excess income tax benefit from stock option exercises 4,065,000   
   Proceeds from exercises of stock options and warrants 1,863,000 7,160,000 1,541,000 
   Proceeds from issuance of employee stock purchase plan shares 674,000 520,000 355,000 
 
 
 
 
       Net cash provided by financing activities 6,368,000 7,409,000 102,175,000 
 
 
 
 

(Continued)


F-7



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended July 31, 2006, 2005 and 2004

2006 2005 2004 
 
 
 
 
  
Net increase in cash and cash equivalents$37,174,000  51,121,000  114,675,000 
Cash and cash equivalents at beginning of period 214,413,000  163,292,000  48,617,000 
 
  
  
 
Cash and cash equivalents at end of period$251,587,000  214,413,000  163,292,000 
 
  
  
 
Supplemental cash flow disclosure
  
Cash paid during the period for:
     Interest$2,142,000  2,156,000  55,000 
 
  
  
 
  
     Income taxes$16,573,000  7,456,000  9,324,000 
 
  
  
 
Non cash investing activities:
  
     Purchase of proprietary technology through financing
               obligation
$  509,000   
 
  
  
 
     Accrued business acquisition payments (See Note 2)$  1,000,000   
 
  
  
 

See accompanying notes to consolidated financial statements.


F-8



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(1)  Summary of Significant Accounting and Reporting Policies

(a)Principles of Consolidation
The accompanying consolidated financial statements include the accounts of Comtech Telecommunications Corp. and its subsidiaries (“the Company”), all of which are wholly owned. All significant intercompany balances and transactions have been eliminated in consolidation.
(b)Nature of Business
The Company designs, develops, produces and markets innovative products, systems and services for advanced communications solutions.
The Company’s business is highly competitive and characterized by rapid technological change. The Company’s growth and financial position depends, among other things, on its ability to keep pace with such changes and developments and to respond to the sophisticated requirements of an increasing variety of electronic equipment users. Many of the Company’s competitors are substantially larger, and have significantly greater financial, marketing and operating resources and broader product lines than the Company. A significant technological breakthrough by others, including smaller competitors or new companies, could have a material adverse effect on the Company’s business. In addition, certain of the Company’s customers have technological capabilities in the Company’s product areas and could choose to replace the Company’s products with their own.
International sales expose the Company to certain risks, including barriers to trade, fluctuations in foreign currency exchange rates (which may make the Company’s products less price competitive), political and economic instability, availability of suitable export financing, export license requirements, tariff regulations, and other United States (“U.S.”) and foreign regulations that may apply to the export of the Company’s products, as well as the generally greater difficulties of doing business abroad. The Company attempts to reduce the risk of doing business in foreign countries by seeking contracts denominated in U.S. dollars, advance or milestone payments, credit insurance and irrevocable letters of credit in its favor.
Pursuant to a contract award issued in July 1999, the Company is currently the sole provider of the U.S. Army logistics community’s Movement Tracking System (“MTS”). The contact expires in July 2007, can be terminated at any time, and is not subject to automatic renewals or extension. The loss of the MTS contract would have a material adverse effect on the Company’s future business, results of operations and financial condition.
(c)Revenue Recognition
Revenue is generally recognized when the earnings process is complete, upon shipment or customer acceptance. Revenue from contracts relating to the design, development or manufacturing of complex electronic equipment to a buyer’s specification or to provide services relating to the performance of such contracts is recognized using the percentage-of-completion method. Revenue recognition using the percentage-of-completion method is based on the relationship of total costs incurred to total projected costs, or, alternatively, based on output measures, such as units delivered. Provision for anticipated losses on uncompleted contracts is made in the period in which such losses become evident.
The Company has historically demonstrated an ability to estimate contract revenues and expenses in applying the percentage-of-completion method of accounting. However, there exist risks and uncertainties in estimating future revenues and expenses, particularly on larger or longer-term contracts. Changes to such estimates could have a material effect on the Company’s consolidated financial position and results of operations.

F-9



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

Revenue recognized in excess of amounts billable under long-term contracts accounted for under the percentage-of-completion method are recorded as unbilled receivables in the accompanying consolidated balance sheets. Unbilled receivables are billable upon various events, including the attainment of performance milestones, delivery of hardware, submission of progress bills based on time and materials, or completion of the contract.
In the case of the Company’s mobile data communications segment’s MTS contract with the U.S. Army, the Company utilizes the percentage-of-completion method and estimates total contract revenues, which are subject to annual funding appropriations. However, the Company does not recognize revenue, or record unbilled receivables, until it receives fully funded orders. MTS service-time revenue is recognized based on a network availability method which recognizes prepaid service time on a straight-line basis from the date of shipment through the end of the contract term in July 2007.
Most government contracts have termination for convenience clauses that provide the customer with the right to terminate the contract at any time. Historically, the Company has not experienced material contract terminations or write-offs of unbilled receivables. The Company addresses customer acceptance provisions in assessing its ability to perform its contractual obligations under long-term contracts. Historically, the Company has been able to perform on its long-term contracts.
Revenue from contracts that contain multiple elements that are not accounted for under the percentage-of-completion method are accounted for in accordance with Emerging Issues Task Force (“EITF”) Issue No. 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables.” Revenue from these contracts is allocated to each respective element based on each element’s relative fair value and is recognized when the respective revenue recognition criteria for each element are met.
(d)Cash, Cash Equivalents and Restricted Cash
Cash equivalents $ 48,617,000 15,510,000are temporary cash investments with a maturity of three months or less when purchased. Cash equivalents, primarily U.S. treasury securities with a maturity of three months or less, at July 31, 2006 and 2005 amounted to $231,261,000 and $205,527,000, respectively. These investments are carried at cost, which approximates fair market value. Restricted cash 4,288,000 -- Accounts receivable,as of July 31, 2006 and 2005 represents the amount the Company has pledged against guarantees of performance on certain of its contracts.
(e)Inventories
Work-in-process inventory reflects all accumulated production costs, which are comprised of direct production costs and overhead, and is reduced by amounts recorded in cost of sales as the related revenue is recognized. These inventories are reduced to their estimated net realizable value by a charge to cost of sales in the period such excess costs are determined.
Raw materials and components and finished goods inventory are stated at the lower of cost or market, computed on the first-in, first-out (“FIFO”) method.
(f)Long-Lived Assets
The Company’s machinery and equipment, which are recorded at cost, are depreciated or amortized over their estimated useful lives (three to eight years) under the straight-line method. Capitalized values of properties and leasehold improvements under leases are amortized over the life of the lease or the estimated life of the asset, whichever is less.

F-10



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

Goodwill represents the excess cost of a business acquisition over the fair value of the net assets acquired. In accordance with the Financial Accounting Standards Board’s (“FASB”) Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets,” goodwill is not amortized. The Company periodically, at least on an annual basis, reviews goodwill, considering factors such as projected cash flows and revenue and earnings multiples, to determine whether the carrying value of the goodwill is impaired. If the goodwill is deemed to be impaired, the difference between the carrying amount reflected in the financial statements and the estimated fair value is recognized as an expense in the period in which the impairment occurs. The Company defines its reporting units to be the same as its segments.
The Company assesses the recoverability of the carrying value of its other long-lived assets, including identifiable intangible assets with finite useful lives, whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. The Company evaluates the recoverability of such assets based upon the expectations of undiscounted cash flows from such assets. If the sum of the expected future undiscounted cash flows were less than the carrying amount of the asset, a loss would be recognized for the difference between the fair value and the carrying amount.
(g)Research and Development Costs
The Company charges research and development costs to operations as incurred, except in those cases in which such costs are reimbursable under customer funded contracts. In fiscal 2006, 2005 and 2004, the Company was reimbursed by customers for such activities in the amount of $4,409,000, $3,001,000 and $5,749,000, respectively.
(h)Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
(i)Earnings Per Share
The Company calculates earnings per share (“EPS”) in accordance with SFAS No. 128, “Earnings per Share.” Basic EPS is computed based on the weighted average number of shares outstanding. Diluted EPS reflects the dilution from potential common stock issuable pursuant to the exercise of stock options, warrants and convertible senior notes, if dilutive, outstanding during each period. Stock options to purchase 712,000, 49,000 and 105,000 shares for fiscal 2006, 2005 and 2004, respectively, were not included in the EPS calculation because their effect would have been anti-dilutive.
In accordance with EITF Issue No. 04-8, “The Effect of Contingently Convertible Instruments on Diluted Earnings per Share,” the Company has (i) included the impact of the assumed conversion of its 2.0% convertible senior notes in calculating diluted EPS commencing in the fiscal quarter ended January 31, 2005 and (ii) restated prior periods’ diluted EPS for comparative purposes.

F-11



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

The following table reconciles the numerators and denominators used in the basic and diluted EPS calculations: 
  
 
  Fiscal Years Ended July 31, 
  
 
  2006 2005 2004 
  
 
 
 
 Numerator:    
   Net income for basic calculation$45,269,000 36,655,000 21,827,000 
   Effect of dilutive securities:       
      Interest expense (net of tax) on
        convertible senior notes
 1,662,000 1,817,000 925,000 
  
 
 
 
 Numerator for diluted calculation$46,931,000 38,472,000 22,752,000 
  
 
 
 
  
 Denominator:       
   Denominator for basic calculation 22,753,000 21,673,000 21,178,000 
   Effect of dilutive securities:
     Stock options 1,238,000 2,058,000 1,890,000 
     Conversion of convertible
       senior notes
 3,333,000 3,333,000 1,713,000 
  
 
 
 
 Denominator for diluted calculation 27,324,000 27,064,000 24,781,000 
  
 
 
 
(j)Accounting for Stock-Based Compensation
Effective August 1, 2005, the Company adopted the provisions of SFAS No. 123(R), “Share-Based Payment,” which establishes the accounting for employee stock-based awards. Under the provisions of SFAS No. 123(R), stock-based compensation is measured at the grant date, based on the calculated fair value of the award, and is recognized as an expense over the requisite employee service period (generally the vesting period of the grant). The Company adopted SFAS No. 123(R) using the modified prospective method and, as a result, periods prior to August 1, 2005 have not been restated.
The Company recognized stock-based compensation for awards issued under the Company’s Stock Option Plans and 2001 Employee Stock Purchase Plan (the “ESPP”), in the following line items in the Consolidated Statement of Operations:
 
  
Fiscal Year Ended
July 31, 2006
  
  
  
 Cost of sales$385,000  
 Selling, general and administrative expenses 4,585,000  
 Research and development expenses 711,000  
  
  
 Stock-based compensation expense before income tax benefit 5,681,000  
 Income tax benefit (1,312,000) 
  
  
 Net compensation expense$4,369,000  
  
  
Of the $5,681,000 of stock-based compensation expense before income tax benefit, $163,000 relates to awards issued pursuant to the ESPP. Stock-based compensation that was capitalized and included in ending inventory at July 31, 2006 was $61,000.
During fiscal 2005 and 2004 (and for periods prior to August 1, 2005), the Company recorded compensation expense for employee stock options based upon their intrinsic value on the date of grant pursuant to Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees.” Since the exercise price for such options was equal to the fair market value of the Company’s stock at the date of grant, the stock options had no intrinsic value upon grant and, therefore, no expense was recorded in those respective Consolidated Statements of Operations.
Stock-based compensation expense, net of the related income tax benefit, resulted in a decrease of $0.19 and $0.14 in basic and diluted earnings per share, respectively, for fiscal 2006.

F-12



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

Had the compensation cost of the Company’s employee stock award plans for fiscal 2005 and 2004 been determined in accordance with SFAS No. 123, the Company’s pro forma net income and net income per share would have been:
  
  
  Fiscal Years Ended July 31,  
  
  
  2005 2004  
  
  
 Net income, as reported$36,655,000 21,827,000 
 Less:  Total stock-based employee compensation expense
          determined under fair value based method for all
          awards, net of related tax effects
 (4,236,000)(1,615,000) 
  
 
  
 Pro forma net income$32,419,000 20,212,000 
  
 
  
 Net income per share:      
  As reportedBasic$1.69 1.03  
  Diluted$1.42 0.92  
  Pro formaBasic$1.50 0.95  
  Diluted$1.28 0.85  
Under the modified prospective method, SFAS No. 123(R) applies to new awards and to awards outstanding on the effective date that are subsequently modified or cancelled. Compensation expense for outstanding awards for which the requisite service had not been rendered as of July 31, 2005 is being recognized over the remaining service period using the compensation cost calculated for pro forma disclosure purposes under SFAS No. 123. The Company has elected to value graded vesting awards based on vesting tranches. Prior to the adoption of SFAS No. 123(R), the Company valued graded vesting awards based on the entire award for purposes of pro forma disclosure. The Company amortizes the fair values of all awards on a straight-line basis over the total requisite service period. Cumulative compensation expense recognized at any date will at least equal the grant date fair value of the vested portion of the award at that time. Additionally, the Company includes the excess hypothetical tax benefit related to stock options which were fully vested upon adoption of SFAS No. 123(R) when calculating earnings per share.
The Company estimates the fair value of stock options using the Black-Scholes option pricing model. The Company believes that the valuation technique and the approach utilized to develop the underlying assumptions are appropriate in calculating the fair values of the Company’s stock options granted during fiscal 2006. Estimates of fair value are not intended to predict actual future events or the value ultimately realized by the employees who receive equity awards.
The per share weighted average fair value of stock options granted during fiscal 2006, 2005 and 2004 was $14.03, $8.52 and $6.59, respectively. In addition to the exercise and grant date prices of the awards, certain weighted average assumptions that were used to estimate the fair value of stock option grants in the respective periods are listed in the table below:
 
  
  Fiscal Years Ended July 31,    

  2006  2005  2004    
     
 
 
  
 Expected dividend yield   0%0%0% 
 Expected volatility   51.44%64.83%53.67% 
 Risk-free interest rate   4.20%3.70%3.31% 
 Expected life (years)   3.63 5.00 5.00  
Options granted during fiscal 2006 have exercise prices equal to the fair market value of the stock on the date of grant, a contractual term of five years and a vesting period of three years. All options granted through July 31, 2005 had exercise prices equal to the fair market value of the stock on the date of grant, a contractual term of ten years and generally a vesting period of five years. As of July 31, 2006, the weighted average estimated forfeiture rate was 8.2%.

F-13



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

The Company estimates expected volatility by considering the historical volatility of the Company’s stock, the implied volatility of publicly traded stock options in the Company’s stock and the Company’s expectations of volatility for the expected term of stock-based compensation awards. The risk-free interest rate is based on the U.S. treasury yield curve in effect at the time of grant. The expected option term is the number of years that the Company estimates that options will be outstanding prior to exercise. The expected term of the awards issued after July 31, 2005 was determined using the “simplified method” prescribed in SEC Staff Accounting Bulletin (“SAB”) No. 107.
The actual income tax benefit recorded relating to the exercise of stock option awards was $4,065,000 for fiscal 2006 and is classified as a financing cash inflow in the Company’s Consolidated Statement of Cash Flows. Prior to the adoption of SFAS No. 123(R), the Company presented all tax benefits related to stock-based compensation as an operating cash inflow. The actual income tax benefit recorded relating to the exercise of stock option awards was $9,896,000 and $1,001,000 for fiscal 2005 and 2004, respectively. The Company settles employee stock option exercises with new shares.
At July 31, 2006, total remaining unrecognized compensation cost related to unvested stock-based payment awards was $12,541,000, net of estimated forfeitures. That cost is expected to be recognized over a weighted average period of 2.4 years.
On August 1, 2006, the first day of the Company’s 2007 fiscal year, the Company authorized, in accordance with the Company’s 2000 Stock Incentive Plan, the award of stock options to purchase a total of 635,100 shares of common stock. Total unrecognized compensation cost, net of estimated forfeitures, related to this award was $6,359,000. The compensation cost related to these options will be recognized on a straight-line basis over the related three-year service period.
(k)Financial Instruments
The Company believes that the book value of its current monetary assets and liabilities approximates fair value as a result of the short-term nature of such assets and liabilities. The Company further believes that the fair market value of its capital lease obligations does not differ materially from the carrying value. As of July 31, 2006, the Company estimates the fair market value of its 2.0% convertible senior notes to be $109,000,000 based on recent trading activity.
(l)Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities, and disclosure of contingent assets and liabilities, at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. The Company makes significant estimates in many areas of its accounting, including but not limited to the following: long-term contracts, stock-based compensation, intangible assets, provision for excess and obsolete inventory, allowance for doubtful accounts, warranty obligations and income taxes. Actual results may differ from those estimates.
(m)Comprehensive Income
The Company has adopted SFAS No. 130, “Reporting Comprehensive Income,” which requires companies to report all changes in equity during a period, except those resulting from investment by owners and distribution to owners, for the period in which they are recognized. Comprehensive income is the total of $912,000net income and all other non-owner changes in 2003equity (or other comprehensive income) such as unrealized gains/losses on securities classified as available-for-sale, foreign currency translation adjustments and $795,000minimum pension liability adjustments. Comprehensive income was the same as net income in 2002 26,696,000 27,435,000fiscal 2006, 2005 and 2004.

F-14



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(n)Reclassifications
Certain reclassifications have been made to previously reported consolidated financial statements to conform to the fiscal 2006 presentation.

(2)Acquisitions

In May 2004, the Company acquired certain assets and product lines and assumed certain liabilities of Memotec, Inc. (“Memotec”), a subsidiary of Kontron AG, and at the same time, purchased related inventory owned by Kontron Canada Inc., for an aggregate purchase price of $5,187,000, including transaction costs of $161,000. Sales and income for fiscal 2004 relating to the Memotec assets acquired would not have been material to the Company’s results of operations for that period.
In February 2005, the Company acquired certain assets and assumed certain liabilities of Tolt Technologies, Inc. (“Tolt”). Sales and income for fiscal 2005 and 2004 relating to the Tolt assets acquired would not have been material to the Company’s results of operations for those periods. The purchase price of the business was $3,735,000, including transaction costs of $235,000. Of the total purchase price excluding transaction costs, $2,500,000 was paid at closing and the remaining $1,000,000 was paid in fiscal 2006.
The Memotec and Tolt purchase prices were allocated as follows:
   Memotec Tolt Estimated Useful Lives 
  
 
 
 
 Fair value of net tangible
   assets acquired
$1,990,000  4,000   
  
 Adjustments to record
  intangible assets and
  liabilities at fair value:
        
          In-process research and
              development
 940,000    
          Proprietary and core
              technology
 820,000   8-9 years 
          Existing technology 190,000   7-9 years 
          Other intangibles 410,000  160,000 6 months to 10 years 
          Goodwill 947,000  3,571,000 Infinite 
          Deferred tax liability (110,000)    
  
 
   
   3,197,000  3,731,000   
  
 
   
 Aggregate purchase price$5,187,000  3,735,000   
  
 
   
For Memotec, the valuation of the in-process research and development, existing technology and most other intangibles was based on the value of the discounted cash flows that the assets could be expected to generate in the future. The valuation of the core technology was based on the discounted capitalization of the royalty expense saved since the Company owns the asset. For Tolt, the purchase price was substantially allocated to goodwill (which includes assembled workforce).

F-15



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

The value ascribed to the Memotec in-process research and development acquired was expensed in fiscal 2004. The following table includes the specific nature and fair value allocated to each significant in-process research and development project acquired, as well as significant appraisal assumptions used as of the acquisition date and the current project status.
   As of the Acquisition Date   
   
   
 Specific Nature
of R&D Projects
 Fair Market
Value
Allocated
 % of
Estimated
Efforts
Complete
 Original
Anticipated
Completion
Date
 Discount
Rate
Fiscal Year
Cash Flows
Projected To
Commence
 Project
Status as of
July 31,
2006
 
 
 
 
 
 

 
 
 Technology for      bandwidth
     optimization #1
 $680,000 78% January 2005 35%2005 Complete 
  
 Technology for      bandwidth
     optimization #2
  260,000 24% August 2005 40%2006 Cancelled 
   
          
 Total $940,000          
   
          
Our purchased in-process research and development efforts are complex and unique in light of the nature of the technology, which is generally state-of-the-art. The Company does not believe that the failure to complete the cancelled Memotec project will have a material impact on the Company’s consolidated results of operations.
As discussed in Note 18, in August 2006, the Company acquired certain assets and assumed certain liabilities of Insite Consulting, Inc. (“Insite”), a logistics application software company, for $2.7 million, plus certain earn-out payments based on the achievement of future sales targets.

 (3)Accounts Receivable

Accounts receivable consist of the following at July 31, 2006 and 2005:
  2006 2005 
  
 
 
 Accounts receivable from commercial customers$36,700,000  30,967,000 
 Unbilled receivables (including retainages) on contracts-in-progress 10,361,000  8,811,000 
 Amounts receivable from the U.S. government and its agencies 24,362,000  16,910,000 
  
 
 
   71,423,000  56,688,000 
 Less allowance for doubtful accounts 1,376,000  636,000 
  
 
 
            Accounts receivable, net$70,047,000  56,052,000 
  
 
 
There was no retainage included in unbilled receivables at July 31, 2006. There was $2,684,000 of retainage included in unbilled receivables at July 31, 2005.
As of July 31, 2006, a prime contractor represented 16.6% of total net accounts receivable which primarily relates to a large over-the-horizon microwave system contract in our telecommunications transmission segment.

F-16



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

 (4)Inventories

                Inventories net 34,048,000 33,996,000 Prepaid expensesconsist of the following at July 31, 2006 and other current assets 1,742,000 1,407,000 Deferred tax asset - current 5,699,000 2,492,000 ------------- ------------ 121,090,000 80,840,000 2005: 

   2006 2005
 
   
 
 
 Raw materials and components $35,835,000  26,816,000 
 Work-in-process and finished goods  31,331,000  24,796,000 
   
 
 
    67,166,000  51,612,000 
 Less reserve for excess and obsolete inventories  6,123,000  6,509,000 
   
 
 
             Inventories, net $61,043,000  45,103,000 
   
 
 
Inventories directly related to long-term contracts were $8,349,000 and $8,925,000 at July 31, 2006 and 2005, respectively. At July 31, 2006, $3,406,000 of the inventory balance above related to a contract from a third party commercial customer to outsource its manufacturing. The decrease in the reserve from July 31, 2005 to July 31, 2006, primarily related to the write-off of previously reserved inventory during fiscal 2006, largely offset by the fiscal 2006 provision for excess and obsolete inventory.
(5)Property, Plant and Equipment
Property, plant and equipment net 12,328,000 11,889,000 Goodwillconsists of the following at July 31, 2006 and other intangibles with indefinite lives 17,726,000 17,726,000 Intangibles with definite lives, net of accumulated2005:
       
   2006 2005
 
   
 
 
 Machinery and equipment $54,305,000  43,060,000 
 Leasehold improvements  4,338,000  3,715,000 
 Equipment financed by capital lease  522,000  522,000 
   
 
 
    59,165,000  47,297,000 
 Less accumulated depreciation and amortization  34,433,000  28,614,000 
   
 
 
             Property, plant and equipment, net $24,732,000  18,683,000 
   
 
 
Depreciation and amortization of $4,720,000 in 2003expense on property, plant and $2,681,000 in 2002 11,353,000 12,902,000equipment amounted to approximately $6,242,000, $5,315,000 and $4,341,000, for the fiscal years ended July 31, 2006, 2005 and 2004, respectively.
(6)Accrued Expenses and Other assets, net 390,000 661,000 Deferred tax asset - non-current 1,363,000 2,568,000 ------------- ------------ Total assets $ 164,250,000 126,586,000 ============= ============Current Liabilities and Stockholders' Equity Current liabilities: Current installments of capital lease obligations $ 899,000 1,062,000 Accounts payable 11,527,000 9,529,000
Accrued expenses and other current liabilities 13,267,000 9,686,000 Customer advancesconsist of the following at July 31, 2006 and deposits 2,491,000 2,173,000 Deferred service revenue 11,160,000 4,343,000 2005:
       
   2006 2005
 
   
 
 
 Accrued wages and benefits $17,361,000  14,439,000 
 Accrued commissions  5,745,000  5,049,000 
 Accrued warranty  10,468,000  7,910,000 
 Accrued hurricane related costs (See Note 13(c))  2,240,000  2,331,000 
 Accrued business acquisition payments    1,000,000 
 Other  5,416,000  3,768,000 
   
 
 
              Accrued expenses and other current liabilities $41,230,000  34,497,000 
   
 
 

F-17



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

The Company provides standard warranty coverage for most of its products for a period of at least one year from the date of shipment. The Company records a liability for estimated warranty expense based on historical claims, product failure rates and other factors. Changes in the Company’s product warranty liability during the fiscal years ended July 31, 2006 and 2005 were as follows: 
   2006
 2005
 
   
 
 
 Balance at beginning of period $7,910,000  4,990,000 
 Provision for warranty obligations  7,260,000  5,958,000 
 Acquired obligations    450,000 
 Charges incurred  (4,702,000) (3,488,000)
   
 
 
 Balance at end of period $10,468,000  7,910,000 
   
 
 

(7)Other Obligations

                Other obligations consist of the following at July 31, 2006 and 2005:

   2006
 2005
 
   
 
 
 Obligations under capital leases and for technology purchase $397,000  631,000 
 Less current installments  154,000  235,000 
   
 
 
   $243,000  396,000 
   
 
 
Other obligations in both years related to certain equipment and a technology license. The net carrying value of assets under these obligations was $830,000 and $864,000 at July 31, 2006 and 2005, respectively.
Future minimum lease payments under other obligations as of July 31, 2006 are as follows:
 Fiscal years ending July 31,   
  2007$180,000  
  2008 150,000  
  2009 113,000  
  
  
 Total minimum lease payments 443,000  
 Less amounts representing interest (at rates ranging from 6.90% to 8.0%) 46,000  
  
  
   397,000  
 Less current installments 154,000  
  
  
 Other obligations, net of current installments$243,000  
  
  

(8)2.0% Convertible Senior Notes due 2024

On January 27, 2004, the Company issued $105,000,000 of its 2.0% convertible senior notes in a private offering pursuant to Rule 144A under the Securities Act of 1933, as amended. The net proceeds from this transaction were $101,179,000 after deducting the initial purchaser’s discount and other transaction costs of $3,821,000.
The notes bear interest at an annual rate of 2.0% and, during certain periods, the notes are convertible into shares of the Company’s common stock at an initial conversion price of $31.50 per share (a conversion rate of 31.7460 shares per $1,000 original principal amount of notes), subject to adjustment in certain circumstances. The notes may be converted if, during a conversion period on each of at least 20 trading days, the closing sale price of the Company’s common stock exceeds 120% of the conversion price in effect. Upon conversion of the notes, in lieu of delivering common stock, the Company may, in its discretion, deliver cash or a combination of cash and common stock. The Company may, at its option, redeem some or all of the notes on or after February 4, 2009. Holders of the notes will have the right to require the Company to repurchase some or all of the outstanding notes on February 1, 2011, February 1, 2014 and February 1, 2019 and upon certain events, including a change in control. If not redeemed by the Company or repaid pursuant to the holders’ right to require repurchase, the notes mature on February 1, 2024.
The 2.0% interest is payable in cash, semi-annually, through February 1, 2011. After such date, the 2.0% interest will be accreted into the principal amount of the notes. Also, commencing with the six-month period

F-18



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

beginning February 1, 2009, if the average note price for the applicable trading period equals 120% or more of the accreted principal amount of such notes, the Company will pay contingent interest at an annual rate of 0.25%.
The notes are general unsecured obligations of the Company, ranking equally in right of payment with all of its other existing and future unsecured senior indebtedness and senior in right of payment to any of its future subordinated indebtedness. All of Comtech Telecommunications Corp.’s (the “Parent”) wholly-owned subsidiaries have issued full and unconditional guarantees in favor of the holders of the Company’s 2.0% convertible senior notes (the “Guarantor Subsidiaries”), except for the subsidiary that purchased Memotec, Inc. in fiscal 2004 (the “Non-Guarantor Subsidiary”). Tolt, which was purchased in February 2005, became a guarantor in July 2005. These full and unconditional guarantees are joint and several. Other than supporting the operations of its subsidiaries, the Parent has no independent assets or operations and there are currently no significant restrictions on its ability, or the ability of the guarantors, to obtain funds from each other by dividend or loan. Consolidating financial information regarding the Parent, the Guarantor Subsidiaries and the Non-Guarantor Subsidiary can be found in Note 17 to the consolidated financial statements beginning on page F-29.
The net proceeds of the offering are being used for working capital and general corporate purposes and potentially may be used for future acquisitions of businesses or technologies or repurchases of the Company’s common stock. The Company filed a registration statement with the Securities and Exchange Commission (“SEC”), which has become effective, for the resale of the notes and the shares of common stock issuable upon conversion of the notes.

(9)Income taxes payable 6,945,000 2,470,000 ------------- ------------ 46,289,000 29,263,000 Long-term debt, less current installments -- 28,683,000 Capital lease obligations, less current installments 393,000 1,294,000 Other long-term liabilities -- 58,000 ------------- ------------ Total liabilities 46,682,000 59,298,000 Stockholders' equity: Preferred stock, par value $.10 per share; shares authorized and unissued 2,000,000 -- -- Common stock, par value $.10 per share; authorized 30,000,000 shares, issued 14,020,769 shares in 2003 and 11,404,382 shares in 2002 1,402,000 1,140,000 Additional paid-in capital 107,573,000 67,503,000 Retained earnings (accumulated deficit) 8,884,000 (825,000) ------------- ------------ 117,859,000 67,818,000 Less: Treasury stock (140,625 shares) (185,000) (185,000) Deferred compensation (106,000) (345,000) ------------- ------------ Total stockholders' equity 117,568,000 67,288,000 ------------- ------------ Total liabilities and stockholders' equity $ 164,250,000 126,586,000 ============= ============ Commitments and contingencies Taxes

See accompanying notes to consolidated financial statements. F-3 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Consolidated Statements of Operations Years ended July 31, 2003, 2002 and 2001
2003 2002 2001 ------------- ------------ ------------ Net sales $ 174,035,000 119,357,000 135,931,000 Cost of sales 114,317,000 78,780,000 87,327,000 ------------- ------------ ------------ Gross profit 59,718,000 40,577,000 48,604,000 Expenses: Selling, general and administrative 28,045,000 22,512,000 22,707,000 Research and development 12,828,000 11,041,000 10,190,000 In-process research and development -- 2,192,000 -- Amortization of intangibles 2,039,000 1,471,000 2,552,000 ------------- ------------ ------------ 42,912,000 37,216,000 35,449,000 ------------- ------------ ------------ Operating income 16,806,000 3,361,000 13,155,000 Other expenses (income): Interest expense 2,803,000 3,061,000 4,015,000 Interest income (275,000) (452,000) (2,303,000) Other, net -- (28,000) 841,000 ------------- ------------ ------------ Income before
The provision (benefit) for income taxes 14,278,000 780,000 10,602,000 Provision (benefit)included in the accompanying consolidated statements of operations consists of the following:
   
 
   Fiscal Years Ended July 31,
 
   
 
   2006 2005
 2004 
   
 
 
 
 Federal – current $22,085,000  13,135,000  7,664,000 
 Federal – deferred  854,000  2,605,000  2,122,000 
            
 State and local – current  1,539,000  931,000  504,000 
 State and local – deferred  85,000  163,000  133,000 
            
 Foreign – current  762,000  (32,000) 24,000 
 Foreign – deferred  (107,000)   (176,000)
   
 
 
 
   $25,218,000  16,802,000  10,271,000 
   
 
 
 

F-19



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

The provision for income taxes 4,569,000 (368,000) 3,888,000 ------------- ------------ ------------ Netdiffered from the amounts computed by applying the U.S. Federal income $ 9,709,000 1,148,000 6,714,000 ============= ============ ============ Nettax rate as a result of the following:
 
 
 Fiscal Years Ended July 31, 
 2006 2005 2004 
 
 
 
 
 Amount Rate Amount Rate Amount Rate 
 
 
 
 
 
 
 
Computed “expected” tax expense$24,670,000  35.0% 18,710,000  35.0% 11,234,000  35.0%
Increase (reduction) in income taxes
    resulting from:
                  
      Nondeductible compensation 961,000  1.4  906,000  1.7     
      State and local income taxes,
          net of Federal benefit
 922,000  1.3  711,000  1.3  414,000  1.3 
      Nondeductible stock-based
          compensation
 615,000  0.9         
      Extraterritorial income
          exclusion
 (726,000) (1.0) (1,862,000) (3.5) (856,000) (2.7)
      Domestic production activities
          deduction
 (646,000) (0.9)        
      Research and experimentation
          credits
 (415,000) (0.6) (694,000) (1.3) (454,000) (1.4)
      Change in the beginning of the
          year valuation allowance for
          deferred tax assets
 (111,000) (0.2) (1,189,000) (2.2) (350,000) (1.1)
      Other (52,000) (0.1) 220,000  0.4  283,000  0.9 
 
 
 
 
 
 
 
 $25,218,000  35.8% 16,802,000  31.4% 10,271,000  32.0%
 
 
 
 
 
 
 
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities at July 31, 2006 and 2005 are presented below.
   2006 2005  
   
 
  
 Deferred tax assets:      
     Allowance for doubtful accounts receivable $404,000  236,000  
     Intangibles  675,000  848,000  
     Inventory and warranty reserves  5,025,000  4,930,000  
     Compensation and commissions  2,049,000  1,925,000  
     State research and experimentation credits  1,162,000  1,158,000  
     Stock-based compensation  1,312,000    
     Other  1,245,000  1,001,000  
 Less valuation allowance  (1,362,000) (1,470,000) 
   
 
  
         Total deferred tax assets  10,510,000  8,628,000  
          
 Deferred tax liabilities:        
     Convertible senior notes  (6,374,000) (3,836,000) 
     Plant and equipment  (2,863,000) (2,687,000) 
   
 
  
         Total deferred tax liabilities  (9,237,000) (6,523,000) 
   
 
  
         Net deferred tax assets $1,273,000  2,105,000  
   
 
  
The Company provides for income taxes under the provisions of SFAS No. 109, “Accounting for Income Taxes.” SFAS No. 109 requires an asset and liability based approach in accounting for income taxes. In assessing the realizability of deferred tax assets and liabilities, management considers whether it is more likely than not that some portion or all of them will not be realized. As of July 31, 2006 and 2005, the Company’s deferred tax asset has been offset by a valuation allowance primarily related to state research and experimentation credits which may not be utilized in future periods. The Company must generate approximately $32,000,000 of taxable income to fully utilize its deferred tax assets. Management believes it is more likely than not that the results of future operations will generate sufficient taxable income to realize the net deferred tax assets.

F-20



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

In fiscal 2006, the Company’s Federal income tax return for the fiscal year ended July 31, 2004 was selected for audit by the Internal Revenue Service. The audit is in the early stages and additional income tax returns for other fiscal years may be examined. If the outcome of the audit differs materially from our original income tax provisions, the Company’s results of operations and financial position could be materially impacted.

(10)Stockholders’ Equity

(a)   Stock Split
In April 2005, the Company completed a three-for-two stock split, which was effected in the form of a 50% stock dividend. All share and per share: Basic $ 0.85 0.10 0.61 ============= ============ ============ Diluted $ 0.80 0.10 0.57 ============= ============ ============ Weighted averageshare information in the consolidated financial statements and notes thereto has been adjusted to reflect the stock split.
(b)   Stock Option, Stock Purchase and Warrant Agreements
The Company has stock option and stock purchase plans and warrant agreements as follows:
1993 Incentive Stock Option Plan – The 1993 Incentive Stock Option Plan, as amended, provided for the granting to key employees and officers of incentive and non-qualified stock options to purchase up to 2,345,625 shares of the Company’s common stock at prices generally not less than the fair market value at the date of grant with the exception of anyone who, prior to the grant, owns more than 10% of the voting power, in which case the exercise price cannot be less than 110% of the fair market value. In addition, it provided formula grants to non-employee members of the Company’s Board of Directors. The term of the options could be no more than ten years. However, for incentive stock options granted to any employee who, prior to the granting of the option, owns stock representing more than 10% of the voting power, the option term could be no more than five years. As of July 31, 2006, the Company had granted stock options representing the right to purchase an aggregate of 2,070,218 shares (net of 374,441 canceled options) at prices ranging between $0.67 - $5.31 per share, of which 207,262 are outstanding at July 31, 2006. To date, 1,862,956 shares have been exercised. Outstanding awards have been transferred to the 2000 Stock Incentive Plan. The terms applicable to these awards prior to the transfer continue to apply. The plan was terminated by the Company’s Board of Directors in December 1999 due to the approval by the shareholders of the 2000 Stock Incentive Plan.
2000 Stock Incentive Plan – The 2000 Stock Incentive Plan, as amended, provides for the granting to all employees and consultants of the Company (including prospective employees and consultants) non-qualified stock options, stock appreciation rights, restricted stock, performance shares, performance units and other stock-based awards. In addition, employees of the Company are eligible to be granted incentive stock options. Non-employee directors of the Company are eligible to receive non-discretionary grants of nonqualified stock options subject to certain limitations. The aggregate number of shares of common stock which may be issued may not exceed 5,737,500 plus the shares that were transferred to the Plan relating to outstanding - Basic 11,445,000 11,192,000 11,022,000 Potential dilutive common shares 748,000 516,000 843,000 ------------- ------------ ------------ Weighted averageawards that were previously granted under the 1982 Incentive Stock Option Plan and the 1993 Incentive Stock Option Plan. The Stock Option Committee of the Company’s Board of Directors, consistent with the terms of the Plan, will determine the types of awards to be granted, the terms and conditions of each award and the number of shares of common stock to be covered by each award. Grants of incentive and common equivalent shares outstanding assuming dilution - Diluted 12,193,000 11,708,000 11,865,000 ============= ============ ============
See accompanying notes to consolidated financial statements. F-4 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Consolidated Statementsnon- qualified stock options may not have a term exceeding ten years or no more than five years in the case of an incentive stock option granted to a stockholder who owns stock representing more than 10% of the voting power. As of Stockholders' Equity Years ended July 31, 2003, 2002 and 2001
Common Stock Accumulated Retained Treasury Stock ------------ Additional Other Earnings -------------- Paid-in Comprehensive (Accumulated Shares Amount Capital Income Deficit) Shares Amount ------ ------ ------- ------ -------- ------ ------ Balance July 31, 2000 11,023,764 $ 1,102,000 $ 66,373,000 $ (113,000) $(8,687,000) 123,750 $(184,000) Amortization2006, the Company had granted stock options representing the right to purchase an aggregate of deferred compensation -- -- -- -- -- -- -- Unrealized loss4,692,700 shares at prices ranging between $3.13 - $41.51 of which 403,590 options were canceled and 2,711,980 are outstanding at July 31, 2006. As of July 31, 2006, 1,577,130 stock options have been exercised. All options granted through July 31, 2005 had exercise prices equal to the fair market value of the stock on securities netthe date of reclassification adjustment -- -- -- 113,000 -- -- -- Stockgrant and a term of ten years. All options granted since August 1, 2006 have had exercise prices equal to the fair market value of the stock on the date of grant and a term of five years.

F-21



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

The following table summarizes stock option activity during the three years ended July 31, 2006:
  Number of
Shares
 Weighted
Average
Exercise Price
 Weighted
Average
Remaining
Contractual
Term (Years)
 
 Aggregate
Intrinsic
Value
 
  
  
 Outstanding at July 31, 2003 2,602,281  $4.18        
 Granted 988,875   13.07        
 Expired/canceled (35,025)  5.88        
 Exercised (450,225)  3.36        
  
  
        
                   
 Outstanding at July 31, 2004 3,105,906   7.11        
 Granted 732,750   15.20        
 Expired/canceled (61,975)  10.25        
 Exercised (1,209,799)  5.98        
  
  
        
                   
 Outstanding at July 31, 2005 2,566,882   9.87        
 Granted 706,000   35.30        
 Expired/canceled (108,903)  16.00        
 Exercised (244,737)  7.61        
  
  
        
                   
 Outstanding at July 31, 2006 2,919,242  $15.99  5.9  $34,373,000 
  
  
  
  
 
                   
 Exercisable at July 31, 2006 732,692  $9.68  6.4  $13,246,000 
  
  
  
  
 
                   
 Expected to vest at July 31, 2006 2,008,425  $18.10  5.7  $21,127,000 
  
  
  
  
 
The total intrinsic value of stock options exercised 145,719 15,000 260,000 -- -- -- -- Employee stock purchase plan shares issued 21,168 2,000 156,000 -- -- -- -- Warrants exercised 76,007 8,000 325,000 -- -- -- -- Net income -- -- -- -- 6,714,000 -- -- ---------- ----------- ------------- ----------- ----------- -------- --------- Balanceduring the years ended July 31, 2001 11,266,658 1,127,000 67,114,000 -- (1,973,000) 123,750 (184,000) Amortization2006, 2005 and 2004 was $6,602,000, $32,590,000 and $7,164,000, respectively.
Warrants Issued Pursuant to Acquisition– In connection with an acquisition in fiscal 1999, the Company issued warrants to the acquiree’s owners and creditors to purchase 337,500 shares of deferred compensation -- -- -- -- -- -- -- Terminationthe Company’s common stock at an exercise price of unvested restricted shares issued pursuant to employee stock award agreement -- -- (52,000) -- -- 16,875 (1,000) Stock options$2.92. All warrants were exercised 88,572 8,000 165,000 -- -- -- -- Employee stock purchase plan shares issued 39,629 4,000 235,000 -- -- -- -- Warrants exercised 9,523 1,000 41,000 -- -- -- -- Net income -- -- -- -- 1,148,000 -- -- ---------- ----------- ------------- ----------- ----------- -------- --------- Balanceas of July 31, 2002 11,404,382 1,140,000 67,503,000 -- (825,000) 140,625 (185,000) Amortization2004.
2001 Employee Stock Purchase Plan – The ESPP was approved by the shareholders on December 12, 2000, and 675,000 shares of deferred compensation -- -- -- -- -- -- -- Sharesthe Company’s common stock were reserved for issuance. The ESPP is intended to provide eligible employees of the Company the opportunity to acquire common stock in the Company at 85% of fair market value at date of issuance through participation in the payroll-deduction based ESPP. Through fiscal 2006, the Company issued 234,851 shares of its common stock to participating employees in connection with private placement,the ESPP.

F-22



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(11)        Customer and Geographic Information

                Sales by geography and customer type, as a percentage of consolidated net sales, are as follows:

  
   
  Fiscal Years Ended July 31,   
  
  
  2006 2005 2004  
  
 
 
  
 United States       
 U.S. government 47.3% 42.1% 40.1% 
 Commercial customers 17.1% 13.9% 14.5% 
  
 
 
  
      Total United States 64.4% 56.0% 54.6% 
            
 International          
 North African country 9.7% 13.2% 14.1% 
 Other international customers 25.9% 30.8% 31.3% 
  
 
 
  
      Total International 35.6% 44.0% 45.4% 
International sales include sales to U.S. domestic companies for inclusion in products that will be sold to international customers. One customer, a prime contractor, represented 10.2% of related costs 2,100,000 210,000 37,981,000 -- -- -- -- Stock options exercisedconsolidated net sales in both fiscal 2006 and 2005. In fiscal 2004, one customer, another prime contractor, represented 12.5% of consolidated net sales.

(12)        Segment Information

Reportable operating segments are determined based on the Company’s management approach. The management approach, as defined by SFAS No. 131, is based on the way that the chief operating decision-maker organizes the segments within an enterprise for making decisions about resources to be allocated and assessing their performance. While the Company’s results of operations are primarily reviewed on a consolidated basis, the chief operating decision-maker also manages the enterprise in three operating segments: (i) telecommunications transmission, (ii) mobile data communications and (iii) RF microwave amplifiers. Telecommunications transmission products include satellite earth station products (such as analog and digital modems, frequency converters, power amplifiers, and voice gateways) and over-the-horizon microwave communications products and systems. Mobile data communications products include satellite-based mobile location, tracking and messaging hardware and related services. RF microwave amplifier products include solid-state, high-power, broadband amplifier products that use the microwave and radio frequency spectrums.
Unallocated expenses result from such corporate expenses as legal, accounting and executive compensation. In addition, for fiscal 2006, unallocated expenses include $5,681,000 of stock-based compensation expense. There was no stock-based compensation expense recorded for fiscal 2005 or 2004. Interest expense associated with the Company’s 2.0% convertible senior notes is not allocated to the operating segments. Unallocated assets consist principally of cash, deferred financing costs and deferred tax assets. Substantially all of the Company’s long-lived assets are located in the U.S.

F-23



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

Corporate management defines and reviews segment profitability based on the same allocation methodology as presented in the segment data tables below.
 
 
Fiscal Year Ended July 31, 2006 
 
 
(in thousands)Telecommunications
Transmission
 Mobile Data
Communications
 RF Microwave
Amplifiers
 Unallocated Total 

 
Net sales$197,891  149,463  44,157   $391,511 
Operating income (expense) 49,797  21,730  8,311  (15,907) 63,931 
Interest income 48  2    9,193  9,243 
Interest expense 38    3  2,646  2,687 
Depreciation and amortization 6,086  1,193  1,317  111  8,707 
Expenditure for long-lived assets,
    including intangibles
 8,914  1,545  1,477  588  12,524 
Total assets at July 31, 2006 134,567  45,641  24,588  250,470  455,266 
 
 
Fiscal Year Ended July 31, 2005 
 
 
(in thousands)Telecommunications
Transmission
 Mobile Data
Communications
 RF Microwave
Amplifiers
 Unallocated Total 

 
Net sales$174,488  86,084  47,318   $307,890 
Operating income (expense) 40,194  11,848  8,224  (8,202) 52,064 
Interest income (2) 1  3  4,070  4,072 
Interest expense 22    11  2,646  2,679 
Depreciation and amortization 5,497  796  1,262  88  7,643 
Expenditure for long-lived assets,
    including intangibles
 6,962  5,344  1,604  65  13,975 
Total assets at July 31, 2005 99,197  32,827  25,320  225,059  382,403 
 
 
Fiscal Year Ended July 31, 2004 
 
 
(in thousands)Telecommunications
Transmission
 Mobile Data
Communications
 RF Microwave
Amplifiers
 Unallocated Total 

 
Net sales$141,514  59,784  22,092   $223,390 
Operating income (expense) 29,210  9,526  261  (6,395) 32,602 
Interest income 4  3    914  921 
Interest expense 33    22  1,370  1,425 
Depreciation and amortization 4,832  413  1,082  187  6,514 
Expenditure for long-lived assets,
    including intangibles
 6,473  1,552  652  494  9,171 
Total assets at July 31, 2004 88,629  21,276  22,934  173,551  306,390 
Intersegment sales in fiscal 2006, 2005 and 2004 by the telecommunications transmission segment to the RF microwave amplifiers segment were $7,512,000, $8,579,000 and $3,598,000, respectively. In fiscal 2006, 2005 and 2004, intersegment sales by the telecommunications transmission segment to the mobile data communications segment were $55,667,000, $19,466,000 and $12,776,000, respectively. Intersegment sales have been eliminated from the tables above. In fiscal 2004, operating income tax benefit 421,395 42,000 1,649,000 -- -- -- -- Employee stock purchase plan shares issued 40,256 4,000 206,000 -- -- -- -- Warrants exercised 54,736 6,000 234,000 -- -- -- -- Net income -- -- -- -- 9,709,000 -- -- ---------- ----------- ------------- ----------- ----------- -------- --------- Balance July 31, 2003 14,020,769 $ 1,402,000 $ 107,573,000 $ -- $ 8,884,000 140,625 $(185,000) ========== =========== ============= =========== =========== ======== =========
Deferred Stockholders' Comprehensive Compensation Equity Income ------------ ------ ------ Balance July 31, 2000 $ (709,000) $ 57,782,000 Amortization of deferred compensation 190,000 190,000 $ -- Unrealized loss on securities net of reclassification adjustment -- 113,000 113,000 Stock options exercised -- 275,000 -- Employee stock purchase plan shares issued -- 158,000 -- Warrants exercised -- 333,000 -- Net income -- 6,714,000 6,714,000 ------------ ------------- ---------- Balance July 31, 2001 (519,000) 65,565,000 6,827,000 ========== Amortization of deferred compensation 122,000 122,000 -- Termination of unvested restricted shares issued pursuant to employee stock award agreement 52,000 (1,000) -- Stock options exercised -- 173,000 -- Employee stock purchase plan shares issued -- 239,000 -- Warrants exercised -- 42,000 -- Net income -- 1,148,000 1,148,000 ------------ ------------- ---------- Balance July 31, 2002 (345,000) 67,288,000 1,148,000 ========== Amortization of deferred compensation 239,000 239,000 -- Shares issued in connection with private placement, net of related costs -- 38,191,000 -- Stock options exercised and related income tax benefit -- 1,691,000 -- Employee stock purchase plan shares issued -- 210,000 -- Warrants exercised -- 240,000 -- Net income -- 9,709,000 9,709,000 ------------ ------------- ---------- Balance July 31, 2003 $ (106,000) $ 117,568,000 $9,709,000 ============ ============= ==========
See accompanying notes to consolidated financial statements. F-5 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended July 31, 2003, 2002 and 2001
2003 2002 2001 ------------ ----------- ----------- Cash flows from operating activities: Net income $ 9,709,000 1,148,000 6,714,000 Adjustments to reconcile net income to net cash provided by operating activities: Loss on sale of marketable investment securities -- -- 990,000 Depreciation and amortization 6,258,000 5,230,000 6,575,000 Write-off ofthe telecommunications transmission segment includes an in-process research and development -- 2,192,000 -- Provisioncharge of $940,000.

F-24



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(13)Commitments and Contingencies

(a)Operating Leases
The Company is obligated under noncancellable operating lease agreements, including satellite lease expenditures relating to its mobile data communications segment contracts. At July 31, 2006, the future minimum lease payments under operating leases are as follows:
 2007$8,565,000 
 2008 2,901,000 
 2009 2,424,000 
 2010 2,061,000 
 2011 1,207,000 
 Thereafter 798,000 
  
 
 Total$17,956,000 
  
 
Lease expense charged to operations was $3,379,000, $3,018,000 and $2,866,000 in fiscal 2006, 2005 and 2004, respectively. Lease expense excludes satellite lease expenditures incurred of approximately $13,382,000, $11,854,000 and $11,233,000 in fiscal 2006, 2005 and 2004, respectively, relating to the Company’s mobile data communications segment. Satellite lease expenditures are allocated to individual contracts and expensed to cost of sales.
In December 1991, the Company and a partnership controlled by the Company’s Chairman, Chief Executive Officer and President entered into an agreement in which the Company leases from the partnership its Melville, New York production facility. The lease was for doubtful accounts 246,000 269,000 39,000 Provisionan initial term of ten years. In December 2001, the Company exercised its option for inventory reserves 2,521,000 1,698,000 264,000 Deferredan additional ten-year period. For financial reporting purposes, the lease for the extension period is an operating lease. The annual rentals, of approximately $532,000 for fiscal 2006, are subject to annual adjustments equal to the lesser of 5% or the change in the Consumer Price Index.
(b)United States Government Contracts
Certain of the Company’s contracts are subject to audit by applicable governmental agencies. Until such audits are completed, the ultimate profit on these contracts cannot be determined; however, it is management’s belief that the final contract settlements will not have a material adverse effect on the Company’s consolidated financial position or results of operations.
(c)Legal Proceedings
The Company is subject to certain legal actions, which arise in the normal course of business. Although the ultimate outcome of litigation is difficult to accurately predict, the Company believes that the outcome of these actions will not have a material effect on its consolidated financial position or results of operations.
During fiscal 2005, two of the Company’s leased facilities located in Florida experienced hurricane damage to both leasehold improvements and personal property. As of July 31, 2006, the Company has completed all restoration efforts relating to the hurricane damage and has recorded an $816,000 insurance recovery receivable and accrued a total of $2,240,000 for hurricane related costs. Despite a written agreement with the general contractor that the Company believes limits its liability for the cost of the repairs to the amount of insurance proceeds ultimately received from its insurance company, a dispute has arisen with the general contractor and a certain subcontractor over the subcontractor’s demand for payment directly from the Company (by virtue of a purported assignment of rights and other grounds) in an amount exceeding the insurance proceeds by $816,000, plus late charges, interest, fees, costs and certain treble damages. As a result of this dispute, the Company deposited $1,422,000, representing the balance of the insurance proceeds it has received, in its attorneys’ trust account and filed a complaint for declaratory judgment in the 9th Judicial Circuit Court for Orange County, Florida. The general contractor and the subcontractor have

F-25



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

filed separate and independent actions against the Company and its insurance company, all of which have now been consolidated under the Company’s original action. The Court has scheduled December 1, 2006 as the discovery cutoff and trial for February 13, 2007; however, these dates are subject to change as the litigation progresses. The Company does not expect that the outcome of this matter will have a material effect on its consolidated financial position.
(d)Employment Contracts
The Company has employment agreements with its Chairman of the Board, Chief Executive Officer and President (the “Chairman”), and its Executive Vice President and Chief Operating Officer (the “Chief Operating Officer”).
The Chairman’s agreement which was amended and restated in June 2003 provides, among other things, for his employment until July 31, 2008 at a current base compensation of $625,000 per annum and incentive compensation equal to 3.5% of the Company’s pre-tax income, not to exceed his base salary, plus such additional amounts, if any, as the Board of Directors may from time to time determine. The employment period is automatically extended for successive two-year periods unless either party gives notice of non-extension at least six months in advance of the scheduled termination date. The agreement also provides for payment to the Chairman in the event of a change in control of the Company. Such payment, as defined in the employment agreement, would include, among other items: (i) at least three times the Chairman’s Base Salary then in effect; plus, (ii) the amount of any unpaid Incentive Compensation, plus (iii) an amount equal to the number of shares of Common Stock of the Company subject to unexercised options (whether or not then exercisable) held by the Chairman multiplied by the intrinsic value of the options, in lieu of exercising such options.
The Chief Operating Officer’s agreement which was amended and restated in June 2003 provides, among other things, for his employment until July 31, 2007 at a current base compensation of $370,000 per annum and incentive compensation equal to 1.5% of the Company’s pre-tax income, not to exceed his base salary, plus such additional amounts, if any, as the Board of Directors may from time to time determine. The employment period is automatically extended for successive one-year periods unless either party gives notice of non-extension at least three months in advance of the scheduled termination date. The agreement also provides for payment, in certain circumstances, to the Chief Operating Officer in the event of a change in control of the Company. Such payment would be equal to 299% of the Chief Operating Officer’s Annual Base Salary then in effect.

(14)Stockholder Rights Plan

On December 15, 1998, the Company’s Board of Directors approved the adoption of a stockholder rights plan in which one stock purchase right (“Right”) was distributed as a dividend on each outstanding share of the Company’s common stock to stockholders of record at the close of business on January 4, 1999. Under the plan, the Rights will be exercisable only if triggered by a person or group’s acquisition of 15% or more of the Company’s common stock. If triggered, each Right, other than Rights held by the acquiring person or group, would entitle its holder to purchase a specified number of the Company’s common shares for 50% of their market value at that time. Unless a 15% acquisition has occurred, the Rights may be redeemed by the Company at any time prior to the termination date of the plan.
This Right to purchase common stock at a discount will not be triggered by a person or group’s acquisition of 15% or more of the common stock pursuant to a tender or exchange offer which is for all outstanding shares at a price and on terms that Comtech’s Board of Directors determines (prior to acquisition) to be adequate and in the best interest of the Company and its stockholders. The Rights will expire on December 15, 2008.

F-26



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(15)Intangible Assets

Intangible assets with finite lives arising from acquisitions as of July 31, 2006 and 2005 are as follows:
2006 2005 
   
 
 
Weighted Average
Amortization Period
 Gross
Carrying
Amount
 Accumulated
Amortization
 Gross
Carrying
Amount
 Accumulated
Amortization
 
 
 
 
 
 
 
Existing technology7.23 $12,456,000  9,494,000  12,456,000  7,741,000 
Proprietary, core and
     licensed technology
8.57  5,145,000  1,554,000  4,948,000  1,032,000 
Other5.23  834,000  532,000  834,000  342,000 
   
 
 
 
 
Total  $18,435,000  11,580,000  18,238,000  9,115,000 
   
 
 
 
 
Amortization expense for the years ended July 31, 2006, 2005 and 2004 was $2,465,000, $2,328,000 and $2,067,000, respectively. The estimated amortization expense for the fiscal years ending July 31, 2007, 2008, 2009, 2010 and 2011 is $2,213,000, $978,000, $952,000, $837,000 and $712,000, respectively.
The changes in carrying amount of goodwill by segment for the fiscal year ended July 31, 2005 is as follows:
 Telecommunications
Transmission
 Mobile Data
Communications
 RF Microwave
Amplifiers
 Total 
  
 
 
 
 
 Balance at July 31, 2004$8,865,000  1,434,000  8,422,000 $18,721,000 
 Acquisition of Tolt   3,571,000    3,571,000 
 Memotec adjustment (48,000)     (48,000)
  
 
 
 
 
 Balance at July 31, 2005$8,817,000  5,005,000  8,422,000 $22,244,000 
  
 
 
 
 
There were no changes in the carrying amount of goodwill in fiscal 2006.

(16)Recent Accounting Pronouncements

On September 13, 2006, the SEC issued Staff Accounting Bulletin No. 108 (“SAB 108”) which provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. The guidance is applicable for the Company’s fiscal 2007. The Company is not yet in a position to determine what, if any, effect SAB No. 108 will have on its consolidated financial statements.
In July 2006, the FASB released FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 clarifies the accounting and reporting for uncertainties in income tax expense (benefit) (2,002,000) 300,000 580,000 Changeslaw and prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in assets and liabilities, netincome tax returns. FIN 48 prescribes a two-step evaluation process for tax positions. The first step is recognition based on a determination of whether it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The second step is to measure a tax position that meets the more-likely-than-not threshold. The tax position is measured at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. If a tax position does not meet the more-likely-than-not recognition threshold, the benefit of that position is not recognized in the financial statements. FIN 48 is effective beginning in the Company’s first quarter of fiscal 2008. The cumulative effects, if any, of applying FIN 48 will be recorded as an adjustment to retained earnings as of the beginning of the period of adoption. The Company has commenced the process of evaluating the potential effects of acquisitions: Restricted cash securing letterFIN 48 on our consolidated financial statements and is not yet in a position to determine what, if any, effects FIN 48 will have on its consolidated financial statements.

F-27



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

In June 2006, the EITF reached a consensus on EITF 06-3, “How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement” (“EITF 06-3”). EITF 06-3 provides that taxes imposed by a governmental authority on a revenue producing transaction between a seller and a customer should be shown in the income statement on either a gross or a net basis, based on the entity’s accounting policy, which should be disclosed pursuant to APB Opinion No. 22, “Disclosure of credit obligations (4,288,000) -- -- Accounts receivable 493,000 300,000 (3,059,000) Inventories (2,793,000) 1,199,000 (8,132,000) Prepaid expensesAccounting Policies.” If such taxes are significant, and other current assets (500,000) 451,000 (568,000) Other assets 69,000 140,000 (335,000) Accounts payable 1,998,000 (2,030,000) (246,000) Accrued expenses and other current liabilities 3,540,000 (2,820,000) (2,589,000) Customer advances and deposits 318,000 84,000 743,000 Deferred service revenue 6,817,000 2,270,000 2,073,000 Incomeare presented on a gross basis, the amounts of those taxes payable 4,475,000 (838,000) 1,859,000 Other liabilities (58,000) (201,000) (108,000) ------------ ----------- ----------- Net cash provided by operating activities 26,803,000 9,392,000 4,800,000 ------------ ----------- ----------- Cash flows from investing activities: Purchasesshould be disclosed. EITF 06-3 will be effective beginning with the Company’s third quarter of marketable investment securities -- -- (1,330,000) Proceeds from salefiscal 2007. The Company is currently evaluating the impact EITF 06-3 will have on the presentation of marketable securities -- -- 19,221,000 Purchasesits consolidated financial statements.
In June 2006, the EITF reached a consensus on EITF 05-1, “Accounting for the Conversion of property, plant and equipment (4,317,000) (3,081,000) (2,776,000) Purchasean Instrument that Becomes Convertible Upon the Issuer’s Exercise of technology licenses (75,000) (91,000) (563,000) Payment for business acquisitions (440,000) (7,055,000) (12,720,000) Cash received in connection with business acquisitions 551,000 -- 9,038,000 ------------ ----------- ----------- Net cash (used in) provided by investing activities (4,281,000) (10,227,000) 10,870,000 ------------ ----------- ----------- Cash flows from financing activities: Borrowings under loan agreement -- -- 10,000,000 Repayment of borrowings under loan agreement (28,683,000) (19,217,000) (2,100,000) Principal payments on capital lease obligations (1,064,000) (1,097,000) (718,000) Proceeds froma Call Option” (“EITF 05-1”). This guidance requires that the issuance of common stock, net 38,191,000 -- -- Proceeds from exercisesequity securities to settle an instrument (pursuant to the instrument’s original conversion terms) that becomes convertible upon the issuer’s exercise of stock options, warrantsa call option should be accounted for as a conversion if the debt instrument contained a substantive conversion feature as of its issuance date (i.e., no gain or loss should be recognized related to the equity securities issued to settle the instrument). Additionally, the issuance of equity securities to settle an instrument that, as of its issuance date, does not contain a substantive conversion feature should be accounted for as a debt extinguishment and employee stock purchase plan shares 2,141,000 454,000 766,000 ------------ ----------- ----------- Net cash provided by (used in) financing activities 10,585,000 (19,860,000) 7,948,000 ------------ ----------- -----------
(Continued) F-6 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended July 31, 2003, 2002 and 2001
2003 2002 2001 ----------- ----------- ---------- Net increase (decrease) in cash and cash equivalents $33,107,000 (20,695,000) 23,618,000 Cash and cash equivalents at beginning of period 15,510,000 36,205,000 12,587,000 ----------- ----------- ---------- Cash and cash equivalents at end of period $48,617,000 15,510,000 36,205,000 =========== =========== ========== Supplemental cash flow disclosure Cash paid during the period for: Interest $ 2,884,000 3,099,000 3,898,000 =========== =========== ========== Income taxes $ 2,096,000 237,000 1,425,000 =========== =========== ========== Non cash investing activities: Acquisition of property, equipment and technology license through capital leases $ -- 199,000 2,456,000 =========== =========== ==========
See accompanying notes to consolidated financial statements. F-7 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements July 31, 2003 and 2002 (1) Summary of Significant Accounting and Reporting Policies (a) Principles of Consolidation The accompanying consolidated financial statements include the accounts of Comtech Telecommunications Corp. and its subsidiaries (the Company), all of which are wholly owned. All significant intercompany balances and transactions have been eliminated in consolidation. (b) Nature of Business We design, develop, produce and market innovative products, systems and services for advanced communications solutions. The Company's business is highly competitive and characterized by rapid technological change. The Company's growth and financial position depends, among other things, on its ability to keep pace with such changes and developments and to respond to the sophisticated requirements of an increasing variety of electronic equipment users. Many of the Company's competitors are substantially larger, have significantly greater financial, marketing and operating resources and broader product lines than does the Company. A significant technological breakthrough by others, including smaller competitors or new companies, could have a material adverse effect on the Company's business. In addition, certain of the Company's customers have technological capabilities in the Company's product areas and could choose to replace the Company's products with their own. International sales expose the Company to certain risks, including barriers to trade, fluctuations in foreign currency exchange rates (which may make the Company's products less price competitive), political and economic instability, availability of suitable export financing, export license requirements, tariff regulations, and other United States and foreign regulations that may apply to the export of the Company's products, as well as the generally greater difficulties of doing business abroad. The Company attempts to reduce the risk of doing business in foreign countries by seeking contracts denominated in U.S. dollars, advance payments and irrevocable letters of credit in its favor. (c) Revenue Recognition Revenue not associated with long-term contracts is recognized when the earnings process is complete, upon shipment or customer acceptance. Revenue on long-term contracts is accounted for under the percentage-of-completion method of accounting. These contracts relate to the design, development, manufacturing or modification of complex electronic equipment to customer's specifications or services relating to the performance of such contracts. Revenue recognition on long-term contracts under the percentage-of-completion method is based on the relationship of total costs incurred to total projected costs, or, alternatively, based on output measures, such as units delivered. Provision for anticipated losses on uncompleted contracts is made in the period in which such losses are determined. The Company has historically demonstrated an ability to estimate contract revenues and expenses in applying the percentage-of-completion method of accounting. However, there exist risks and uncertainties in estimating future revenues and expenses, particularly on larger or longer-term contracts. Changes to such estimates could have a material effect on the Company's consolidated financial position and results of operations. Revenue recognized in excess of amounts billable under long-term contracts accounted for under the percentage-of-completion method of accounting are recorded as unbilled receivables in the accompanying consolidated balance sheets. Unbilled receivables are billable upon various events, including the F-8 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued attainment of performance milestones, delivery of hardware, submission of progress bills based on time and materials, or completion of the contract. In the case of our mobile data communications segment's contract with the U.S. Army, we utilize the percentage-of-completion method and estimate total contract revenues, which are subject to annual funding appropriations. However, we do not recognize revenue, and record unbilled receivables, until we receive fully funded orders. Most government contracts have termination for convenience clauses that provide the customer with the right to terminate the contract at any time. Historically, the Company has not experienced material contract terminations or write-offs of unbilled receivables. The Company addresses customer acceptance provisions in assessing its ability to perform its contractual obligations under long-term contracts. Historically, the Company has been able to perform on its long-term contracts. (d) Cash and Cash Equivalents Cash equivalents are temporary cash investments with a maturity of three months or less when purchased. Cash equivalents, primarily U.S. treasury securities with a maturity of three months or less, at July 31, 2003 and 2002 amounted to $40,981,000 and $8,990,000, respectively. These investments are carried at cost, which approximates market. (e) Statement of Cash Flows The Company acquired equipment and a technology license financed by capital leases in the amounts of $199,000, and $2,456,000 in 2002 and 2001, respectively. (f) Marketable Investment Securities Marketable investment securities at July 31, 2000 consisted of a mutual fund investment classified as available-for-sale and recorded at fair value. Such investment securities were sold in fiscal 2001. Unrealized holding gains and losses, net of the related tax effect on these available-for-sale securities, are excluded from earnings and are reported as a component of accumulated other comprehensive income until realized. Realized gains and losses from the sale of available-for-sales securities are determined on a specific identification basis. (g) Inventories Work-in-process inventory reflects all accumulated production costs, which are comprised of direct production costs and overhead, reduced by amounts attributable to units delivered. These inventories are reduced to their estimated net realizable value by a charge to cost of sales in the period such excess costs are determined. Raw materials and components and finished goods inventory are stated at the lower of cost or market, computed on the first-in, first-out ("FIFO") method. (h) Long-Lived Assets The Company's plant and equipment, which are recorded at cost, are depreciated or amortized over their estimated useful lives (building and improvements - 40 years, equipment - three to eight years) under the straight-line method. Capitalized values of properties under leases are amortized over the life of the lease or the estimated life of the asset, whichever is less. Goodwill represents the excess cost of a business acquisition over the fair value of the net assets acquired. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other F-9 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Intangible Assets", goodwill is no longer amortized. See Note 14 for further discussion regarding amortization of goodwill. The Company periodically, at least on an annual basis, reviews goodwill, considering factors such as projected cash flows and revenue and earnings multiples, to determine whether the carrying value of the goodwill is impaired. If the goodwill is deemed to be impaired, the difference between the carrying amount reflected in the financial statements and the estimated fair value is recognized as an expense in the period in which the impairment occurs. The Company defines its reporting units to be the same as its business segments. The Company assesses the recoverability of the carrying value of its other long-lived assets, including identifiable intangible assets with finite useful lives, whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. The Company evaluates the recoverability of such assets based upon the expectations of undiscounted cash flows from such assets. If the sum of the expected future undiscounted cash flows were less than the carrying amount of the asset, a loss would be recognized for the difference between the fair value and the carrying amount. (i) Research and Development Costs The Company charges research and development costs to operations as incurred, except in those cases in which such costs are reimbursable under customer-funded contracts. In fiscal 2003, 2002 and 2001, the Company was reimbursed by customers for such activities in the amount of $3,676,000, $2,029,000 and $1,656,000 respectively. (j) Income Taxes Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. (k) Earnings Per Share The Company calculates earnings per share ("EPS") in accordance with SFAS No. 128, "Earnings per Share". Basic EPS is computed based on the weighted average number of shares outstanding. Diluted EPS reflects the dilution from potential common stock issuable pursuant to the exercises of stock options and warrants, if dilutive, outstanding during each period. Stock options to purchase 713,000, 642,000 and 157,000 shares for fiscal 2003, 2002 and 2001, respectively, were not included in the EPS calculation because their effect would have been anti-dilutive. (l) Financial Instruments The Company believes that the book value of its current monetary assets and liabilities approximates fair value as a result of the short-term nature of such assets and liabilities. The Company further believes that the fair market value of its capital lease obligations does not differ materially from the carrying value. (m) Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities, and disclosure of contingent assets and liabilities, at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Actual results may differ from those estimates. F-10 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued (n) Reclassifications Certain reclassifications have been made to previously reported consolidated financial statements to conform to the fiscal 2003 presentation. (o) Accounting for Stock-Based Compensation The Company accounts for its stock option plans under the intrinsic value method of APB Opinion No. 25, and as a result no compensation cost has been recognized. Had compensation cost for these plans been determined consistent with SFAS No. 123, the Company's net income and income per share would have been reduced to the following pro forma amounts:
2003 2002 2001 ---------- ---------- ---------- Net income, as reported $9,709,000 1,148,000 6,714,000 Less: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (629,000) (520,000) (896,000) ---------- ---------- ---------- Pro forma net income $9,080,000 628,000 5,818,000 ========== ========== ========== Net income per share: As reported Basic $ 0.85 0.10 0.61 Diluted $ 0.80 0.10 0.57 Pro forma Basic $ 0.79 0.06 0.53 Diluted $ 0.74 0.05 0.49
The per share weighted average fair value of stock options granted during 2003, 2002 and 2001 was $2.83, $4.32 and $6.05, respectively, on the date of grant. These fair values were determined using the Black Scholes option-pricing model with the following weighted average assumptions: 2003 - expected dividend yield of 0%, risk free interest rate of 3.32%, expected volatility of 56.59% and an expected option life of 5 years; 2002 - expected dividend yield of 0%, risk free interest rate of 4.29%, expected volatility of 54.10%, and an expected option life of 5 years; 2001 - expected dividend yield of 0%, risk-free interest rate of 5.16%, expected volatility of 72.94% and an expected option life of 5 years. (p) Comprehensive Income The Company has adopted SFAS No. 130, "Reporting Comprehensive Income," which requires companies to report all changes in equity during a period, except those resulting from investment by owners and distribution to owners, for the period in which they are recognized. Comprehensive income is the total of net income and all other non-owner changes in equity (or other comprehensive income) such as unrealized gains/losses on securities classified as available-for-sale, foreign currency translation adjustments and minimum pension liability adjustments. (2) Acquisitions In April 2001, the Company acquired certain assets and product lines of MPD Technologies, Inc. for $12,718,000 including transaction costs of $764,000. The acquisition was accounted for under the purchase method of accounting. Accordingly, the Company recorded the assets purchased and the liabilities assumed based upon their estimated fair values at the date of acquisition. The excess of the purchase price over the fair values of the net assets acquired was approximately $9,791,000 of which $1,800,000 was allocated to customer base which was being amortized over eight years, $1,800,000 was allocated to existing technology which is being amortized over six years and $6,191,000 was allocated to goodwill. See Note 14 for discussion regarding the Company's adoption of SFAS No. 142, including the amortization of goodwill. The acquisition cost was allocated as follows (in thousands): F-11 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Historical book value of net assets acquired $ 2,927 Adjustments to record assets and liabilities at fair value: Fair value of existing technology 1,800 Fair value of customer base 1,800 Excess of the purchase price over the fair value of netthe equity securities issued should be considered a component of the reacquisition price of the debt. The guidance is effective for all conversions within its scope that result from the exercise of call options in interim or annual reporting periods beginning after June 28, 2006. In the future, if the Company issues common stock pursuant to the conversion terms to settle its 2% convertible senior notes, it would not recognize a gain or loss because the notes have substantive conversion features as defined by EITF 05-1.
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections,” which changes the requirements for the accounting and reporting of a change in accounting principle (“SFAS No. 154”). SFAS No. 154 applies to all voluntary changes in accounting principles, as well as to changes required by an accounting pronouncement that does not include specific transition provisions. SFAS No. 154 eliminates the requirement to include the cumulative effect of changes in accounting principle in the income statement and instead requires that changes in accounting principle be retroactively applied. A change in accounting estimate continues to be accounted for in the period of change and future periods if necessary. A correction of an error continues to be reported by restating prior period financial statements. SFAS No. 154 is effective for the Company’s first quarter of fiscal 2007.
In March 2005, the FASB issued interpretation FIN No. 47, “Accounting for Conditional Asset Retirement Obligations (“FIN 47”). FIN 47 clarifies that the term conditional asset retirement obligation as used in SFAS 143, Accounting for Asset Retirement Obligations, refers to a legal obligation to perform an asset retirement activity in which the timing and (or) method of settlement are conditional on a future event that may or may not be within the control of the entity. The Company adopted FIN 47 in fiscal 2006 and it had no material effect on the Company’s consolidated financial condition or results of operations.

F-28



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(17)  Consolidating Financial Information
The consolidating financial information presented below reflects information regarding the Parent, the Guarantor Subsidiaries and the Non-Guarantor Subsidiary of the Company’s 2.0% convertible senior notes. Tolt is included in the guarantor column for all periods presented. The Parent’s expenses associated with supporting the operations of its subsidiaries are allocated to the respective Guarantor Subsidiaries and Non–Guarantor Subsidiary. The consolidating financial information presented herein is not utilized by the chief operating decision-maker in making operating decisions and assessing performance.
The following reflects the consolidating balance sheet as of July 31, 2006:
  Parent  Guarantor
Subsidiaries
  Non-Guarantor
Subsidiary
  Consolidating
Entries
  Consolidated
Total
 
 
 
 
 
 
 
Assets               
Current assets:               
    Cash and cash equivalents$238,298,000  9,949,000  3,340,000   $251,587,000 
    Restricted cash   1,003,000      1,003,000 
    Accounts receivable, net   66,025,000  4,022,000    70,047,000 
    Inventories, net   61,043,000      61,043,000 
    Prepaid expenses and other current assets 1,101,000  5,565,000  512,000    7,178,000 
    Deferred tax asset - current 551,000  7,040,000      7,591,000 
 
 
 
 
 
 
                     Total current assets 239,950,000  150,625,000  7,874,000    398,449,000 
  
Property, plant and equipment, net 914,000  23,295,000  523,000    24,732,000 
Investment in subsidiaries 191,046,000  5,496,000    (196,542,000)  
Goodwill   21,297,000  947,000    22,244,000 
Intangibles with finite lives, net   5,933,000  922,000    6,855,000 
Deferred tax asset – non-current     174,000  (174,000)  
Deferred financing costs, net 2,449,000        2,449,000 
Other assets, net 56,000  459,000  22,000    537,000 
Intercompany receivables   59,824,000    (59,824,000)  
 
 
 
 
 
 
                     Total assets$434,415,000  266,929,000  10,462,000  (256,540,000)$455,266,000 
 
 
 
 
 
 
  
Liabilities and Stockholders’ Equity               
Current liabilities:               
    Accounts payable$390,000  27,497,000  450,000   $28,337,000 
    Accrued expenses and other current liabilities 6,683,000  32,806,000  1,741,000    41,230,000 
    Customer advances and deposits   3,502,000  42,000    3,544,000 
    Deferred service revenue   9,896,000      9,896,000 
    Current installments of other obligations   154,000      154,000 
    Interest payable 1,050,000        1,050,000 
    Income taxes payable 4,428,000    824,000    5,252,000 
 
 
 
 
 
 
                     Total current liabilities 12,551,000  73,855,000  3,057,000    89,463,000 
  
Convertible senior notes 105,000,000        105,000,000 
Other obligations, less current installments   243,000      243,000 
Deferred tax liability – non-current 4,707,000  1,785,000  ���  (174,000) 6,318,000 
Intercompany payables 57,915,000    1,908,000  (59,823,000)  
 
 
 
 
 
 
                     Total liabilities 180,173,000  75,883,000  4,965,000  (59,997,000) 201,024,000 
  
Commitments and contingencies               
  
Stockholders’ equity:               
    Preferred stock          
    Common stock 2,305,000  4,000    (4,000) 2,305,000 
    Additional paid-in capital 139,487,000  81,410,000  5,187,000  (86,597,000) 139,487,000 
    Retained earnings 112,635,000  109,632,000  310,000  (109,942,000) 112,635,000 
 
 
 
 
 
 
  254,427,000  191,046,000  5,497,000  (196,543,000) 254,427,000 
  
Less:               
    Treasury stock (185,000)       (185,000)
 
 
 
 
 
 
         Total stockholders’ equity 254,242,000  191,046,000  5,497,000  (196,543,000) 254,242,000 
 
 
 
 
 
 
         Total liabilities and stockholders’  equity$434,415,000  266,929,000  10,462,000  (256,540,000)$455,266,000 
 
 
 
 
 
 

F-29



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(17)  Consolidating Financial Information (continued)
The following reflects the consolidating balance sheet as of July 31, 2005:
  Parent  Guarantor
Subsidiaries
  Non-Guarantor
Subsidiary
  Consolidating
Entries
  Consolidated
Total
 
 
 
 
 
 
 
                   Assets               
Current assets:               
    Cash and cash equivalents$212,579,000  1,111,000  723,000   $214,413,000 
    Restricted cash 31,000  1,003,000      1,034,000 
    Accounts receivable, net   54,807,000  1,245,000    56,052,000 
    Inventories, net   45,103,000      45,103,000 
    Prepaid expenses and other current assets 888,000  3,303,000  196,000    4,387,000 
    Deferred tax asset - current 592,000  7,500,000      8,092,000 
 
 
 
 
 
 
                         Total current assets 214,090,000  112,827,000  2,164,000    329,081,000 
  
Property, plant and equipment, net 474,000  17,925,000  284,000    18,683,000 
Investment in subsidiaries 149,889,000  4,040,000    (153,929,000)  
Goodwill   21,297,000  947,000    22,244,000 
Intangibles with finite lives, net   8,024,000  1,099,000    9,123,000 
Deferred tax asset – non-current     66,000  (66,000)  
Deferred financing costs, net 2,995,000        2,995,000 
Other assets, net   265,000  12,000    277,000 
Intercompany receivables   53,591,000  50,000  (53,641,000)  
 
 
 
 
 
 
                         Total assets$367,448,000  217,969,000  4,622,000  (207,636,000)$382,403,000 
 
 
 
 
 
 
  
Liabilities and Stockholders’ Equity               
Current liabilities:               
    Accounts payable$351,000  23,105,000  121,000   $23,577,000 
    Accrued expenses and other current liabilities 5,502,000  28,534,000  461,000    34,497,000 
    Customer advances and deposits   5,282,000      5,282,000 
    Deferred service revenue   8,210,000      8,210,000 
    Current installments of other obligations   235,000      235,000 
    Interest payable 1,050,000        1,050,000 
    Income taxes payable 1,540,000        1,540,000 
 
 
 
 
 
 
                         Total current liabilities 8,443,000  65,366,000  582,000    74,391,000 
  
Convertible senior notes 105,000,000        105,000,000 
Other obligations, less current installments   396,000      396,000 
Deferred tax liability – non-current 3,735,000  2,318,000    (66,000) 5,987,000 
Intercompany payables 53,641,000      (53,641,000)  
 
 
 
 
 
 
                         Total liabilities 170,819,000  68,080,000  582,000  (53,707,000) 185,774,000 
  
Commitments and contingencies               
  
Stockholders’ equity:               
    Preferred stock          
    Common stock 2,278,000  4,000    (4,000) 2,278,000 
    Additional paid-in capital 127,170,000  81,410,000  5,187,000  (86,597,000) 127,170,000 
    Retained earnings (deficit) 67,366,000  68,475,000  (1,147,000) (67,328,000) 67,366,000 
 
 
 
 
 
 
  196,814,000  149,889,000  4,040,000  (153,929,000) 196,814,000 
  
Less:               
    Treasury stock (185,000)       (185,000)
 
 
 
 
 
 
         Total stockholders’ equity 196,629,000  149,889,000  4,040,000  (153,929,000) 196,629,000 
 
 
 
 
 
 
         Total liabilities and stockholders’ equity$367,448,000  217,969,000  4,622,000  (207,636,000)$382,403,000 
 
 
 
 
 
 

F-30



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(17)  Consolidating Financial Information (continued)
The following reflects the consolidating statement of operations for the year ended July 31, 2006:
  Parent  Guarantor
Subsidiaries
  Non-Guarantor
Subsidiary
  Consolidating
Entries
  Consolidated
Total
 
 
 
 
 
 
 
Net sales$  377,003,000  14,971,000  (463,000)$391,511,000 
Cost of sales   227,042,000  5,631,000  (463,000) 232,210,000 
 
 
 
 
 
 
    Gross Profit   149,961,000  9,340,000    159,301,000 
  
Expenses:               
    Selling, general and administrative   61,467,000  5,604,000    67,071,000 
    Research and development   24,392,000  1,442,000    25,834,000 
    Amortization of intangibles   2,288,000  177,000    2,465,000 
 
 
 
 
 
 
    88,147,000  7,223,000    95,370,000 
 
 
 
 
 
 
  
Operating income (loss)   61,814,000  2,117,000    63,931,000 
  
Other expense (income):               
    Interest expense 2,646,000  41,000      2,687,000 
    Interest (income) (9,193,000) (60,000) 10,000    (9,243,000)
 
 
 
 
 
 
  
Income before provision for income taxes and equity
     in undistributed earnings of subsidiaries
 6,547,000  61,833,000  2,107,000    70,487,000 
Provision for income taxes 2,435,000  22,133,000  650,000    25,218,000 
 
 
 
 
 
 
Net earnings (loss) before equity in undistributed
    earnings of subsidiaries
 4,112,000  39,700,000  1,457,000    45,269,000 
Equity in undistributed earnings of subsidiaries 41,157,000  1,457,000    (42,614,000)  
 
 
 
 
 
 
  
Net income$45,269,000  41,157,000  1,457,000  (42,614,000)$45,269,000 
 
 
 
 
 
 
The following reflects the consolidating statement of operations for the year ended July 31, 2005:
  Parent  Guarantor
Subsidiaries
  Non-Guarantor
Subsidiary
  Consolidating
Entries
  Consolidated
Total
 
 
 
 
 
 
 
Net sales$  301,749,000  6,334,000  (193,000)$307,890,000 
Cost of sales   178,099,000  2,618,000  (193,000) 180,524,000 
 
 
 
 
 
 
    Gross Profit   123,650,000  3,716,000    127,366,000 
  
Expenses:               
    Selling, general and administrative   48,710,000  3,109,000    51,819,000 
    Research and development   20,261,000  894,000    21,155,000 
    Amortization of intangibles   2,076,000  252,000    2,328,000 
 
 
 
 
 
 
    71,047,000  4,255,000    75,302,000 
 
 
 
 
 
 
  
Operating income (loss)   52,603,000  (539,000)   52,064,000 
                
Other expense (income):               
    Interest expense 2,646,000  33,000      2,679,000 
    Interest (income) (4,070,000) (14,000) 12,000    (4,072,000)
 
 
 
 
 
 
  
Income (loss) before provision (benefit)  for income
   taxes and equity in  undistributed earnings (loss)
   of subsidiaries    
 1,424,000  52,584,000  (551,000)   53,457,000 
Provision (benefit) for income taxes 530,000  16,318,000  (46,000)   16,802,000 
 
 
 
 
 
 
Net earnings (loss) before equity in undistributed
   earnings  (loss) of subsidiaries    
 894,000  36,266,000  (505,000)   36,655,000 
Equity in undistributed earnings (loss) of
   subsidiaries
 35,761,000  (505,000)   (35,256,000)  
 
 
 
 
 
 
  
Net income (loss)$36,655,000  35,761,000  (505,000) (35,256,000)$36,655,000 
 
 
 
 
 
 

F-31



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(17)  Consolidating Financial Information (continued)
The following reflects the consolidating statement of operations for the year ended as of July 31, 2004:
Parent Guarantor
Subsidiaries
 Non-Guarantor
Subsidiary
 Consolidating
Entries
 Consolidated
Total
 
 
 
 
 
 
 
Net sales$  222,132,000 1,258,000  $   223,390,000 
Cost of sales   135,418,000 440,000  135,858,000 
 
 
 
 
 
 
    Gross Profit   86,714,000 818,000  87,532,000 
  
Expenses:            
    Selling, general and administrative   35,472,000 544,000  36,016,000 
    Research and development   15,709,000 198,000  15,907,000 
    In-process research and development    940,000  940,000 
    Amortization of intangibles   1,998,000 69,000  2,067,000 
      
 
 
 
 
 
 
    53,179,000 1,751,000  54,930,000 
 
 
 
 
 
 
  
Operating income (loss)   33,535,000 (933,000) 32,602,000 
  
Other expense (income):            
    Interest expense 1,370,000  61,000 (6,000) 1,425,000 
    Interest (income) (914,000) (7,000)  (921,000)
 
 
 
 
 
 
  
Income (loss) before provision (benefit)
    for income taxes and equity in
    undistributed earnings (loss) of
    subsidiaries
 (456,000) 33,481,000 (927,000) 32,098,000 
Provision (benefit) for income taxes (146,000) 10,702,000 (285,000) 10,271,000 
 
 
 
 
 
 
Net earnings (loss) before equity in undistributed
    earnings (loss) of subsidiaries
 (310,000) 22,779,000 (642,000) 21,827,000 
Equity in undistributed earnings (loss) of
    subsidiaries
 22,137,000  (642,000) (21,495,000) 
 
 
 
 
 
 
  
Net income (loss)$21,827,000  22,137,000 (642,000)(21,495,000)$     21,827,000 
 
 
 
 
 
 

F-32



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(17)  Consolidating Financial Information (continued)

The following reflects the consolidating statement of cash flows for the year ended July 31, 2006:
  Parent  Guarantor
Subsidiaries
  Non-Guarantor
Subsidiary
  Consolidating
Entries
  Consolidated
Total
 
 
 
 
 
 
 
Cash flows from operating activities:          
Net income$45,269,000  41,157,000  1,457,000  (42,614,000)$45,269,000 
  Adjustments to reconcile net income to  net cash
        provided by operating activities:
          
     Depreciation and amortization of  property,  plant
          and equipment
 111,000  6,019,000  112,000    6,242,000 
     Amortization of intangible assets with finite lives   2,289,000  176,000    2,465,000 
     Amortization of stock-based compensation 2,176,000  3,495,000  10,000    5,681,000 
     Amortization of deferred financing costs 546,000        546,000 
     Loss on disposal of property, plant and equipment   35,000  1,000    36,000 
     Provision for doubtful accounts   556,000  192,000    748,000 
     Provision for excess and obsolete inventory   1,981,000  49,000    2,030,000 
     Excess income tax benefit from  stock option
           exercises
 (4,065,000)       (4,065,000)
     Deferred income tax expense (benefit) 1,013,000  (74,000) (107,000)   832,000 
     Equity in undistributed earnings of  subsidiaries (41,157,000) (1,457,000)   42,614,000   
     Intercompany accounts 7,876,000  (9,822,000) 1,946,000     
     Changes in assets and liabilities,  net of effects of
          acquisition:
               
       Restricted cash securing letter of credit obligations 31,000        31,000 
       Accounts receivable   (11,775,000) (2,968,000)   (14,743,000)
       Inventories   (17,860,000) (49,000)   (17,909,000)
       Prepaid expenses and other assets (213,000) (2,262,000) (316,000)   (2,791,000)
       Other assets (56,000) (195,000) (9,000)   (260,000)
       Accounts payable 39,000  4,392,000  329,000    4,760,000 
       Accrued expenses and other current liabilities 1,181,000  5,271,000  1,281,000    7,733,000 
       Customer advances and deposits   (1,780,000) 42,000    (1,738,000)
       Deferred service revenue   1,686,000      1,686,000 
       Interest payable          
       Income taxes payable 6,953,000    824,000    7,777,000 
 
 
 
 
 
 
     Net cash provided by operating activities 19,704,000  21,656,000  2,970,000    44,330,000 
 
 
 
 
 
 
  
Cash flows from investing activities:               
  Purchases of property, plant and  equipment (587,000) (11,387,000) (353,000)   (12,327,000)
  Purchase of other intangibles with  finite lives   (197,000)     (197,000)
  Payments for business acquisition   (1,000,000)     (1,000,000)
 
 
 
 
 
 
     Net cash used in investing  activities (587,000) (12,584,000) (353,000)   (13,524,000)
 
 
 
 
 
 
  
Cash flows from financing activities:               
  Principal payments on other obligations   (234,000)     (234,000)
  Excess income tax benefit from stock option exercises
 4,065,000        4,065,000 
  Proceeds from exercises of stock options 1,863,000        1,863,000 
  Proceeds from issuance of employee stock purchase
        plan shares
 674,000        674,000 
 
 
 
 
 
 
     Net cash provided by (used in) financing activities 6,602,000  (234,000)     6,368,000 
 
 
 
 
 
 
  
  Net increase in cash and cash equivalents 25,719,000  8,838,000  2,617,000    37,174,000 
  Cash and cash equivalents at beginning of  period 212,579,000  1,111,000  723,000    214,413,000 
 
 
 
 
 
 
  Cash and cash equivalents at end of  period$238,298,000  9,949,000  3,340,000   $251,587,000 
 
 
 
 
 
 

F-33



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(17)  Consolidating Financial Information (continued)

The following reflects the consolidating statement of cash flows for the year ended July 31, 2005:
Parent Guarantor
Subsidiaries
 Non-Guarantor
Subsidiary
 Consolidating
Entries
 Consolidated
Total
 
 
 
 
 
 
 
Cash flows from operating activities:          
   Net income (loss)$36,655,000  35,761,000  (505,000) (35,256,000)$36,655,000 
   Adjustments to reconcile net income (loss) to net
           cash provided by operating activities:
          
      Depreciation and amortization of property,
           plant and equipment
 145,000  5,087,000  83,000    5,315,000 
      Amortization of intangible assets with finite lives   2,076,000  252,000    2,328,000 
      Amortization of deferred financing costs 546,000        546,000 
      Loss on disposal of property, plant and
             equipment
   284,000      284,000 
      Provision for doubtful accounts   287,000      287,000 
      Provision for excess and obsolete inventory   2,081,000  17,000    2,098,000 
      Income tax benefit from stock option exercises 9,896,000        9,896,000 
      Deferred income tax expense 2,164,000  604,000      2,768,000 
      Equity in undistributed earnings (loss) of
             subsidiaries
 (35,761,000) 505,000    35,256,000   
      Intercompany accounts 33,407,000  (34,162,000) 755,000     
      Changes in assets and liabilities, net of effects
              of  acquisition:
          
         Restricted cash securing letter of credit
             obligations
 10,000  3,010,000      3,020,000 
         Accounts receivable   (12,674,000) (663,000)   (13,337,000)
         Inventories   (7,267,000) 31,000    (7,236,000)
         Prepaid expenses and other assets (478,000) (1,731,000) (164,000)   (2,373,000)
         Other assets   74,000  (5,000)   69,000 
         Accounts payable 22,000  13,914,000  75,000    14,011,000 
         Accrued expenses and other current liabilities 1,884,000  10,385,000  127,000  136,000  12,532,000 
         Customer advances and deposits   (2,008,000)     (2,008,000)
         Deferred service revenue   (5,506,000)     (5,506,000)
         Interest payable (23,000)       (23,000)
         Income taxes payable (3,272,000)       (3,272,000)
 
 
 
 
 
 
      Net cash provided by operating activities 45,195,000  10,720,000  3,000  136,000  56,054,000 
 
 
 
 
 
 
  
Cash flows from investing activities:          
   Purchases of property, plant and equipment (64,000) (9,263,000) (205,000)   (9,532,000)
   Purchase of other intangibles with finite lives   (75,000)     (75,000)
   Payments for business acquisition (2,735,000) (2,735,000)   2,735,000  (2,735,000)
 
 
 
 
 
 
      Net cash used in investing activities (2,799,000) (12,073,000) (205,000) 2,735,000  (12,342,000)
 
 
 
 
 
 
  
Cash flows from financing activities:          
   Proceeds from issuance of stock in subsidiary   2,735,000    (2,735,000)  
   Principal payments on other obligations   (271,000)     (271,000)
   Proceeds from exercises of stock options and
         warrants
 7,160,000        7,160,000 
   Proceeds from issuance of employee stock
         purchase plan shares
 520,000        520,000 
 
 
 
 
 
 
      Net cash provided by (used in) financing
         activities
 7,680,000  2,464,000    (2,735,000) 7,409,000 
 
 
 
 
 
 
  
   Net increase (decrease) in cash and cash
         equivalents
 50,076,000  1,111,000  (202,000) 136,000  51,121,000 
   Cash and cash equivalents at beginning of period 162,503,000    925,000  (136,000) 163,292,000 
 
 
 
 
 
 
   Cash and cash equivalents at end of period$212,579,000  1,111,000  723,000   $214,413,000 
 
 
 
 
 
 

F-34



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(17)  Consolidating Financial Information (continued)

The following reflects the consolidating statement of cash flows for the year ended July 31, 2004:
Parent Guarantor
Subsidiaries
 Non-Guarantor
Subsidiary
 Consolidating
Entries
 Consolidated
Total
 
 
 
 
 
 
 
Cash flows from operating activities:          
   Net income (loss)$21,827,000  22,137,000  (642,000) (21,495,000)$21,827,000 
   Adjustments to reconcile net income (loss) to
          net cash provided by operating activities:
          
      Depreciation and amortization of property, plant
          and equipment
 97,000  4,236,000  8,000    4,341,000 
      Amortization of intangible assets with finite
          lives
   1,997,000  70,000     2,067,000 
      Amortization of deferred financing costs 280,000        280,000 
      Amortization of deferred compensation 106,000        106,000 
      Loss on disposal of property, plant and
          equipment
   91,000      91,000 
      Write off of in process research and
          development
     940,000    940,000 
      Provision for doubtful accounts   147,000      147,000 
      Provision for excess and obsolete inventory   1,193,000      1,193,000 
      Income tax benefit from stock option exercises 1,001,000        1,001,000 
      Deferred income tax expense (benefit) 1,600,000  655,000  (176,000)   2,079,000 
      Equity in undistributed earnings (loss) of             subsidiaries (22,137,000) 642,000    21,495,000   
      Intercompany accounts 7,276,000  (6,471,000) (805,000)    
      Changes in assets and liabilities, net of effects
            of acquisition:
          
         Restricted cash securing letter of credit
            obligations
 4,247,000  (4,013,000)     234,000 
         Accounts receivable   (15,871,000) (582,000)   (16,453,000)
         Inventories   (6,903,000) 1,751,000    (5,152,000)
         Prepaid expenses and other assets (189,000) 146,000  327,000    284,000 
         Other assets   51,000  (7,000)   44,000 
         Accounts payable 65,000  (2,072,000) 46,000    (1,961,000)
         Accrued expenses and other current liabilities 1,097,000  5,953,000  1,000  (136,000) 6,915,000 
         Customer advances and deposits   4,799,000      4,799,000 
         Deferred service revenue   2,556,000      2,556,000 
         Interest payable 1,073,000        1,073,000 
         Income taxes payable (2,133,000)       (2,133,000)
 
 
 
 
 
 
      Net cash provided by operating activities 14,210,000  9,273,000  931,000  (136,000) 24,278,000 
 
 
 
 
 
 
  
Cash flows from investing activities:          
   Purchases of property, plant and equipment (493,000) (6,092,000) (6,000)   (6,591,000)
   Payments for business acquisition   (5,187,000) (5,187,000) 5,187,000  (5,187,000)
 
 
 
 
 
 
      Net cash used in investing activities (493,000) (11,279,000) (5,193,000) 5,187,000  (11,778,000)
 
 
 
 
 
 
  
Cash flows from financing activities:          
   Proceeds from issuance of convertible senior notes 101,179,000        101,179,000 
   Proceeds from issuance of stock in subsidiary     5,187,000  (5,187,000)  
   Principal payments on other obligations   (900,000)     (900,000)
   Proceeds from exercises of stock options and
         warrants
 1,541,000        1,541,000 
   Proceeds from issuance of employee stock
         purchase plan shares
 355,000        355,000 
 
 
 
 
 
 
      Net cash provided by (used in) financing
         activities
 103,075,000  (900,000) 5,187,000  (5,187,000) 102,175,000 
 
 
 
 
 
 
  
   Net increase (decrease) in cash and cash
         equivalents
 116,792,000  (2,906,000) 925,000  (136,000) 114,675,000 
   Cash and cash equivalents at beginning of period 45,711,000  2,906,000      48,617,000 
 
 
 
 
 
 
   Cash and cash equivalents at end of period$162,503,000    925,000  (136,000)$163,292,000 
 
 
 
 
 
 

F-35



COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

(18) Subsequent Event

In August 2006, the Company acquired certain assets 6,191 ------- $12,718 ======= and assumed certain liabilities of Insite, a logistics application software company, for $2.7 million, plus certain earn-out payments based on the achievement of future sales targets. The first part of the earn-out cannot exceed $1.4 million and is limited to a five-year period. The second part of the earn-out, which is for a ten-year period, is unlimited and based on a per unit future sales target primarily relating to new commercial satellite-based mobile data communication markets. Insite has developed the geoOps™ Enterprise Location Monitoring System, a software-based solution that allows customers to integrate legacy data systems with near-real time logistics and operational data systems. This operation was combined with the Company’s existing business and is part of the mobile data communications segment.

An independent third-party appraiser was used to assess and value the existing technology and customer base from the acquisition. The valuation of existing technology was determined for products acquired, based upon the estimated future revenues to be earned from the products. The customer base valuation was based upon replacement cost. The operating results of MPD Technologies have been included

(19) Unaudited Quarterly Financial Data

The following is a summary of unaudited quarterly operating results (amounts in the consolidated statements of operations from the acquisition date (April 30, 2001). The Company's unaudited pro forma results for fiscal year 2001 assuming the merger occurred on August 1, 2000 is as follows:
(in thousands, except per share amounts) 2001 -------- Net revenues $153,485 Net income 7,104 Basic incomedata):
 Fiscal 2006First Quarter Second Quarter Third Quarter Fourth Quarter Total 
 

 
 
 
 
 
  Net sales$106,567  95,741  88,997  100,206  391,511 
  Gross profit 40,204  41,091  34,213  43,793  159,301 
  Net income 11,464  13,304  8,722  11,779  45,269 
  Diluted income per      share$0.43  0.50  0.33  0.45  1.72*
Fiscal 2005First Quarter Second Quarter Third Quarter Fourth Quarter Total 


 
 
 
 
 
  Net sales$56,122  78,087  75,388  98,293  307,890 
  Gross profit 27,121  32,290  29,478  38,477  127,366 
  Net income 7,076  10,182  8,372  11,025  36,655 
  Diluted income per      share$0.28  0.39  0.32  0.42  1.42*
*Income per share 0.65 Diluted income per share 0.60 Weighted average shares 11,022 Weighted average shares assuming dilution 11,865
These unaudited pro forma results have been prepared for comparative purposes only and do not purport to be indicative of the results of operations that actually would have resulted had the merger been in effect August 1, 2000, or the future results of operations. On July 31, 2002, the Company acquired certain assets and assumed certain liabilities of Advanced Hardware Architectures, Inc. ("AHA") for $6,985,000, including transaction costs of $185,000. The purchase price was subject to adjustment based on AHA's net tangible assets as of July 31, 2002. In January 2003, the purchase price was finalized and the Company received $551,000, net of related costs. The acquisition was accounted for under the purchase method of accounting. Accordingly, the Company recorded the assets purchased and the liabilities assumed based upon their estimated fair values at the date of acquisition. The excess of the purchase price over the fair values of the net assets acquired was approximately $6,312,000 of which $2,192,000 was allocated to in-process research and development and was expensed as of the acquisition date, $4,032,000 was allocated to existing and core technology and trade name and is being amortized over nine years and $88,000 was allocated to order backlog and was amortized over six months. The in-process research and development charge is included in the accompanying consolidated statement of operations for the year ended July 31, 2002. The acquisition cost was allocated as follows (in thousands): Historical book value of net assets acquired $ 673 Adjustments to record assets and liabilities at fair value: Fair value of in-process research and development 2,192 Fair value of existing and core technology and trade name 4,032 Fair value of order backlog 88 ------ $6,985 ====== An independent third-party appraiser was used to assess and value the in-process research and development, existing technology, core technology, trade name and order backlog. The valuation of the in-process research and development and existing technology was based on the value of the cash flows that the asset can be expected to generate in the future. The valuation of the core technology and trade name was based on the capitalization of the royalties saved because the Company owns the asset. The valuation of the order backlog was based on the replacement cost approach. F-12 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Sales and income for fiscal 2002 and 2001 relating to the AHA assets acquired would not have been material to the Company's results of operations for those periods. The following table includes the specific nature and fair value allocated to each significant in-process research and development project acquired, as well as significant appraisal assumptions used as of the acquisition date and the current project status.
Fair %information for the full fiscal year may not equal the total of the quarters within the year as a result of rounding.

F-36



Schedule II

COMTECH TELECOMMUNICATIONS CORP.
AND SUBSIDIARIES

Valuation and Qualifying Accounts and Reserves

Fiscal Year Market Estimated Original Cash Flows Project Entity Specific Nature Value Efforts Anticipated Discount Projected To Status as of Acquired of R&D Projects Allocated Complete Completion Date Rate CommenceYears Ended July 31, 2003 -------- --------------- --------- -------- --------------- ---- -------- ------------- AHA Technology2006, 2005 and 2004

Column A
 Column B
  Column C Additions
  Column D
  Column E 


 
 
 
 
Description
 Balance at
beginning
of period
  Charged to
cost and
expenses
 Charged to
other accounts
- describe
  Transfers
(deductions)
- describe
  Balance at
end of
period
 


 
 
 
 
 
               
Allowance for doubtful accounts —
         accounts receivable:
              
Year ended July 31,              
 2006$636,000  748,000 (C)   (8,000) (D) $1,376,000 
 2005 732,000  287,000 (C)   (383,000) (D)  636,000 
 2004 912,000  147,000 (C)   (327,000) (D)  732,000 
               
Inventory reserves:              
Year ended July 31,              
 2006$6,509,000  2,030,000 (A)   (2,416,000) (B) $6,123,000 
 2005 5,622,000  2,098,000 (A)   (1,211,000) (B)  6,509,000 
 2004 5,099,000  1,193,000 (A)   (670,000) (B)  5,622,000 

(A) 

Provision for high speed modem chip #1 $ 1,228 51% December 2004 40% 2005 On-hold Technology for high speed modem chip #2 964 79% December 2004 30% 2005 On-hold -------- Total $ 2,192 ========
Our purchased in-process research and development efforts are complex and unique in light of the nature of the technology, which is generally state-of-the-art. Risks and uncertainties associated with completing the projects in-process include the availability of skilled engineers, the introduction of similar technologies by others, changes in market demand for the technologies and changes in industry standards effecting the technology. The in-process research and development projects acquired are on-hold due to changes in market conditions. However, the underlying technology in these chips is being used in other research and development projects. The Company does not believe that the failure to complete either or both of the projects will have a material impact on the Company's consolidated results of operations. (3) Accounts Receivable Accounts receivable consist of the following at July 31, 2003 and 2002:
2003 2002 ----------- ---------- Accounts receivable from commercial customers $10,952,000 15,424,000 Unbilled receivables (including retainages) on contracts-in-progress 10,084,000 9,304,000 Amounts receivable from the United States governmentexcess and its agencies 6,572,000 3,502,000 ----------- ---------- 27,608,000 28,230,000 Less allowanceobsolete inventory.
(B)Write-off of inventory.
(C)Provision for doubtful accounts 912,000 795,000 ----------- ---------- Accounts receivable, net $26,696,000 27,435,000 =========== ==========
The amount of retainages included in unbilled receivables was $778,000 at July 31, 2002. In the opinion of management, substantially all of the unbilled balances will be billed and collected within one year. (4) Inventories Inventories consist of the following at July 31, 2003 and 2002:
2003 2002 ----------- ---------- Raw materials and components $16,431,000 15,920,000 Work-in-process and finished goods 22,716,000 21,365,000 ----------- ---------- 39,147,000 37,285,000 Less: Reserve for anticipated losses on contracts and inventory reserves 5,099,000 3,289,000 ----------- ---------- Inventories, net $34,048,000 33,996,000 =========== ==========
F-13 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Inventories directly related to long-term contracts were $13,742,000 and $8,461,000 at July 31, 2003 and 2002, respectively. (5) Property, Plant and Equipment Property, plant and equipment consists of the following at July 31, 2003 and 2002:
2003 2002 ----------- ---------- Equipment $28,855,000 24,481,000 Leasehold improvements 2,170,000 2,030,000 Equipment financed by capital lease 2,140,000 2,345,000 ----------- ---------- 33,165,000 28,856,000 Less accumulated depreciation and amortization 20,837,000 16,967,000 ----------- ---------- $12,328,000 11,889,000 =========== ==========
Depreciation and amortization expense on property, plant and equipment amounted to approximately $3,915,000, $3,527,000, and $3,711,000, for the years ended July 31, 2003, 2002 and 2001, respectively. (6) Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consist of the following at July 31, 2003 and 2002: 2003 2002 ----------- --------- Accrued wages and benefits $ 5,724,000 2,918,000 Accrued commissions 1,993,000 1,125,000 Accrued warranty 3,139,000 2,975,000 Other 2,411,000 2,668,000 ----------- --------- $13,267,000 9,686,000 =========== ========= Changes in the Company's product warranty liability during the years ended July 31, 2003 and 2002 were as follows: Twelve months ended July 31, ---------------------------- 2003 2002 ----------- ---------- Balance at beginning of period $ 2,975,000 4,336,000 Provision for warranty obligations 2,593,000 2,338,000 Charges incurred (2,429,000) (3,699,000) ----------- ---------- Balance at end of period $ 3,139,000 2,975,000 =========== ========== (7) Capital Lease Obligations Capital lease obligations consist of the following at July 31, 2003 and 2002: 2003 2002 ---------- --------- Obligations under capital leases $1,292,000 2,356,000 Less current installments 899,000 1,062,000 ---------- --------- $ 393,000 1,294,000 ========== ========= Capital lease obligations in both years related to certain equipment and a technology license. The net carrying value of assets under capital lease was $2,531,000 and $3,207,000 at July 31, 2003 and 2002, respectively. F-14 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Future minimum lease payments under capital leases as of July 31, 2003 are: Years ending July 31, 2004 $ 965,000 2005 256,000 2006 135,000 2007 30,000 --------- Total minimum lease payments 1,386,000 Less amounts representing interest (at rates ranging from 6.55% to 9.5%) 94,000 --------- 1,292,000 Less current installments 899,000 --------- Obligations under capital leases, netaccounts.
(D) Write-off of current installments $ 393,000 ========= uncollectible receivables.
In December 1991, the Company and a partnership controlled by the Company's Chairman, Chief Executive Officer and President entered into an agreement in which the Company leases from the partnership its corporate headquarters and Melville production facility. The lease was for an initial term of ten years. For financial reporting purposes, the Company capitalized the lease at inception in the amount of $2,450,000, net of deferred interest of $1,345,000. In December 2001, the Company exercised its option for an additional ten-year period. For financial reporting purposes, the lease for the extension period is an operating lease. The annual rentals, of approximately $490,000 for fiscal 2003, are subject to annual adjustments equal to the lesser of 5% or the change in the Consumer Price Index. (8) Long-term Debt In July 2000, in connection with an acquisition, the Company entered into a secured loan agreement with The Teachers' Retirement System of Alabama, The Employees' Retirement System of Alabama, the Alabama Heritage Trust Fund, PEIRAF - Deferred Compensation Plan, and State Employees' Health Insurance Fund which provided a term loan in the amount of $40,000,000, expiring on June 30, 2005. Costs incurred to obtain the financing amounted to $289,000 and were included in other assets, net of amortization, in the accompanying consolidated balance sheet. Borrowings under the term loan were evidenced by promissory notes and were secured by all of the Company's assets. The principal amount of the loan outstanding bore interest at the per annum rate of 9.25%. The loan agreement contained restrictive covenants, which, among other things, required the Company to maintain certain financial ratios. In fiscal 2002, the Company made a partial principal prepayment of $19,217,000 against the loan, in addition to scheduled principal payments in fiscal 2001 aggregating $2,100,000. The Company prepaid the remainder of the loan in fiscal 2003. In April 2001, in connection with the acquisition of MPD Technologies, the Company borrowed an additional $10,000,000 from the Teachers' Retirement System of Alabama, The Employees' Retirement System of Alabama and PEIRAF - Deferred Compensation Plan. Costs incurred to obtain the financing amounted to $164,000 and were included in other assets, net of amortization, in the accompanying consolidated balance sheet. The loan which was evidenced by promissory notes and was secured by all of the Company's assets, bore interest on the principal amount outstanding at the per annum rate of 8.50%. The loan required interest only payments through June 2005 at which time the entire principal was due and was subject to the same restrictive covenants discussed above. The Company prepaid the loan in fiscal 2003. F-15 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued (9) Income Taxes The provision (benefit) for income taxes included in the accompanying consolidated statements of operations consists of the following:
Year ended July 31, ------------------- 2003 2002 2001 ----------- ---------- ---------- Federal - current $ 6,185,000 (706,000) 2,834,000 Federal - deferred (1,894,000) 306,000 503,000 State and local - current 386,000 38,000 474,000 State and local - deferred (108,000) (6,000) 77,000 ----------- ---------- ---------- $ 4,569,000 (368,000) 3,888,000 =========== ========== ==========

S-1


The provision (benefit) for income taxes differed from the amounts computed by applying the U.S. Federal income tax rate as a result of the following:
2003 2002 2001 ---- ---- ---- Amount Rate Amount Rate Amount Rate ------ ---- ------ ---- ------ ---- Computed "expected" tax expense $ 4,997,000 35.0% 265,000 34.0% 3,605,000 34.0% Increase (reduction) in income taxes resulting from: Change in the beginning of the year valuation allowance for deferred tax assets (350,000) (2.4) 100,000 12.8 (300,000) (2.8) Generation of research and experimentation credits: Current year (400,000) (2.8) (400,000) (51.3) -- -- Prior years -- -- (416,000) (53.4) -- -- Extraterritorial income exclusion (286,000) (2.0) -- -- -- -- State and local income taxes, net of Federal benefit 181,000 1.3 21,000 2.7 363,000 3.4 Other 427,000 2.9 62,000 8.0 220,000 2.1 ----------- -------- ---------- --------- ----------- -------- $ 4,569,000 32.0% (368,000) (47.2%) 3,888,000 36.7% =========== ======== ========== ========= =========== ========
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities at July 31, 2003 and 2002 are presented below.
2003 2002 ----------- ---------- Deferred tax assets: Allowance for doubtful accounts receivable $ 181,000 95,000 Intangibles 4,606,000 4,673,000 Inventory and warranty reserves 2,854,000 1,226,000 Compensation and commissions, principally due to accrual for financial reporting purposes 2,187,000 736,000 Deferred compensation 248,000 211,000 Other 477,000 226,000 Alternative minimum tax credit carryforward -- 209,000 Less valuation allowance (1,850,000) (2,200,000) ----------- ---------- Total deferred tax assets 8,703,000 5,176,000 Deferred tax liabilities: Plant and equipment, principally due to capitalized leases and differences in depreciation (1,641,000) (116,000) ----------- ---------- Net deferred tax assets $ 7,062,000 5,060,000 =========== ==========
F-16 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued The Company provides for income taxes under the provisions of SFAS No. 109, "Accounting for Income Taxes". SFAS 109 requires an asset and liability based approach in accounting for income taxes. In assessing the realizability of deferred tax assets and liabilities, management considers whether it is more likely than not that some portion or all of them will not be realized. As of July 31, 2003 and 2002, the Company's deferred tax asset has been offset by a valuation allowance related to the extended write off period of in-process research and development from the acquisitions of EF Data and AHA. The Company must generate approximately $27,900,000 of taxable income to fully utilize its deferred tax assets. Management believes it is more likely than not that the results of future operations will generate sufficient taxable income to realize the net deferred tax assets. (10) Stockholders' Equity (a) Stock Split In July 2003, the Company completed a three-for-two stock split, which was effected in the form of a 50% stock dividend. All share and per share information in the consolidated financial statements and notes thereto has been adjusted to reflect the stock split. (b) Private Placement of Common Stock In July 2003, the Company sold 2,100,000 shares of its common stock in a private placement transaction. The aggregate proceeds to the Company were $38,191,000, net of related costs of $2,402,000. The Company agreed to register these shares with the Securities and Exchange Commission within 120 days of the date of the sale. The shares were registered in August 2003. (c) Stock Option, Stock Purchase and Warrant Agreements The Company has stock option and stock purchase plans and warrant agreements as follows: 1993 Incentive Stock Option Plan - The 1993 Incentive Stock Option Plan, as amended, provides for the granting to key employees and officers of incentive and non-qualified stock options to purchase up to 1,563,750 shares of the Company's common stock at prices generally not less than the fair market value at the date of grant with the exception of anyone who, prior to the grant, owns more than 10% of the voting power, in which case the exercise price cannot be less than 110% of the fair market value. In addition, it provided formula grants to non-employee members of the Board of Directors. The term of the options may be no more than ten years. However, for incentive stock options granted to any employee who, prior to the granting of the option, owns stock representing more than 10% of the voting power, the option term may be no more than five years. As of July 31, 2003, the Company had granted incentive stock options representing the right to purchase an aggregate of 1,629,773 shares at prices ranging between $1.00 - $7.96 per share, of which 220,377 options were canceled and 475,725 are outstanding at July 31, 2003. To date, 933,671 shares have been exercised. Outstanding awards have been transferred to the 2000 Stock Incentive Plan. The terms applicable to these awards prior to the transfer continue to apply. The plan was terminated by the Board of Directors in December 1999 due to the approval by the shareholders of the 2000 Stock Incentive Plan. 2000 Stock Incentive Plan - The 2000 Stock Incentive Plan, as amended, provides for the granting to all employees and consultants of the Company (including prospective employees and consultants) non-qualified stock options, stock appreciation rights, restricted stock, performance shares, performance units and other stock-based awards. In addition, employees of the Company are eligible to be granted incentive stock options. Non-employee directors of the Company are eligible to receive non-discretionary grants of nonqualified stock options subject to certain limitations. The aggregate number of shares of common stock which may be issued may not exceed 2,025,000 plus the shares that were transferred to the Plan relating to outstanding awards that were previously granted under the 1982 Incentive Stock Option Plan and the 1993 Incentive Stock Option Plan. The Stock Option Committee of the Board of Directors, consistent with the terms of the Plan, will determine the types of awards to be granted, the terms and conditions of each award and the number of shares of common stock to be covered by each award. Grants of incentive and non- F-17 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued qualified stock options may not have a term exceeding ten years or no more than five years in the case of an incentive stock option granted to a stockholder who owns stock representing more than 10% of the voting power. As of July 31, 2003, the Company had granted incentive stock options representing the right to purchase an aggregate of 1,510,050 shares at prices ranging between $4.70 - $11.89 of which 160,950 options were canceled and 1,259,130 are outstanding at July 31, 2003. As of July 31, 2003, 89,970 incentive stock options have been exercised. All options granted have been incentive stock options at prices equal to the fair market value of the stock on the date of grant. Warrants Issued Pursuant to Acquisition - In connection with an acquisition in fiscal 1999, the Company issued warrants to the acquiree's owners and creditors to purchase 225,000 shares of the Company's common stock at an exercise price of $4.38. The warrants, which contain transferability restrictions, are exercisable for a period of five years commencing September 24, 1998, and shares purchased through the exercise of these warrants contain voting restrictions. Through fiscal 2003, warrants to purchase 185,271 shares were exercised. Employee Stock Purchase Plan - The Comtech Telecommunications Corp. 2001 Employee Stock Purchase Plan ("The Purchase Plan") was approved by the shareholders on December 12, 2000. Pursuant to the Purchase Plan, 450,000 shares of the Company's common stock were reserved for issuance. The Purchase Plan is intended to provide eligible employees of the Company the opportunity to acquire common stock in the Company at 85% of fair market value at date of issuance through participation in the payroll-deduction based employee stock purchase plan. Through fiscal 2003, the Company issued 101,052 shares of its common stock to participating employees in connection with the Purchase Plan. (d) Option Activity The following table sets forth summarized information concerning the Company's stock options:
Weighted average Number of shares exercise price ---------------- ---------------- Outstanding at July 31, 2000 1,175,517 $ 3.10 Granted 652,050 8.41 Expired/canceled (32,100) 6.03 Exercised (148,425) 2.09 ---------- ---------- Outstanding at July 31, 2001 1,647,042 5.24 Granted 274,500 9.19 Expired/canceled (89,550) 6.25 Exercised (86,382) 1.99 ---------- ---------- Outstanding at July 31, 2002 1,745,610 5.97 Granted 505,500 5.51 Expired/canceled (94,875) 7.66 Exercised (421,380) 3.77 ---------- ---------- Outstanding at July 31, 2003 1,734,855 $ 6.27 ========== ========== Options exercisable at July 31, 2003 525,750 $ 5.98 ========== ========== Options available for grant at July 31, 2003 821,940 ==========
F-18 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued The options outstanding as of July 31, 2003 are summarized in ranges as follows:
Range of Weighted average Number of options Weighted average exercise price exercise price outstanding remaining life ---------------- ------------------ ------------------- ------------------ $ 1.00 - 2.99 $ 2.01 334,650 4 years 3.00 - 5.00 4.77 105,675 6 years 5.01 - 8.00 6.33 820,230 8 years 8.01 - 11.54 9.51 474,300 8 years
(e) Restricted Common Stock In October 1998, a total of 225,000 restricted shares of the Company's common stock were granted by the Board of Directors to the principal officers and employees of the Company's subsidiary, Comtech Mobile Datacom Corp. ("CMDC"), at a cost of $.10 per share. The award relates to services to be provided over future years and, as a result, the stock awards are subject to certain restrictions which may be removed earlier upon CMDC attaining certain business plan milestones, as provided in the agreement, but no later than ten years from the date of the award. These awards also automatically vest upon the employees' retirement or termination of employment by the Company without cause. The excess of market value over cost of the shares awarded of $1,041,000 was recorded as deferred compensation and is being amortized to expense over a ten-year period subject to the aforementioned accelerated provisions, if appropriate, as evaluated on an annual basis. The deferred compensation is reflected as a reduction of stockholders' equity in the accompanying consolidated balance sheets. (11) Segment and Principal Customer Information Reportable operating segments are determined based on the Company's management approach. The management approach, as defined by SFAS No. 131, is based on the way that the chief operating decision-maker organizes the segments within an enterprise for making operating decisions and assessing performance. While the Company's results of operations are primarily reviewed on a consolidated basis, the chief operating decision-maker also manages the enterprise in three segments: (i) Telecommunications Transmission, (ii) RF Microwave Amplifiers and (iii) Mobile Data Communications. Telecommunications Transmission products include modems, frequency converters, satellite VSAT transceivers and antennas and over-the-horizon microwave communications products and systems. RF Microwave Amplifier products include high-power amplifier products that use the microwave and radio frequency spectrums. Mobile Data Communications provide satellite-based mobile tracking and messaging hardware and related services. Unallocated assets consist principally of cash, deferred tax assets and intercompany receivables. Unallocated losses result from such corporate expenses as legal, accounting and executive. Corporate management defines and reviews segment profitability based on the same allocation methodology as presented in the segment data tables. Inter-segment sales in fiscal 2003 and 2002 by the telecommunications transmission segment to the RF microwave amplifiers segment were $ 3,617,000 and $3,250,000 respectively. In fiscal 2003, inter-segment sales by the telecommunications transmission segment to the mobile data communications segment were $14,858,000. Inter-segment sales in fiscal 2001 were not material. Inter-segment sales have been eliminated from the tables below. Substantially all of the Company's long-lived assets are located in the United States. Fiscal 2002 operating income in the telecommunications transmission segment includes in-process research and development charges of $2,192,000. F-19 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued
(in thousands) Fiscal 2003 Telecommunications RF Microwave Mobile Data Transmission Amplifiers Communications Un-Allocated Total ------------------ ------------ -------------- ------------ ----- Net sales $ 102,634 23,322 48,079 -- 174,035 Operating income (loss) 14,219 1,745 5,202 (4,360) 16,806 Interest income 10 1 -- 264 275 Interest expense 1,863 940 -- -- 2,803 Depreciation and amortization 4,498 1,184 319 257 6,258 Expenditure for long-lived assets, including intangibles 3,623 427 682 75 4,807 Total assets 65,105 20,462 21,244 57,439 164,250 (in thousands) Fiscal 2002 Telecommunications RF Microwave Mobile Data Transmission Amplifiers Communications Un-Allocated Total ------------------ ------------ -------------- ------------ ----- Net sales $ 78,613 22,822 17,922 -- 119,357 Operating income (loss) 5,250 1,209 207 (3,305) 3,361 Interest income 99 3 5 345 452 Interest expense 2,157 904 -- -- 3,061 Depreciation and amortization 3,718 1,188 194 130 5,230 Expenditure for long-lived assets, including intangibles 8,640 930 510 14 10,094 Total assets 62,738 25,564 19,308 18,976 126,586 (in thousands) Fiscal 2001 Telecommunications RF Microwave Mobile Data Transmission Amplifiers Communications Un-Allocated Total ------------------ ------------ -------------- ------------ ----- Net sales $ 106,348 16,385 13,198 -- 135,931 Operating income (loss) 17,051 (470) (191) (3,235) 13,155 Interest income 211 8 4 2,080 2,303 Interest expense 3,728 287 -- -- 4,015 Depreciation and amortization 4,995 1,159 229 192 6,575 Expenditure for long-lived assets, including intangibles 4,506 11,895 142 128 16,671 Total assets 64,116 25,067 16,596 41,209 146,988
In fiscal 2003, sales to one customer, a prime contractor, represented 19.8% of our net sales. There were no customers in fiscal 2002 or 2001, other than the U.S. government, that represented 10% or more of our net sales. During fiscal 2003, 2002 and 2001, approximately 44.2%, 33.8% and 23.1%, respectively, of the Company's net sales resulted from contracts with the U.S. government or prime contractors to the U.S. government. Direct and indirect sales to an African country in fiscal 2003 represented 10.2% of net sales. International sales comprised 39.7%, 41.2% and 46.2% of net sales in fiscal 2003, 2002 and 2001, respectively. International sales include sales to domestic companies for inclusion in products, which will be sold to international customers. F-20 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued (12) Commitments and Contingencies (a) Operating Leases The Company is obligated under noncancellable operating lease agreements including satellite lease expenditures relating to our mobile data communications segment contracts. At July 31, 2003, the future minimum lease payments under operating leases are as follows: 2004 $ 7,617,000 2005 2,986,000 2006 1,672,000 2007 820,000 Thereafter 2,409,000 ----------- Total $15,504,000 =========== Lease expense charged to operations was $2,558,000, $2,381,000 and $1,724,000 in fiscal 2003, 2002 and 2001, respectively. Lease expense excludes satellite lease expenditures incurred of approximately $10,043,000, $937,000 and $512,000 in fiscal 2003, 2002 and 2001, respectively, relating to our mobile data communications segment contracts. (b) United States Government Contracts Certain of the Company's contracts are subject to audit by applicable governmental agencies. Until such audits are completed, the ultimate profit on these contracts cannot be determined; however, it is management's belief that the final contract settlements will not have a material adverse effect on the Company's consolidated financial position or results of operations. (c) Litigation We are subject to certain legal actions, which arise in the normal course of business. We believe that the outcome of these actions will not have a material effect on our consolidated financial position or results of operations. (d) Employment Contracts The Company has employment agreements with Mr. Kornberg, its Chairman of the Board, Chief Executive Officer and President, and Mr. Rouse, its Senior Vice President and Chief Financial Officer. Mr. Kornberg's agreement which was amended and restated in June 2003 provides, among other things, for his employment until July 31, 2008 at a current base compensation of $475,000 per annum and incentive compensation equal to 3.5% of the Company's pre-tax income plus such additional amounts, if any, as the Board of Directors may from time to time determine. The employment period is automatically extended for successive two year periods unless either party gives notice of non-extension at least six months in advance of the scheduled termination date. The agreement also provides for payment to Mr. Kornberg in the event of a change in control of the Company. Mr. Rouse's agreement which was amended and restated in June 2003 provides, among other things, for his employment until July 31, 2005 at a current base compensation of $285,000 per annum and incentive compensation equal to 1.5% of the Company's pre-tax income plus such additional amounts, if any, as the Board of Directors may from time to time determine. The employment period is automatically extended for successive one year periods unless either party gives notice of non-extension at least three months in advance of the scheduled termination date. The agreement also provides for payment, in certain circumstances, to Mr. Rouse in the event of a change in control of the Company. F-21 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued (13) Stockholder Rights Plan On December 15, 1998, the Company's Board of Directors approved the adoption of a stockholder rights plan in which one stock purchase right ("Right") was distributed as a dividend on each outstanding share of the Company's common stock to stockholders of record at the close of business on January 4, 1999. Under the plan, the Rights will be exercisable only if triggered by a person or group's acquisition of 15% or more of the Company's common stock. If triggered, each Right, other than Rights held by the acquiring person or group, would entitle its holder to purchase a specified number of the Company's common shares for 50% of their market value at that time. Unless a 15% acquisition has occurred, the Rights may be redeemed by the Company at any time prior to the termination date of the plan. This Right to purchase common stock at a discount will not be triggered by a person or group's acquisition of 15% or more of the common stock pursuant to a tender or exchange offer which is for all outstanding shares at a price and on terms that Comtech's Board of Directors determines (prior to acquisition) to be adequate and in the best interest of the Company and its stockholders. The Rights will expire on December 15, 2008. (14) Accounting for Business Combinations, Goodwill and Other Intangible Assets In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No. 141, "Business Combinations", and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 specifies the criteria that intangible assets acquired in a business combination must meet to be recognized and reported apart from goodwill. SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. This pronouncement also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives and reviewed for impairment in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of". The Company adopted the provisions of SFAS No. 141 effective July 1, 2001 and SFAS No. 142 effective August 1, 2001. As of July 31, 2001, $4,609,000 of intangibles, consisting of assembled workforce and customer base, net of accumulated amortization of $768,000, were reclassified as intangibles with indefinite lives. The customer base was reclassified since it could not be sold, transferred, licensed, rented or exchanged by itself or in combination with a related contract, asset or liability. In accordance with SFAS No. 142, "Goodwill and Other Intangible Assets", we discontinued the amortization of goodwill and intangible assets with indefinite lives as of the beginning of fiscal 2002. A reconciliation of previously reported net income and earnings per share to the amounts adjusted for the exclusion of amortization of goodwill and intangible assets with indefinite lives, net of the related income tax effect, follows:
(in thousands, except per share amounts) 2001 ------ Reported net income $6,714 Exclude amortization of goodwill and intangible assets with indefinite lives, net of income taxes 889 ------ Adjusted proforma net income $7,603 ====== Basic earnings per share: As reported $0.61 Adjusted proforma $0.69 Diluted earnings per share: As reported $0.57 Adjusted proforma $0.64
F-22 COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Intangibles with definite lives arising from acquisitions as of July 31, 2003 and 2002 are as follows:
2003 2002 ----------------------------------- ---------------------------------- Gross Carrying Accumulated Gross Carrying Accumulated Amount Amortization Amount Amortization -------------- ------------ -------------- ------------ Existing technology $12,266,000 4,261,000 11,851,000 2,582,000 Core technology 1,315,000 146,000 1,315,000 -- Technology license 2,229,000 206,000 2,154,000 99,000 Trade name 175,000 19,000 175,000 -- Order backlog 88,000 88,000 88,000 -- ----------- --------- ---------- --------- Total $16,073,000 4,720,000 15,583,000 2,681,000 =========== ========= ========== =========
Amortization expense for the years ended July 31, 2003, 2002 and 2001 was $2,039,000, $1,471,000 and $2,552,000, respectively. The estimated amortization expense for the fiscal years ending July 31, 2004, 2005, 2006, 2007 and 2008 is $2,012,000, $2,012,000, $2,012,000 $1,876,000 and $640,000, respectively. Intangibles with indefinite lives by reporting unit as of July 31, 2003 are as follows: Telecommunications transmission $ 7,870,000 RF microwave amplifiers 8,422,000 Mobile data communications services 1,434,000 ----------- $17,726,000 =========== (15) Unaudited Quarterly Financial Data The following is a summary of unaudited quarterly operating results (amounts in thousands, except per share data):
Fiscal 2003 First Quarter Second Quarter Third Quarter Fourth Quarter Total ------------- -------------- ------------- -------------- ----- Net sales $ 31,273 42,326 48,753 51,683 174,035 Gross profit 11,677 13,543 16,491 18,007 59,718 Net income 799 1,853 3,470 3,587 9,709 Diluted income per share $ 0.07 0.16 0.29 0.27 0.80* Fiscal 2002 First Quarter Second Quarter Third Quarter Fourth Quarter Total ------------- -------------- ------------- -------------- ----- Net sales $ 31,045 30,525 29,262 28,525 119,357 Gross profit 10,805 9,119 9,898 10,755 40,577 Net income 902 148 409 (311)** 1,148** Diluted income per share $ 0.08 0.01 0.03 (0.03) 0.10*
* Income per share information for the full fiscal year may not equal the total of the quarters within the year as a result of (i) a loss in a quarter or the full year, and (ii) rounding. ** Includes pre-tax in-process research and development charge in the fourth quarter of fiscal 2002 of $2,192,000. F-23 Schedule II COMTECH TELECOMMUNICATIONS CORP. AND SUBSIDIARIES Valuation and Qualifying Accounts and Reserves Years ended July 31, 2003, 2002 and 2001
Column A Column B Column C Additions Column D Column E -------- -------- ----------------------------------- -------- -------- (1) (2) Balance at Charged to Charged to Transfers Balance at beginning cost and other accounts (deductions) end of Description of period expenses - describe describe period ------------- -------------- --------------- ----------------- ------------ Allowance for doubtful accounts - accounts receivable: Year ended July 31, 2003 $ 795,000 246,000 (C) -- (129,000) (D) $ 912,000 2002 845,000 269,000 (C) -- (319,000) (D) 795,000 2001 806,000 39,000 (C) -- -- 845,000 Inventory reserves: Year ended July 31, 2003 $ 3,289,000 2,521,000 (A) -- (711,000) (B) $ 5,099,000 2002 2,280,000 1,698,000 (A) -- (689,000) (B) 3,289,000 2001 2,529,000 264,000 (A) -- (513,000) (B) 2,280,000
(A) Increase in reserves for obsolete and slow moving inventory and losses on contracts. (B) Write-off of inventory. (C) Increase in allowance for doubtful accounts. (D) Write-off of uncollectible receivables. S-1