News Column

ORION ENERGY SYSTEMS, INC. - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

June 13, 2014

The following discussion and analysis should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. See also "Forward-Looking Statements" and Item 1A. "Risk Factors". Fiscal 2014 Developments On July 1, 2013, we completed the acquisition of the equity interests of Harris Manufacturing, Inc. and Harris LED, LLC, or collectively, Harris. Harris engineers, designs, sources and manufactures energy efficient lighting systems, including fluorescent and LED lighting solutions, and day-lighting products. The Harris acquisition has expanded our product lines, increased our sales force and provided growth opportunities into markets where we did not have a strong presence, specifically, new construction, retail store fronts, commercial office and government. The preliminary purchase price for the transaction was $10.8 million, after an adjustment of $0.2 million for excess net working capital over a targeted amount. The purchase price was paid in a combination of $5.0 million of cash, $3.1 million in a three-year unsecured subordinated note bearing interest at the rate of 4% per annum, and the issuance of 856,997 shares of unregistered common stock, representing a fair value on the date of issuance of $2.1 million. We also agreed to issue up to $1.0 million in shares of our unregistered common stock if Harris met certain revenue targets through calendar year 2014, and, in the case of certain Harris shareholders who became our employees, their continued employment by us. In October 2013, we amended the earn-out provisions of the Harris purchase agreement to fix the future consideration for the earn-out at $1.4 million and eliminate the future revenue targets, although the employee retention provisions still apply to Harris 24



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shareholders who became our employees. On January 2, 2014, we issued $0.6 million, or an aggregate of 83,943, unregistered shares of common stock to the Harris shareholders. We will also settle $0.8 million on January 2, 2015 in cash. Harris had revenue of approximately $14.7 million and net income of approximately $0.9 million during the year ended December 31, 2012. During the nine months following the July 2013 acquisition, Harris had revenue of $9.4 million and an operating loss of $(0.5) million. Included in the $(0.5) million loss is $0.6 million of expense for intangible amortization and $0.3 million of expense for compensation related to deferred consideration. We expect the transaction to continue to be accretive to our future earnings during fiscal 2015 after adjusting for non-cash amortization of intangible assets acquired and purchase accounting expenses for deferred compensation. We acquired certain LED technologies through the acquisition of Harris which complement our existing portfolio of LED lighting products. In particular, Harris' LED door retrofit, or LDR, product is designed to retrofit commercial office space, a market in which we have historically recognized little revenue contribution. Since the acquisition of Harris, our engineering and design teams have worked to expand the LDR product line to include architectural, industrial and contractor product categories. According to a May 2013United States Department of Energy report, we estimate the potential North American LED retrofit market within our key product categories to be approximately 1.1 billion lighting fixtures. We continue to research LED technologies and expect that, as LED performance increases and product costs decrease, LED technologies will become an increasingly larger component of our future revenue. During the fourth quarter of fiscal 2014, we experienced a reduction in the amount of new customer orders received for our energy efficient HIF lighting systems within our industrial and exterior markets. We attribute this to an increasing awareness within the marketplace of emerging LED product offerings. We believe that customers have deferred purchase decisions as they evaluate the cost and performance of these LED product offerings. It is our expectation that this deferral of purchasing decisions will continue into the back half of our fiscal 2015 when we expect that improvements in performance and expected decreases in LED product costs will make the products even more economically viable. During fiscal 2014, we actively expanded our in-market sales force. Our in-market sales force is responsible for the development of indirect resellers within their territory. We expect to continue to increase our sales headcount during our fiscal 2015 year. During fiscal 2013 and fiscal 2014, we experienced a significant reduction in new solar PV orders within our engineered systems segment. We attribute this to reduced cash incentives and declining pricing in the renewable energy credit markets. During this period, we have deemphasized our efforts to obtain new PV construction contracts and have focused on the completion of previously received orders within our solar backlog, which has decreased from $36.1 million at the beginning of our fiscal 2013 to $1.1 million as of March 31, 2014. We expect this trend to continue into fiscal 2015. In response to this solar order decline and our de-emphasis on pursuing new PV orders, we have been redeploying personnel to focus on the opportunities within the LED retrofit market. We continue to provide energy to a single customer through a power purchase agreement, or PPA. A PPA is a supply side agreement for the generation of electricity and subsequent sale to the end user. With the exception of our PPA long-term asset, we do not have significant capital investments or long-term assets affiliated with our non-core solar business. During the fourth quarter of fiscal 2014, we sold our corporate leased jet which provided an additional $1.5 million in annualized savings. During fiscal 2015, we intend to reinvest a portion of the annualized savings from our aircraft sale into LED marketing and branding initiatives to increase our customers' awareness of our LED product offerings. We also sold our Plymouth, WI facility during early fiscal 2015, which is expected to result in an additional $0.1 million in annualized reduced operating expenses. Beginning in fiscal 2015, we intend to reorganize our business into the following business segments: U.S. markets, Orion engineered systems and Orion distribution services. Our U.S. markets division will focus on selling our lighting solutions into the wholesale markets. Its customers include domestic energy service companies and electrical contractors. Our Orion engineered systems division will focus on selling lighting products and construction and engineering services direct to end users. Additionally, Orion engineered systems will complete the construction management services related to existing contracted solar PV projects. Its customers include national accounts, government, municipal and schools. Our Orion distribution services division will focus on selling our lighting products internationally and began to develop a network of broad line distributors. Historically, sales of all our lighting products and the related costs were combined through our energy management division. For this reason, we are able to recast prior period revenue totals with respect to each of our three new business segments, but are not able to practically recast the prior period operating income or loss of these new segments. We expect to begin reporting under these new segments during our first quarter of fiscal 2015. 25



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Fiscal 2013 Developments During fiscal 2013, we recorded operating expenses related to reorganization costs of $2.1 million, which included $1.9 million to general and administrative expenses and $0.2 million to sales and marketing expenses. Additionally, we recorded a $4.1 million non-cash income tax expense to establish a valuation allowance against our deferred tax assets. During fiscal 2014, we recorded a $2.3 million benefit against this valuation allowance to offset deferred tax liabilities acquired from Harris. During the fiscal 2013 second half, we implemented $5.2 million in annualized cost reduction initiatives, including a reduction in headcount of approximately 18%, the termination of consulting agreements, material and component cost savings in our high intensity fluorescent, or HIF, lighting products, and discretionary spending reductions. Overview We research, develop, design, manufacture, market, sell and implement energy management systems consisting primarily of high-performance, energy efficient commercial and industrial interior and exterior lighting systems, controls, power data management and cloud-based data storage and related services. We have historically implemented renewable energy systems consisting primarily of solar generating PV systems and wind turbines, but have de-emphasized these products as disclosed in the paragraph above. We currently operate in two business segments, which we refer to as our energy management division and our engineered systems division. We typically generate virtually all of our revenue from sales of HIF lighting systems and related services to commercial and industrial customers. We typically sell our HIF lighting systems in replacement of our customers' existing HID fixtures. We call this replacement process a "retrofit." We frequently engage our customer's existing electrical contractor to provide installation and project management services. We also sell our HIF lighting systems on a wholesale basis, principally to electrical contractors and energy service companies to sell to their own customer bases. We have more recently introduced new products of our LED lighting and energy management systems. We believe that we have taken a responsible approach to this emerging technology. Based upon recent improvements, including drastic reduction of chip prices, availability of name-brand drivers and the integration with our InteLite controls offerings, we believe that LED will become a larger part of our overall interior and exterior lighting strategy in the future. We believe that our new LED product offerings also present new opportunities in the hospitality, health care, education, office and general retail markets, in addition to strengthening our position as an energy management leader in the commercial, industrial and food service markets. We have sold and installed approximately 4.0 million of our HIF and LED lighting systems in more than 10,461 facilities from December 1, 2001 through March 31, 2014. Our top direct customers by revenue in fiscal 2014 included Coca-Cola Enterprises Inc., Dollar General Corporation, Ford Motor Co,, SYSCO Corp., and MillerCoors. Our fiscal year ends on March 31. We call our fiscal years which ended on March 31, 2012, 2013 and 2014, "fiscal 2012," "fiscal 2013" and "fiscal 2014," respectively. Our fiscal first quarter ends on June 30, our fiscal second quarter ends on September 30, our fiscal third quarter ends on December 31 and our fiscal fourth quarter ends on March 31. Due to a difficult economic environment, especially as it has impacted capital equipment manufacturers, our results for fiscal 2013 and fiscal 2014 continued to be adversely affected by lengthened customer sales cycles, the government shutdown, which delayed in process projects, and sluggish customer capital spending. To address these difficult economic conditions, we implemented several cost reduction initiatives during the fiscal 2013 second half as described above. During fiscal 2014, we aggressively focused on additional cost containment initiatives related to material product costs, service margin expansion and implementing lean manufacturing methodologies to reduce production costs in our manufacturing facility. We currently anticipate approximately $1.0 million in annualized synergies from our Harris acquisition related to headcount reductions and facility operating cost decreases. We do not expect full synergies to be achieved until the middle of calendar year 2015, when the Florida manufacturing facility lease expires. In response to the constraints on our customers' capital spending budgets, we promote the advantages to our customers of purchasing our energy management systems through our Orion Throughput Agreement, or OTA, financing program. Our OTA financing program provides for our customer's purchase of our energy management systems without an up-front capital outlay. We have an arrangement with a national equipment finance company to provide immediate non-recourse and recourse funding of pre-credit approved OTA finance contracts upon project completion and customer acceptance. Virtually all of these sales occur on a non-recourse basis. During fiscal 2013 and fiscal 2014, approximately 73.3% and 94.3% respectively, of our total completed OTA contracts were financed directly through third party equipment finance companies. In the future, we intend to continue to utilize third party finance companies to fund virtually all of our OTA contracts. Additionally, during fiscal 2012 we completed a $5.0 million OTA line-of-credit for the purpose of funding OTA projects upon the project completion and customer acceptance, for which we chose to hold the contracts internally. In the future, we do not intend to fund OTA contracts through debt borrowings. In future periods, the number of customers who choose to purchase our systems by using our OTA financing program will be 26



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dependent upon our relationships with third party equipment finance companies, the extent to which customers' choose to use their own capital budgets and the extent to which customers' choose to enter into finance contracts. Additionally, we have provided a financing program to our alternative renewable energy system customers called a PPA as an alternative to purchasing our systems for cash. The PPA is a supply side agreement for the generation of electricity and subsequent sale to the end user. We do not intend to use our own cash balances to fund future PPA opportunities and have been able to secure several external sources of funding for PPA's on behalf of our customers. Our engineered systems division has been offering our customers additional alternative renewable energy systems. During fiscal 2013 and fiscal 2014, we did not sign any significant new solar contracts. We attribute this to the December 2011 expiration of federal cash grants available for solar projects, declining solar prices for panels, an unstable supply environment, including bankruptcy filings from several solar panel suppliers, and a decline in the value of state and utility incentives. Due to the reduction in new solar contracts, during fiscal 2014, we redeployed substantially all of our engineered systems personnel to focus on the sales and project management support of our HIF and LED lighting systems. Despite these recent economic challenges, we remain optimistic about our near-term and long-term financial performance. Our near-term optimism is based upon our improved cash flow generation during fiscal 2014, our investments into our in-market sales force, our intentions to continue to expand our sales force during fiscal 2015, our cost containment initiatives and opportunities, the increasing volume of unit sales of our new products, specifically our LED lighting fixtures, the completion of our acquisition of Harris and the increased sales market opportunities and cost synergies that Harris provides. Our long-term optimism is based upon the considerable size of the existing market opportunity for lighting retrofits, including the new market opportunities in commercial office, government and retail that Harris provides, the continued development of our new products and product enhancements, including our new LED product offerings, our cost reduction initiatives, and the opportunity to increase gross margins through the leverage of our under-utilized manufacturing capacity. Revenue and Expense Components Revenue. We sell our energy management products and services directly to commercial and industrial customers, and indirectly to end users through wholesale sales to electrical contractors and value-added resellers. We currently generate virtually all of our revenue from sales of HIF and LED lighting systems and related services to commercial and industrial customers. While our services include comprehensive site assessment, site field verification, utility incentive and government subsidy management, engineering design, project management, installation and recycling in connection with our retrofit installations, we separately recognize service revenue only for our installation and recycling services. Our installation and recycling service revenues are recognized when services are complete and customer acceptance has been received. In fiscal 2012, we increased our efforts to expand our value-added reseller channels, including through developing a reseller standard operating procedural kit, providing our resellers with product marketing materials and providing training to resellers on our sales methodologies. In the back half of fiscal 2014, we transitioned our in-market sales force to focus our efforts on expanding and developing our reseller channels along with selling directly to customers within their markets. These wholesale channels accounted for approximately 64%, 59% and 63% of our total revenue volume in fiscal 2012, fiscal 2013 and fiscal 2014, respectively, not taking into consideration our renewable technologies revenue generated through our engineered systems division. In fiscal 2012, we focused our expansion efforts on our direct retail sales channel through the creation of a telemarketing call center for the purpose of customer lead generation, the establishment of a sales office and personnel in Houston, Texas and headcount additions to our retail sales force and our engineered systems division. During the fiscal 2013 second half, we re-engineered our telemarketing call center for the purpose of improving the quality of leads and increasing sales closing ratios. During fiscal 2014, our call center began to provide leads to our reseller channel on a fee basis. During fiscal 2014, we expanded our in-market sales force and intend to continue increasing the number of in-market sales personnel during fiscal 2015. Additionally, we offer our OTA sales-type financing program under which we finance the customer's purchase of our energy management systems. The OTA program was established to assist customers who are interested in purchasing our energy management systems but who have capital expenditure budget limitations. Our OTA contracts are capital leases under GAAP and we record revenue at the present value of the future payments at the time customer acceptance of the installed and operating system is complete. Our OTA contracts under this sales-type financing are either structured with a fixed term, typically 60 months, and a bargain purchase option at the end of term, or are one year in duration and, at the completion of the initial one-year term, provide for (i) one to four automatic one-year renewals at agreed upon pricing; (ii) an early buyout for cash; or (iii) the return of the equipment at the customer's expense. The revenue that we are entitled to receive from the sale of our lighting fixtures under our OTA financing program is fixed and is based on the cost of the lighting fixtures and applicable profit margin. Our revenue from agreements entered into under this program is not dependent upon our customers' actual energy savings. We recognize revenue from OTA contracts at the net present value of the future cash flows at the completion date of the installation of the energy management systems and the customers acknowledgment that the system is operating as specified. Upon completion of the installation, we may choose to sell the future cash flows and residual rights to the equipment on a non-recourse basis to an unrelated third party finance company in exchange for cash and future payments. 27



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In fiscal 2012, we recognized $10.2 million of revenue from 139 completed OTA contracts. In fiscal 2013, we recognized $6.7 million of revenue from 128 completed OTA contracts. In fiscal 2014, we recognized $4.0 million of revenue from 67 completed OTA contracts. Our PPA financing program provides for our customer's purchase of electricity from our renewable energy generating assets without an upfront capital outlay. Our PPA is a longer-term contract, typically in excess of 10 years, in which we receive monthly payments over the life of the contract. This program creates an ongoing recurring revenue stream, but reduces near-term revenue as the payments are recognized as revenue on a monthly basis over the life of the contract versus upfront upon product shipment or project completion. In fiscal 2012, we recognized $0.6 million of revenue from completed PPAs. In fiscal 2013, we recognized $0.7 million of revenue from completed PPAs. In fiscal 2014, we recognized $0.5 million of revenue from completed PPAs. As of March 31, 2014, we had signed 1 customer to 2 separate PPAs representing future potential discounted revenue streams of $1.9 million. In the future, we do not expect to complete any additional new PPA agreements. We discount the future revenue from PPAs due to the long-term nature of the contracts, typically in excess of 10 years. The timing of expected future discounted GAAP revenue recognition and the resulting operating cash inflows from PPAs, assuming the systems perform as designed, was as follows as of March 31, 2014 (in thousands): Fiscal 2015 $ 247 Fiscal 2016 247 Fiscal 2017 247 Fiscal 2018 246 Fiscal 2019 246 Beyond 676



Total expected future discounted revenue from PPA's $ 1,909

For sales of our solar PV systems, which are governed by customer contracts that require us to deliver functioning solar power systems and are generally completed within three to 15 months from the start of project construction, we recognize revenue from fixed price construction contracts using the percentage-of-completion method. Under this method, revenue arising from fixed price construction contracts is recognized as work is performed based upon the percentage of incurred costs to estimated total forecasted costs. We have determined that the appropriate method of measuring progress on these sales is measured by the percentage of costs incurred to date of the total estimated costs for each contract as materials are installed. The percentage-of-completion method requires revenue recognition from the delivery of products to be deferred and the cost of such products to be capitalized as a deferred cost and current asset on the balance sheet. We perform periodic evaluations of the progress of the installation of the solar PV systems using actual costs incurred over total estimated costs to complete a project. Provisions for estimated losses on uncompleted contracts, if any, are recognized in the period in which the loss first becomes probable and reasonably estimable. We recognize revenue on product only sales of our lighting and energy management systems at the time of shipment. For lighting and energy management systems projects consisting of multiple elements of revenue, such as a combination of product sales and services, we recognize revenue by allocating the total contract revenue to each element based on their relative selling prices. We determine the selling price of each element based upon management's best estimate giving consideration to pricing practices, margin objectives, competition, scope and size of individual projects, geographies in which we offer our products and services and internal costs. We recognize revenue at the time of product shipment on product sales and on services completed prior to product shipment. We recognize revenue associated with services provided after product shipment, based on their relative selling price, when the services are completed and customer acceptance has been received. When other significant obligations or acceptance terms remain after products are delivered, revenue is recognized only after such obligations are fulfilled or acceptance by the customer has occurred. Our dependence on individual key customers can vary from period to period as a result of the significant size of some of our retrofit and multi-facility roll-out projects. Our top 10 customers accounted for approximately 44%, 35% and 45% of our total revenue for fiscal 2012, fiscal 2013 and fiscal 2014, respectively. No customer accounted for more than 10% of our total revenue in fiscal 2012 or 2013. One solar customer, Standard Alternative LLC, accounted for 23% of our fiscal 2014 revenue. To the extent that large retrofit and roll-out projects become a greater component of our total revenue, we may experience more customer concentration in given periods. The loss of, or substantial reduction in sales volume to, any of our significant customers could have a material adverse effect on our total revenue in any given period and may result in significant annual and quarterly revenue variations. Our level of total revenue for any given period is dependent upon a number of factors, including (i) the demand for our new LED products and services; (ii) the customer acceptance and adoption rate of our new LED products; (iii) the demand for our products and systems, including our OTA programs; (iv) the number and timing of large retrofit and multi-facility retrofit, or "roll- 28



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out," projects; (v) the rate at which we expand our direct salesforce and the amount of time that it takes for them to become productive; (vi) our ability to realize revenue from our services; (vii) market conditions; (viii) the level of our wholesale sales; (ix) our execution of our sales process; (x) our ability to compete in a highly competitive market and our ability to respond successfully to market competition; (xi) the selling price of our products and services; (xii) changes in capital investment levels by our customers and prospects; (xiii) government delays; and (xiv) customer sales and budget cycles. As a result, our total revenue may be subject to quarterly variations and our total revenue for any particular fiscal quarter may not be indicative of future results. Backlog. We define backlog as the total contractual value of all firm orders and OTA contracts received for our lighting products and services where delivery of product or completion of services has not yet occurred as of the end of any particular reporting period. Such orders must be evidenced by a signed proposal acceptance or purchase order from the customer. Our backlog does not include PPAs or national contracts that have been negotiated, but under which we have not yet received a purchase order for the specific location. As of March 31, 2012, we had a backlog of firm purchase orders of approximately $41 million, which included $36.1 million of solar PV orders. As of March 31, 2013, we had a backlog of firm purchase orders of approximately $21.9 million, which included $20.2 million of solar PV orders. As of March 31, 2014, we had a backlog of firm purchase orders of approximately $2.7 million, which included $1.1 million of solar PV orders. We expect $1.0 million of our $1.1 million solar backlog as of March 31, 2014 to be converted into revenue during fiscal 2015. We generally expect this level of firm purchase order backlog related to HIF and LED lighting systems to be converted into revenue within the following quarter. We generally expect our firm purchase order backlog related to solar PV systems to be recognized within the following three to 15 months from the time construction of the system begins, although during fiscal 2012, we received an $18.3 million single order for which the solar PV system construction did not begin until our fiscal 2014. As a result of the decreased volume of our solar PV orders, the continued lengthening of our customer's purchasing decisions because of uncertainty over the timing of adoption of LED products, current recessed economic conditions and related factors, the continued shortening of our installation cycles and the declining number of projects sold through OTAs, a comparison of backlog from period to period is not necessarily meaningful and may not be indicative of actual revenue recognized in future periods. Cost of Revenue. Our total cost of revenue consists of costs for: (i) raw materials, including sheet, coiled and specialty reflective aluminum; (ii) electrical components, including ballasts, power supplies, lamps and LED chips and components; (iii) materials for sales of solar PV systems through our engineered systems division, including solar panels, inverters and wiring; (iv) wages and related personnel expenses, including stock-based compensation charges, for our fabricating, coating, assembly, logistics and project installation service organizations; (v) manufacturing facilities, including depreciation on our manufacturing facilities and equipment, taxes, insurance and utilities; (vi) warranty expenses; (vii) installation and integration; and (viii) shipping and handling. Our cost of aluminum can be subject to commodity price fluctuations, which we attempt to mitigate through the recycling of old scrap fixtures through our facility which contain similar content of aluminum when compared to our new fixtures. We also purchase many of our electrical components through forward purchase contracts. We buy most of our specialty reflective aluminum from a single supplier. We buy most of our LED chips from a single supplier, although we believe we could obtain sufficient quantities of these raw materials on a price and quality competitive basis from other suppliers if necessary. We use multiple suppliers for our electronic component purchases, including ballasts. drivers and lamps. Purchases from our previous primary supplier of ballast and lamp components constituted 14%, 4%, and 7% of our total cost of revenue in fiscal 2012, fiscal 2013 and fiscal 2014, respectively. Our cost of revenue from OTA projects is recorded upon customer acceptance and acknowledgement that the system is operating as specified. Our production labor force is non-union and, as a result, our production labor costs have been relatively stable. We have been expanding our network of qualified third-party installers to realize efficiencies in the installation process. During fiscal 2012, we reduced headcount and improved production product flow through re-engineering of our assembly stations. During fiscal 2013, we reduced indirect headcount as part of our cost containment initiative. During fiscal 2014, we aggressively focused on cost containment initiatives related to material product costs, service margin expansion and the implementation of lean manufacturing methodologies to reduce production costs in our manufacturing facility. Additionally, we consolidated Harris' Florida manufacturing operations into our Wisconsin facility. Gross Margin. Our gross profit has been, and will continue to be, affected by the relative levels of our total revenue and our total cost of revenue, and as a result, our gross profit may be subject to quarterly variation. Our gross profit as a percentage of total revenue, or gross margin, is affected by a number of factors, including: (i) our level of utilization of our manufacturing facilities and production equipment and related absorption of our manufacturing overhead costs; (ii) our mix of large retrofit and multi-facility roll-out projects with national accounts; (iii) our realization rate on our billable services; (iv) our project pricing; (v) our level of warranty claims; (vi) our level of solar PV sales which have greater margin volatility due to recent decreases in product costs versus our traditional energy management systems; and (vii) our level of efficiencies from our subcontracted installation service providers. Operating Expenses. Our operating expenses consist of: (i) general and administrative expenses; (ii) acquisition related expenses; (iii) sales and marketing expenses; and (iv) research and development expenses. Personnel related costs are our largest operating expense. In fiscal 2013, we decreased headcount as part of our cost containment initiatives. In fiscal 2014, we increased headcount in our sales areas for in-market sales employees. In fiscal 2015, we expect to continue to increase headcount in our sales areas for in-market sales employees. 29



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Our general and administrative expenses consist primarily of costs for: (i) salaries and related personnel expenses, including stock-based compensation charges related to our executive, finance, human resource, information technology and operations organizations; (ii) public company costs, including investor relations, external audit and internal audit; (iii) occupancy expenses; (iv) professional services fees; (v) technology related costs and amortization; (vi) asset impairment charges; and (vii) corporate-related travel. Our acquisition and integration related expenses consist primarily of costs for: (i) variable purchase accounting expenses for contingent consideration; (ii) legal and accounting costs; and (iii) integration expenses. Our sales and marketing expenses consist primarily of costs for: (i) salaries and related personnel expenses, including stock-based compensation charges related to our sales and marketing organization; (ii) internal and external sales commissions and bonuses; (iii) travel, lodging and other out-of-pocket expenses associated with our selling efforts; (iv) marketing programs; (v) pre-sales costs; (vi) bad debt; and (vii) other related overhead. Our research and development expenses consist primarily of costs for: (i) salaries and related personnel expenses, including stock-based compensation charges, related to our engineering organization; (ii) payments to consultants; (iii) the design and development of new energy management products and enhancements to our existing energy management system; (iv) quality assurance and testing; and (v) other related overhead. We expense research and development costs as incurred. In fiscal 2012, we invested in sales expansion initiatives, including the creation of a telemarketing call center for the purpose of customer lead generation, the establishment of a sales office and hiring of personnel in Houston, Texas and headcount additions to our retail sales force and our engineered systems division. During the back half of fiscal 2013, we initiated cost containment efforts that reduced expenses related to compensation, consulting and other discretionary spending. We expense all pre-sale costs incurred in connection with our sales process prior to obtaining a purchase order. These pre-sale costs may reduce our net income in a given period prior to recognizing any corresponding revenue. During fiscal 2014, we sold our leased corporate jet and consolidated our Plymouth location into our Manitowoc headquarters. We have been and intend to continue to invest in the expansion of our in-market sales force during fiscal 2015. We also intend to continue investing in our research and development of new and enhanced energy management products and services. We recognize compensation expense for the fair value of our stock option awards and restricted stock awards granted over their related vesting period. We recognized $1.3 million, $1.2 million, and $1.6 million of stock-based compensation expense in fiscal 2012, fiscal 2013 and fiscal 2014, respectively. As a result of prior option and restricted stock grants, including awards in fiscal 2014, we expect to recognize an additional $1.5 million of stock-based compensation over a weighted average period of approximately five years. These charges have been, and will continue to be, allocated to cost of product revenue, general and administrative expenses, sales and marketing expenses and research and development expenses based on the departments in which the personnel receiving such awards have primary responsibility. A substantial majority of these charges have been, and likely will continue to be, allocated to general and administrative expenses and sales and marketing expenses. Interest Expense. Our interest expense is comprised primarily of interest expense on outstanding borrowings under long-term debt obligations, including the amortization of previously incurred financing costs. We amortize deferred financing costs to interest expense over the life of the related debt instrument, ranging from one to ten years. Loss or Gain on Sale of Receivable. Our loss or gain on sale of receivables consists of losses or gains associated with sales of receivables from OTA contracts to a third party and the discounted value of the long-term payments associated with such sale. Interest Income. We report interest income earned from our financed OTA contracts and on our cash and cash equivalents and short term investments. For fiscal 2012, our interest income increased as a result of the increasing OTA finance contracts completed that we retained ownership of the contracts and the related interest charged to customers. For fiscal 2013 and fiscal 2014, our interest income declined as we began to decrease the number of OTA finance contracts where we retained the ownership of the contract. Instead, we elected to utilize our third party equipment finance providers directly and we recorded no interest income on those transactions. Income Taxes. As of March 31, 2014, we had net operating loss carryforwards of approximately $19.6 million for federal tax purposes and $15.8 million for state tax purposes. Included in these loss carryforwards were $3.5 million for federal and $4.5 million for state tax purposes of compensation expenses that were associated with the exercise of nonqualified stock options. The benefit from our net operating losses created from these compensation expenses has not yet been recognized in our financial statements and will be accounted for in our shareholders' equity as a credit to additional paid-in capital as the deduction reduces our income taxes payable. We also had federal tax credit carryforwards of approximately $1.5 million and state tax credits of $0.8 million as of March 31, 2014. A valuation allowance has been set up to reserve for our net operating losses and our tax credits. It is possible that we may not be able to utilize the full benefit of our state tax credits due to our state apportioned income and the potential expiration of the state tax credits due to the carry forward period. These federal and state net operating losses and credit carryforwards are available, subject to the discussion in the following paragraph, to offset future taxable income and, if not utilized, 30



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will begin to expire in varying amounts between 2020 and 2033. Our valuation allowance for deferred tax assets is based upon our cumulative three year operating losses. Generally, a change of more than 50% in the ownership of a company's stock, by value, over a three year period constitutes an ownership change for federal income tax purposes. An ownership change may limit a company's ability to use its net operating loss carryforwards attributable to the period prior to such change. In fiscal 2007 and prior to our IPO, past issuances and transfers of stock caused an ownership change for certain tax purposes. When certain ownership changes occur, tax laws require that a calculation be made to establish a limitation on the use of net operating loss carryforwards created in periods prior to such ownership change. There was no limitation that occurred for fiscal 2012, fiscal 2013 and fiscal 2014. We do not believe that this change will impact our overall ability to use our full remaining net operating loss carryforwards during the time period that they are available to us. Results of Operations The following table sets forth the line items of our consolidated statements of operations on an absolute dollar basis and as a relative percentage of our total revenue for each applicable period, together with the relative percentage change in such line item between applicable comparable periods set forth below: Fiscal Year Ended March 31, 2012 2013 2014 (Dollars in thousands) % of % of % % of % Amount Revenue Amount Revenue Change Amount Revenue Change Product revenue $ 90,782 90.3 % $ 72,604 84.3 % (20.0 )% $ 71,954 81.2 % (0.9 )% Service revenue 9,780 9.7 % 13,482 15.7 % 37.9 % 16,669 18.8 % 23.6 % Total revenue 100,562 100.0 % 86,086 100.0 % (14.4 )% 88,623 100.0 % 2.9 % Cost of product revenue 62,842 62.5 % 49,551 57.5 % (21.1 )% 54,423 61.4 % 9.8 % Cost of service revenue 7,682 7.6 % 9,805 11.4 % 27.6 % 11,220 12.7 % 14.4 % Total cost of revenue 70,524 70.1 % 59,356 68.9 % (15.8 )% 65,643 74.1 % 10.6 % Gross profit 30,038 29.9 % 26,730 31.1 % (11.0 )% 22,980 25.9 % (14.0 )% General and administrative expenses 11,399 11.3 % 13,946 16.2 % 22.3 % 14,951 16.9 % 7.2 % Acquisition and integration related expenses - - % - - % - % 819 0.9 % - % Sales and marketing expenses 15,599 15.5 % 17,129 19.9 % 9.8 % 13,527 15.3 % (21.0 )% Research and development expenses 2,518 2.6 % 2,259 2.7 % (10.3 )% 2,026 2.2 % (10.3 )% Income (loss) from operations 522 0.5 % (6,604 ) (7.7 )% (1,365.1 )% (8,343 ) (9.4 )% 26.3 % Interest expense (551 ) (0.5 )% (567 ) (0.6 )% 2.9 % (481 ) (0.5 )% (15.2 )% Gain on sale of OTA contract receivables 32 - % - - % (100.0 )% - - % - % Interest income 850 0.9 % 845 1.0 % (0.6 )% 567 0.6 % (32.9 )% Income (loss) before income tax 853 0.9 % (6,326 ) (7.3 )% (841.6 )% (8,257 ) (9.3 )% 30.5 % Income tax expense (benefit) 370 0.4 % 4,073 4.8 % 1,000.8 % (2,058 ) (2.3 )% (150.5 )% Net income (loss) and comprehensive income (loss) $ 483 0.5 % $ (10,399 ) (12.1 )%



(2,253.0 )% $ (6,199 ) (7.0 )% (40.4 )%

Consolidated Results Fiscal 2014 Compared to Fiscal 2013 Revenue. Product revenue decreased from $72.6 million for fiscal 2013 to $72.0 million for fiscal 2014, a decrease of $0.6 million, or 0.9%. Product revenue from energy efficiency lighting systems decreased from $62.5 million for fiscal 2013 to $59.8 million for fiscal 2014, a decrease of $2.7 million, predominantly occurring during our fiscal 2014 back half. We attribute the overall decline in product revenue during the back half of fiscal 2014 to delayed customer purchase decisions as a result of the continuing emergence of LED lighting solutions. Within our industrial customer base, LED product costs have been declining while performance, and the related energy reduction, has been improving. However, while return on investment for our customers 31



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using LED technology is improving, these products do not currently meet existing customer payback expectations of two years. We believe customers are delaying decisions as they continue to monitor and evaluate technology alternatives. We believe that these products will become more economically viable during the back half of calendar year 2014. Additionally, delays to project installations resulting from the government shutdown in October 2013 resulted in revenue reductions of approximately $2.0 million as installation crews were not allowed to access the project sites until late February 2014. Partially offsetting the decline in energy efficient lighting product revenue, product revenue from sales of solar PV systems increased from $10.1 million for fiscal 2013 to $12.2 million for fiscal 2014, an increase of $2.1 million. The increase in solar PV product revenue was due to the construction of a $20.0 million single landfill solar project during fiscal 2014. Service revenue increased from $13.5 million for fiscal 2013 to $16.7 million for fiscal 2014, an increase of $3.2 million, or 23.6%. The increase in service revenue was due to an increase in the number of installations resulting from the acquisition of Harris and $1.1 million from the related installation services resulting from our single landfill solar project installed during fiscal 2014. During fiscal 2014, we de-emphasized our solar sales efforts due to a decline in new solar project orders so that we can focus our efforts on the large LED retrofit market. Cost of Revenue and Gross Margin. Cost of product revenue increased from $49.6 million for fiscal 2013 to $54.4 million for fiscal 2014, an increase of $4.8 million, or 9.8%. Cost of service revenue increased from $9.8 million for fiscal 2013 to $11.2 million for fiscal 2014, an increase of $1.4 million, or 14.4%. Total gross margin decreased from 31.1% for fiscal 2013 to 25.9% for fiscal 2014. Gross margin from our HIF and LED integrated systems revenue for fiscal 2013 was 31.2% compared to 26.0% for fiscal 2014. For fiscal 2014, our gross margin declined due to reduced sales volumes of manufactured lighting products and the related impact of fixed expenses within our manufacturing facility, an increased mix of lower margin solar projects compared to the prior year and severance expenses of $0.1 million related to the acquisition of Harris. Additionally, during fiscal 2014, we recorded $2.0 million in expenses related to inventory reserves compared to $0.9 million in fiscal 2013. The increase in inventory reserve expense was due to the decline in HIF product revenue that occurred during the fourth quarter of fiscal 2014 and our expectations that LED products will become a larger portion of our future revenue. The reserve was based upon our evaluation of existing fluorescent component inventory levels, our historical usage trends and our expectations on future requirements. Our gross margin on solar PV revenues was 30.5% during fiscal 2013 compared to 25.6% during fiscal 2014. The decrease in solar PV gross margin percentage was due to the lower margin on our single landfill solar project in fiscal 2014 and some unusually high margin solar projects completed during fiscal 2013. Operating Expenses General and Administrative. Our general and administrative expenses increased from $13.9 million for fiscal 2013 to $15.0 million for fiscal 2014, an increase of $1.1 million, or 7.2%. The increase was due to a loss of $1.4 million from the sale of our corporate leased aircraft and including related aviation employee severance expenses, increased insurance expenses of $0.2 million, $0.6 million for the amortization of intangible assets resulting from the acquisition of Harris, $0.9 million for incremental operating expenses from the acquisition of Harris and $0.3 million in asset impairment expenses and contract terminations related to facility consolidations. These increases were partially offset by decreases due to prior year expenses of $1.2 million resulting from our reorganization, $0.6 million in reduced compensation and benefit expenses resulting from headcount reductions, $0.2 million in reduced legal expenses and $0.4 million in other reductions in discretionary spending. Acquisition and Integration Related Expenses. Our acquisition related expenses increased from none for fiscal 2013 to $0.8 million for fiscal 2014. The increase was due to $0.5 million of expenses incurred related to the acquisition of Harris which included $0.3 million for variable mark-to-market purchase accounting expenses related to the contingent consideration earn-out and $0.2 million for legal, accounting and integration related costs. We incurred $0.3 million in other acquisition related activities for legal and consulting activities. Sales and Marketing. Our sales and marketing expenses decreased from $17.1 million for fiscal 2013 to $13.5 million for fiscal 2014, a decrease of $3.6 million, or 21.0%. The decrease was due to reduced compensation and benefit expense of $1.7 million resulting from headcount reductions, reduced bad debt expense of $0.6 million, reorganization expenses incurred in fiscal 2013 of $0.3 million, $0.2 million in reduced depreciation expense and discretionary spending reductions of $2.2 million, offset by an increase in our sales commission expense of $0.1 million resulting from the revenue increase and incremental expenses of $1.3 million resulting from the acquisition of Harris. Research and Development. Our research and development expenses decreased from $2.3 million for fiscal 2013 to $2.0 million for fiscal 2014, a decrease of $0.3 million, or 10.3%. The decrease was due to a reduction in compensation expenses, consulting expenses and product testing costs related to our energy management controls initiatives. Interest Expense. Our interest expense decreased from $567,000 for fiscal 2013 to $481,000 for fiscal 2014, a decrease of $86,000, or 15.2%. The decrease in interest expense was due to the reduction in financed contract debt for our OTA projects compared to the prior year first half. Interest Income. Our interest income decreased from $845,000 for fiscal 2013 to $567,000 for fiscal 2014, a decrease of $278,000, or 32.9%. Our interest income decreased as we increased the utilization of third party finance providers for virtually 32



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all of our financed projects. We expect our interest income to continue to decrease as we continue to utilize third party finance providers for our OTA projects. Income Taxes. Our income tax expense decreased from $4.1 million for fiscal 2013 to an income tax benefit of $2.1 million for fiscal 2014, a decrease of $6.2 million, or 151%. During fiscal 2013, we recorded a valuation reserve against our deferred tax assets in the amount of $4.1 million due to uncertainty over the realization value of these assets in the future. During fiscal 2014, we reversed $2.3 million of our valuation reserve to offset deferred tax liabilities created by the acquisition of Harris. Our effective income tax rate for fiscal 2014 was 24.9%, compared to (64.4)% for fiscal 2013. The change in effective rate was due primarily to the changes in the valuation reserve and expected minimum state tax liabilities. Fiscal 2013 Compared to Fiscal 2012 Revenue. Product revenue decreased from $90.8 million for fiscal 2012 to $72.6 million for fiscal 2013, a decrease of $18.2 million, or 20.0%. The decrease in product revenue was due to a decrease of $12.9 million from our sales of solar PV systems. During fiscal 2012, we constructed several large solar PV systems and completed fewer projects of similar size during fiscal 2013. Additionally, material prices related to solar panels and materials decreased during fiscal 2013. Product revenue from energy efficiency projects decreased by $5.3 million, predominantly occurring during our fiscal 2013 first half on reduced direct market sales. Service revenue increased from $9.8 million for fiscal 2012 to $13.5 million for fiscal 2013, an increase of $3.7 million, or 37.9%. The increase in service revenue was due to an increase of $3.1 million from the related installation services resulting from solar PV systems installed during fiscal 2013. As mentioned above, as solar panel prices have declined, service revenue has become a higher percentage of the total revenue contracted from a solar PV project. Our service revenue from sales of our HIF energy efficiency systems increased $0.6 million as a result of the decrease in wholesale revenue from efficiency project sales. We believe that our HIF energy efficiency business continues to be challenged by a difficult capital spending environment. Cost of Revenue and Gross Margin. Cost of product revenue decreased from $62.8 million for fiscal 2012 to $49.6 million for fiscal 2013, a decrease of $13.2 million, or 21.1%. Cost of service revenue increased from $7.7 million for fiscal 2012 to $9.8 million for fiscal 2013, an increase of $2.1 million, or 27.6%. Total gross margin increased from 29.9% for fiscal 2012 to 31.1% for fiscal 2013. For fiscal 2013, our gross margin percentage increased due to improved project margins from sales of solar PV systems and to cost containment initiatives in our manufacturing operations during the back half of fiscal 2013. Our gross margin on renewable revenues was 18.2% during fiscal 2012 compared to 30.5% during fiscal 2013. The increase in gross margin percentage was due to negotiated contract cost reductions and efficiencies in our project management and contracted expenses. Gross margin from our HIF integrated systems revenue for fiscal 2012 was 34.5% compared to 31.2% for fiscal 2013. The decrease in HIF gross margin percentage was due to the decrease in HIF revenue occurring during the fiscal 2013 first half and the impact of our fixed manufacturing costs. Operating Expenses General and Administrative. Our general and administrative expenses increased from $11.4 million for fiscal 2012 to $13.9 million for fiscal 2013, an increase of $2.5 million, or 22.3%. The increase for fiscal 2013 was due to expenses of $1.9 million resulting from our reorganization initiatives, increased legal expenses related to unusual items of $1.1 million, increased compensation expenses of $0.4 million related to our second half of fiscal 2013 bonus plan and increased audit expenses of $0.2 million related to the re-audit of our fiscal 2011 financial statements. These increases in expenses were partially offset by headcount reductions and discretionary spending reductions that occurred during the second half of fiscal 2013. Sales and Marketing. Our sales and marketing expenses increased from $15.6 million for fiscal 2012 to $17.1 million for fiscal 2013, an increase of $1.5 million, or 9.8%. The increase was due to the full year impact incurred during the first half of fiscal 2013 of headcount additions from our prior year investment into the formation and staffing of our telemarketing function, the establishment and staffing of our Houston technology center, headcount additions for sales and project management to support the increase in our solar PV backlog and headcount additions for in-market efficiency sales. We reduced headcount in the back half of fiscal 2013 as part of our cost reduction initiatives. Additional increases were due to commission expense from solar projects of $0.4 million, increased depreciation of $0.3 million due to investments in information systems, increased severance expense of $0.2 million due to headcount reductions and a $0.2 million increase in bad debt versus the prior year. Research and Development. Our research and development expenses decreased from $2.5 million for fiscal 2012 to $2.3 million for fiscal 2013, a decrease of $0.2 million, or 10.3%. The decrease was due to decreased consulting expenses and reduced development and product testing costs related to our energy management controls initiatives. Interest Expense. Our interest expense increased from $551,000 for fiscal 2012 to $567,000 for fiscal 2013, an increase of $16,000, or 2.9%. The increase in our interest expense was due to the full year impact of additional debt funding completed during fiscal 2012 for the purpose of financing our OTA projects. Gain on sale of receivables. Our gain from the sale of receivables from our OTA contracts decreased from $32,000 for fiscal 2012 to $0 for fiscal 2013. Due to the establishment of multiple financing arrangements for OTAs during fiscal 2012 and 2013, in future periods, we do not expect to sell OTA contracts at levels similar to fiscal 2011 or fiscal 2012. 33



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Interest Income. Our interest income was relatively unchanged from fiscal 2012 to fiscal 2013. In the future, we expect our interest income to decrease as we continue to utilize third party finance providers for our OTA projects. Income Taxes. Our income tax expense increased from $0.4 million for fiscal 2012 to income tax expense of $4.1 million for fiscal 2013, an increase of $3.7 million, or 1,000.8%. During fiscal 2013, we recorded a valuation reserve against our deferred tax assets in the amount of $4.1 million due to uncertainty over the realization value of these assets in the future. Our effective income tax rate for fiscal 2012 was 43.3%, compared to (64.4)% for fiscal 2013. The change in effective rate was due primarily to the impact of the valuation reserve. Energy Management Segment The following table summarizes the energy management segment operating results: For the year ended March 31, (dollars in thousands) 2012 2013 2014 Revenues $ 72,097$ 67,437$ 66,793 Operating income $ 4,974$ 245$ (1,743 ) Operating margin 6.9 % 0.4 % (2.6 )% Fiscal 2014 Compared to Fiscal 2013 Energy management segment revenue decreased from $67.4 million for fiscal 2013 to $66.8 million for fiscal 2014, a decrease of $0.6 million, or 0.9%. The decrease was due to decreased sales of our HIF lighting systems due to delayed customer purchase decisions, which we attribute to the emergence of LED lighting solutions. We believe customers are delaying decisions as they continue to monitor and evaluate technology alternatives. Energy management segment operating income decreased from $0.2 million for fiscal 2013 to an operating loss of $1.7 million for fiscal 2014, a decrease of $1.9 million, or 811.4%. The decrease in operating income for fiscal 2014 was a result of the decreased revenue from manufactured lighting products and the related impact of fixed manufacturing facility expenses, expense for inventory reserves in the amount of $2.0 million resulting from lower fluorescent product sales and an increase in amortization expense of intangible assets which resulted from the acquisition of Harris. Fiscal 2013 Compared to Fiscal 2012 Energy management segment revenue decreased from $72.1 million for fiscal 2012 to $67.4 million for fiscal 2013, a decrease of $4.7 million, or 6.5%. The decrease was due to decreased sales of our HIF lighting systems due to capital spending constraints resulting from a challenging economic environment. Energy management segment operating income decreased from $5.0 million for fiscal 2012 to $0.2 million for fiscal 2013, a decrease of $4.8 million, or 95.1%. The decrease in operating income for fiscal 2013 was a result of the decreased revenue and the increase in selling and marketing expense resulting from the headcount additions for our telemarketing and retail sales initiatives that occurred during the first half of fiscal 2013. Engineered Systems Segment The following table summarizes the engineered systems segment operating results: For the year ended March 31, (dollars in thousands) 2012 2013 2014 Revenues $ 28,465$ 18,649$ 21,830 Operating income $ 569$ 671$ 1,991 Operating margin 2.0 % 3.6 % 9.1 % Fiscal 2014 Compared to Fiscal 2013 Engineered systems segment revenue increased from $18.6 million for fiscal 2013 to $21.8 million for fiscal 2014, an increase of $3.2 million, or 17.1%. The increase was due to the construction of a single large landfill solar project during fiscal 2014. Additionally, we did not sign any new significant contracts during fiscal 2014 as a result of expired federal cash grants, uncertainty over supply and costs of solar panels and reductions in state and utility incentives. Engineered systems segment operating income increased from $0.7 million for fiscal 2013 to $2.0 million of operating income for fiscal 2014, an increase of $1.3 million, or 196.7%. The increase in operating income for fiscal 2014 was a result of the increase in revenue and the related gross margin contribution and a reduction in operating expenses as we began to de-emphasize 34



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our solar business and redeploy personnel to our energy management division to address the LED lighting retrofit market opportunity. Fiscal 2013 Compared to Fiscal 2012 Engineered systems segment revenue decreased from $28.5 million for fiscal 2012 to $18.6 million for fiscal 2013, a decrease of $9.9 million, or 34.5%. The decrease was due to a decrease in the number of and the relative size of the renewable PV systems under construction during fiscal 2013 versus the prior year. Additionally, we did not sign any new significant contracts during fiscal 2013 as a result of expired federal cash grants, uncertainty over supply and costs of solar panels and reductions in state and utility incentives. Engineered systems segment operating income increased from $0.6 million for fiscal 2012 to $0.7 million of operating income for fiscal 2013, an increase of $0.1 million, or 17.9%. The increase in operating income for fiscal 2013 was a result of an improvement in managing contract costs related to our project and construction management activities. Quarterly Results of Operations The following tables present our unaudited quarterly results of operations for the last eight fiscal quarters in the period ended March 31, 2014 (i) on an absolute dollar basis (in thousands) and (ii) as a percentage of total revenue for the applicable fiscal quarter. You should read the following tables in conjunction with our consolidated financial statements and related notes contained elsewhere in this Form 10-K. In our opinion, the unaudited financial information presented below has been prepared on the same basis as our audited consolidated financial statements, and includes all adjustments, consisting only of normal recurring adjustments, that we consider necessary for a fair presentation of our operating results for the fiscal quarters presented. Operating results for any fiscal quarter are not necessarily indicative of the results for any future fiscal quarters or for a full fiscal year.



For the Three Months Ended

Jun 30, 2012 Sep 30, 2012 Dec 31, 2012



Mar 31, 2013Jun 30, 2013Sep 30, 2013Dec 31, 2013Mar 31, 2014

(in thousands, unaudited) Product revenue $ 13,580$ 16,931$ 22,660$ 19,433$ 17,523$ 21,181$ 22,380$ 10,870 Service revenue 1,730 2,477 6,427 2,848 3,329 6,314 5,312 1,714 Total revenue 15,310 19,408 29,087 22,281 20,852 27,495 27,692 12,584 Cost of product revenue 9,597 11,867 15,708 12,379 12,884 15,638 15,742



10,159

Cost of service revenue 1,340 1,736 4,798 1,931 2,245 4,028 3,800 1,147 Total cost of revenue 10,937 13,603 20,506 14,310 15,129 19,666 19,542 11,306 Gross profit 4,373 5,805 8,581 7,971 5,723 7,829 8,150 1,278 General and administrative expenses 3,302 4,638 2,848 3,158 2,759 3,173 3,277 5,817 Acquisition and integration related - - - - - 356 88 300 Sales and marketing expenses 3,952 4,561 4,730 3,886 3,303 3,644 3,397 3,183 Research and development expenses 697 710 427 425 490 448 478 610 Income (loss) from operations (3,578 ) (4,104 ) 576 502 (829 ) 208 910 (8,632 ) Interest expense (161 ) (142 ) (138 ) (126 ) (113 ) (142 ) (123 ) (103 ) Interest income 225 218 213 189 174 153 132 108 Income (loss) before income tax (3,514 ) (4,028 ) 651 565 (768 ) 219 919 (8,627 ) Income tax expense (benefit) (1,574 ) 5,631 - 16 13 (2,184 ) (99 ) 212 Net income (loss) and comprehensive income (loss) $ (1,940 )$ (9,659 )$ 651$ 549$ (781 )$ 2,403$ 1,018$ (8,839 ) 35



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Jun 30, 2012 Sep 30, 2012 Dec 31, 2012



Mar 31, 2013Jun 30, 2013Sep 30, 2013Dec 31, 2013Mar 31, 2014

(in thousands, unaudited) Product revenue 88.7 % 87.2 % 77.9 % 87.2 % 84.0 % 77.0 % 80.8 % 86.4 % Service revenue 11.3 % 12.8 % 22.1 % 12.8 % 16.0 % 23.0 % 19.2 % 13.6 % Total revenue 100.0 % 100.0 % 100.0 %



100.0 % 100.0 % 100.0 % 100.0 % 100.0 % Cost of product revenue 62.7 % 61.1 % 54.0 %

55.6 % 61.8 % 56.9 % 56.9 % 80.7 % Cost of service revenue 8.7 %

9.0 % 16.5 % 8.6 % 10.8 % 14.6 % 13.7 % 9.1 % Total cost of revenue 71.4 % 70.1 % 70.5 % 64.2 % 72.6 % 71.5 % 70.6 % 89.8 % Gross margin 28.6 % 29.9 % 29.5 % 35.8 % 27.4 % 28.5 % 29.4 % 10.2 % General and administrative expenses 21.6 % 23.9 % 9.8 % 14.2 % 13.2 % 11.5 % 11.8 % 46.2 % Acquisition and integration related expenses 0.0 % 0.0 % 0.0 % 0.0 % 0.0 % 1.3 % 0.3 % 2.4 % Sales and marketing expenses 25.8 % 23.5 % 16.3 % 17.4 % 15.9 % 13.3 % 12.3 % 25.3 % Research and development expenses 4.6 % 3.6 % 1.4 % 1.9 % 2.3 % 1.6 % 1.7 % 4.9 % Income (loss) from operations (23.4 )% (21.1 )% 2.0 % 2.3 % (4.0 )% 0.8 % 3.3 % (68.6 )% Interest expense (1.1 )% (0.8 )% (0.5 )% (0.6 )% (0.5 )% (0.6 )% (0.5 )% (0.9 )% Interest income 1.5 % 1.1 % 0.7 % 0.8 % 0.8 % 0.6 % 0.5 % 0.9 % Income (loss) before income tax (23.0 )% (20.8 )% 2.2 % 2.5 % (3.7 )% 0.8 % 3.3 % (68.6 )% Income tax expense (benefit) (10.3 )% 29.0 % 0.0 % 0.0 % 0.0 % (7.9 )% (0.4 )% 1.6 % Net income (loss) and comprehensive income (loss) (12.7 )% (49.8 )% 2.2 % 2.5 % (3.7 )% 8.7 % 3.7 % (70.2 )% Our total revenue can fluctuate from quarter to quarter depending on the purchasing decisions of our customers and our overall level of sales activity. Historically, our energy management customers have tended to increase their purchases near the beginning or end of their capital budget cycles, which tend to correspond to the beginning or end of the calendar year. As a result, we have in the past experienced lower relative total revenue in our fiscal first and second quarters and higher relative total revenue in our fiscal third quarter. Our more recent engineered systems solar revenues have resulted in higher total revenue during our fiscal second and third quarters due to construction seasons and system installation progress occurring during those periods. We expect that there may be future variations in our quarterly total revenue depending on our level of national account roll-out projects, acquisitions, wholesale sales and our de-emphasis of PV solar systems projects. Our results for any particular fiscal quarter may not be indicative of results for other fiscal quarters or an entire fiscal year. Liquidity and Capital Resources Overview We had approximately $17.6 million in cash and cash equivalents and $0.5 million in short-term investments as of March 31, 2014 compared to $14.4 million in cash and cash equivalents and $1.0 million in short-term investments as of March 31, 2013. Our cash equivalents are invested in money market accounts and bank certificates of deposits with maturities of less than 90 days and an average yield of 0.24%. Our short-term investment account consists of a bank certificate of deposit in the amount of $0.5 million with an expiration date of June 2014 and a yield of 0.5%. Our increase in cash during fiscal 2014 was primarily due to effective working capital management through decreased inventories and increased cash collections. Our decrease in cash during fiscal 2013 was primarily due to our repurchase of common stock in the amount of $6.0 million and our capital spending of $2.2 million. In October 2012, we halted our common share repurchase program and our capital spending has declined significantly. We believe these activities stabilized our previously declining cash balance. In July 2013, we acquired Harris. The preliminary purchase price for the acquisition was approximately $10.8 million. The purchase price was paid through a combination of $5.0 million in cash, $3.1 million of a seller-financed three-year unsecured subordinated note and 856,997 shares of our unregistered common stock , representing a fair value on the date of issuance of $2.1 million. We also agreed to issue up to $1.0 million of our unregistered common stock if Harris met certain financial targets through December 31, 2014. In October 2013, we completed an amendment to modify the Harris purchase agreement to fix the value of future earn-out consideration at $1.4 million. In January 2014, we issued an aggregate of 83,943 shares of our common stock, representing a fair value on the date of issuance of $0.6 million. Additionally, we will pay $0.8 million in cash on January 1, 2015 as final payment for the acquisition of Harris. We believe our existing cash balances are sufficient to meet our remaining payment obligations and to fund Harris' expected near-term working capital requirements. In May 2014, we sold our building and equipment located in Plymouth, Wisconsin as we consolidated our Wisconsin operations into our corporate headquarters located in Manitowoc, Wisconsin. The sale resulted in net proceeds, after commissions and expenses, of approximately $1.0 million. The Plymouth building was classified as an asset held for sale beginning in March 2014. The effect of suspending depreciation was immaterial due to the short duration of time that the building was for sale. 36



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During fiscal 2012, we entered into an arrangement with a national equipment finance company to provide immediate non-recourse funding of pre-credit approved OTA finance contracts upon project completion and customer acceptance. Additionally, we completed a $5.0 million OTA line-of-credit with immediate availability for the purpose of funding OTA projects upon the project completion and customer acceptance, for which we choose to hold the contracts internally. Our OTA credit agreement expired September 30, 2012 for new borrowings, but not for amounts previously drawn. We have multiple funding sources for our OTA projects. During fiscal 2013, 73.3% of our total completed OTAs were financed by the purchase directly with third party equipment finance companies. During fiscal 2014, 94.3% of our total completed OTAs were financed by the purchase directly with third party equipment finance companies. In the future, we do not intend to fund OTA contracts through debt borrowings. We believe that having external sources to purchase the OTA contracts out-right, has greatly reduced the cash strain created by funding these contracts ourselves and is no longer an impediment to our ability to increase the number of OTA contracts we complete in the future. In January 2014, we filed a universal shelf registration statement with the Securities and Exchange Commission. Under our shelf registration statement, we have the flexibility to publicly offer and sell from time to time up to $75 million of debt and/or equity securities. The filing of the shelf registration statement will help facilitate our ability to raise public equity or debt capital to expand existing businesses, fund potential acquisitions, invest in other growth opportunities, or repay existing debt. The return to a recessionary state of the global economy could potentially have negative effects on our near-term liquidity and capital resources, including slower collections of receivables, delays of existing order deliveries and postponements of incoming orders. However, we believe that our existing cash and cash equivalents, our anticipated cash flows from operating activities and our borrowing capacity under our revolving credit facility with J.P. Morgan Chase Bank, N.A. will be sufficient to meet our anticipated cash needs for the next 12 months. As a result of the $17.6 million in cash and cash equivalents as of March 31, 2014, we do not anticipate drawing on our revolving line of credit nor do we expect to use significant amounts of our cash balances for operating activities during fiscal 2015. Our future working capital requirements thereafter will depend on many factors, including our rate of revenue, our rate of OTA growth and our ability to maintain external funding for our OTA contracts, our introduction of new products and services and enhancements to our existing energy management system, the timing and extent of expansions of our sales force and other administrative and production personnel, the timing and extent of advertising, branding and promotional campaigns, legal expenses and our research and development activities. Cash Flows The following table summarizes our cash flows for our fiscal 2012, fiscal 2013 and fiscal 2014: Fiscal Year Ended March 31, 2012 2013 2014 (in thousands) Operating activities $ 11,495$ 2,261$ 9,901 Investing activities (4,532 ) (2,271 ) (4,814 ) Financing activities 4,488 (8,625 ) (1,895 ) (Decrease) increase in cash and cash equivalents $ 11,451$ (8,635 )



$ 3,192

Cash Flows Related to Operating Activities. Cash used in operating activities primarily consist of net income (loss) adjusted for certain non-cash items including depreciation and amortization, stock-based compensation expenses, income taxes and the effect of changes in working capital and other activities. Cash provided from operating activities for fiscal 2014 was $9.9 million and consisted of net cash provided by changes in operating assets and liabilities of $8.0 million and net income adjusted for non-cash expense items of $1.9 million. Cash provided by changes in operating assets and liabilities consisted of a decrease of $4.0 million in inventory on decreased purchases of lighting components, predominantly fluorescent ballasts, lamps, wireless controls and motion sensors, a decrease in deferred contract costs of $1.4 million due to the timing of project completions and a decrease in accounts receivable of $8.4 million related to customer collections. Cash used from changes in operating assets and liabilities included a $1.1 million increase in prepaid expenses and other for unbilled revenue related to solar projects, a decrease in accounts payable of $0.8 million on reduced inventory purchases, a $2.3 million decrease in deferred revenue due to the decline in solar project activity and a decrease in accrued expenses due to a decrease in accrued reorganization expenses. Cash provided from operating activities for fiscal 2013 was $2.3 million and consisted of net cash provided by changes in operating assets and liabilities of $1.1 million and a net loss adjusted for non-cash expense items of $1.2 million. Cash provided by changes in operating assets and liabilities consisted of a decrease of $2.9 million in inventory on decreased purchases of lighting components, predominantly fluorescent lamps and ballasts, a decrease in accounts receivable of $2.5 million on increased collections, an increase in accrued expenses of $2.2 million due to the timing of reorganization expenses, accrued bonus expenses and increased accrued legal expenses, and a decrease in prepaid and other assets of $1.3 million for unbilled revenue related to 37



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solar projects where construction progress is billed to the customer at the beginning of the month following the month in which the work was performed. Cash used from changes in operating assets and liabilities included a $6.5 million decrease in accounts payable due to payments during the second half of fiscal 2013 resulting from the settlement of vendor disputes and a decrease in deferred revenue of $1.5 million due to the timing of advanced billings and the achievement of performance criteria for revenue recognition. Cash provided by operating activities for fiscal 2012 was $11.5 million and consisted of net cash of $5.9 million provided from changes in working capital and net income adjusted non-cash expenses of $5.6 million. Cash provided by working capital improvements was primarily due to the completion of contracts and a reduction in deferred project costs, improved collections of our accounts receivable and an increase in accounts payable related to payment terms on inventory purchases during the fiscal 2012 fourth quarter. These benefits were partially offset by a decrease in deferred revenue related to project completions and an increase in inventory for purchases of fluorescent lamps as described in the section below. Cash Flows Related to Investing Activities. Cash used in investing activities was $4.5 million, $2.3 million and $4.8 million for fiscal 2012, 2013 and 2014, respectively. In fiscal 2014, we invested $5.0 million for the acquisition of Harris and $0.4 million for capital improvements related to product development tooling and information technology systems. Cash provided from investing activities included $0.5 million for the sales of short-term investments and $0.1 million in proceeds from the sale of assets. In fiscal 2013, we invested $2.2 million for capital improvements related to our product development, information technology systems, manufacturing improvements and facility investments and $0.2 million for investment in patent activities. In fiscal 2012, we invested $4.3 million for capital improvements related to our information systems, facilities, renewables and manufacturing improvements and $0.2 million for patent investments. Cash Flows Related to Financing Activities. Cash used in financing activities was $1.9 million for fiscal 2014. This included $3.2 million for repayment of long-term debt. Cash flows provided by financing activities included $1.1 million received from stock option exercises and $0.2 million from shareholder note repayments. Cash used in financing activities was $8.6 million for fiscal 2013. This included $6.0 million used for repurchases of shares of our common stock and $3.2 million for repayment of long-term debt. In October 2012, we halted our common stock repurchase program. Cash flows provided by financing activities included $0.4 million in new short-term debt borrowings to fund equipment lease buyouts, $0.1 million received from stock option exercises and shareholder note repayments and $0.1 million for excess tax benefits from stock based compensation. Cash provided by financing activities was $4.5 million for fiscal 2012. This included $6.0 million in new debt borrowings to fund OTA projects, $0.2 million received from stock option and warrant exercises, $1.0 million for excess tax benefits from stock based compensation and $0.1 million from the collection of shareholder notes. Cash flows used in financing activities included $1.9 million for repayment of long-term debt, $0.7 million used for common share repurchases and $0.1 million for costs related to our new OTA credit agreement. Working Capital Our net working capital as of March 31, 2014 was $33.1 million, consisting of $50.3 million in current assets and $17.2 million in current liabilities. Our net working capital as of March 31, 2013 was $33.9 million, consisting of $52.7 million in current assets and $18.8 million in current liabilities. Our current accounts receivables decreased from our prior fiscal year end by $3.3 million as a result of lower revenue during the fiscal 2014 fourth quarter. Our current inventory decreased by $2.5 million on reduced inventory spending and increased inventory reserves, which was net of $1.0 million of incremental Harris inventory. Our prepaid and other expenses increased by $2.2 million due to an increase of $1.0 million related to a reclassification from property, plant and equipment of our Plymouth building which was a held for sale asset and an increase of $1.2 million in unbilled revenue related to the timing of billing on solar projects. Our accounts payable increased from our fiscal 2013 year end by $0.8 million due primarily to the acquisition of Harris and related payables. Our accrued expenses decreased from our fiscal 2013 year end by $0.9 million due to the payment of $1.0 million in accrued settlement expenses and an increase of $0.2 million in accrued legal and other expenses. Our deferred revenue decreased from our fiscal 2013 year end by $2.3 million as we neared completion of the construction of our solar landfill project. During our fiscal 2014 fourth quarter, we experienced a decline in revenue from sales of our HIF lighting systems. Due to this decline in HIF product revenue and our expectations that LED products will become a larger portion of our future revenue, we recorded expense of $1.4 million to our inventory obsolescence reserve during the fiscal 2014 fourth quarter and a total of $2.0 million in expense for inventory obsolescence reserves during fiscal 2014. This reserve was based upon our evaluation of existing fluorescent component inventory levels, our historical usage trends and our expectations on future requirements. During fiscal 2013, we decreased our inventories by $2.9 million as we reduced our safety stock levels of electronic components and fluorescent lamps after assessing that previous concerns over shortages of rare earth minerals were no longer negatively impacting the production of fluorescent lamps. 38



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During fiscal 2012, we had increased our inventories of fluorescent lamps by $2.2 million due to concerns over shortages of rare earth minerals used in the production of fluorescent lamps. We are continually monitoring supply side concerns within the electronic components market and believe that our current inventory levels are sufficient to protect us against the risk of being unable to deliver product as specified by our customers' requirements. We are continually monitoring supply side concerns through conversations with our key vendors and currently believe that supply availability concerns appear to have subsided. In the future, we intend to continue to reduce inventories, specifically our wireless controls product inventories. We generally attempt to maintain at least a three-month supply of on-hand inventory of purchased components and raw materials to meet anticipated demand, as well as to reduce our risk of unexpected raw material or component shortages or supply interruptions. Our accounts receivables, inventory and payables may increase to the extent our revenue and order levels increase. Indebtedness On June 30, 2010, we entered into a credit agreement, which we refer to herein as the Credit Agreement, with JP Morgan Chase Bank, N.A., whom we refer to herein as JP Morgan. The Credit Agreement provides for a revolving credit facility, which we refer to herein as the Credit Facility, that matures on August 30, 2014. Borrowings under the Credit Facility are limited to (i) $15.0 million or (ii) during periods in which the outstanding principal balance of outstanding loans under the Credit Facility is greater than $5.0 million, the lesser of (A) $15.0 million or (B) the sum of 75% of the outstanding principal balance of certain accounts receivable and 45% of certain inventory. We also may cause JP Morgan to issue letters of credit for our account in the aggregate principal amount of up to $2.0 million, with the dollar amount of each issued letter of credit counting against the overall limit on borrowings under the Credit Facility. As of March 31, 2014, we had no outstanding letters of credit issued. The Credit Agreement, as amended, requires us to maintain (i) a ratio of total liabilities to tangible net worth not to exceed 0.50 to 1.00 as of the last day of any fiscal quarter, (ii) average daily unencumbered liquidity of at least $20.0 million during each period of three consecutive business days, (iii) a debt service coverage ratio of greater than 1.25 to 1.00 as of the last day of any fiscal quarter and (iv) a funded debt to EBITDA ratio of less than 2.5 to 1.0 as of the last day of any fiscal quarter. The Credit Agreement also contains certain restrictions on our ability to make capital or lease expenditures over prescribed limits, incur additional indebtedness, consolidate or merge, guarantee obligations of third parties, make loans or advances, declare or pay any dividend or distribution on our stock, and redeem or repurchase shares of our stock or pledge assets. We had no outstanding borrowings under the Credit Facility as of March 31, 2014. We were not in compliance with our line of credit covenant requirements related to debt service coverage ratio and funded debt to EBITDA ratio as of March 31, 2014 but have received a waiver for the covenant defaults. The Credit Agreement is secured by a first lien security interest in our accounts receivable, inventory and general intangibles, and a second lien priority in our equipment and fixtures. All OTAs, PPAs, leases, supply agreements and/or similar agreements relating to solar photovoltaic and wind turbine systems or facilities, as well as all of our accounts receivable and assets related to the foregoing, are excluded from these liens. Borrowings under the Credit Agreement bear interest based on LIBOR plus an applicable margin (the Applicable Margin), which ranges from 2.0% to 3.0% per annum based on our debt service coverage ratio from time to time. We must pay a fee ranging between 0.25% and 0.50% per annum on the average daily unused amount of the Credit Facility (with the amount of such fee based on our debt service coverage ratio from time to time) and a fee in the amount of the Applicable Margin on the daily average face amount of undrawn issued letters of credit. The fee on unused amounts is waived if we or our affiliates maintain funds on deposit with JP Morgan or its affiliates above a specified amount. The deposit threshold requirement was met as of March 31, 2014. In July 2013, we issued an unsecured and subordinated promissory note in the principal amount of $3.1 million to help fund our acquisition of Harris. The note bears interest at the rate of 4% per annum, is payable in quarterly installments of principal and interest and matures in July 2016. In addition to our Credit Facility, we also have other existing long-term indebtedness and obligations under various debt instruments, including pursuant to a bank first mortgage, a debenture to a community development organization, a federal block grant loan, two city industrial revolving loans, three notes for funding OTA contracts and a credit facility for the sole purpose of funding OTA contracts. As of March 31, 2014, the total amount of principal outstanding on these various obligations, including the Harris sellers note, was $6.6 million. These obligations have varying maturity dates between 2014 and 2024 and bear interest at annual rates of between 2.0% and 7.85%. The weighted average annual interest rate of such obligations as of March 31, 2014 was 5.0%. Based on interest rates in effect as of March 31, 2014, we expect that our total debt service payments on such obligations for fiscal 2015, including scheduled principal, lease and interest payments, but excluding any repayment of borrowings on the Credit Facility, will approximate $4.0 million. Except for the Harris sellers' note, all of these obligations are subject to security interests on our assets. Several of these obligations have covenants, such as customary financial and restrictive covenants, including maintenance of a minimum debt service coverage ratio; a minimum current ratio; quarterly rolling net income requirement; limitations on executive compensation and advances; limits on capital expenditures per year; limits 39



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on distributions; and restrictions on our ability to make loans, advances, extensions of credit, investments, capital contributions, incur additional indebtedness, create liens, guaranty obligations, merge or consolidate or undergo a change in control. As of March 31, 2014, we were in compliance with all such covenants. Capital Spending Over the past three fiscal years, we have made capital expenditures primarily for general corporate purposes for our corporate headquarters and technology center, production equipment and tooling and for information technology systems. Our capital expenditures totaled $4.3 million, $2.2 million and $0.4 million in fiscal 2012, 2013 and 2014, respectively. We plan to incur approximately $0.8 million to $1.0 million in capital expenditures in fiscal 2015. Our capital spending plans predominantly consist of investments related to our manufacturing operations to improve efficiencies and reduce costs and for investments in information technology systems. We expect to finance these capital expenditures primarily through our existing cash, equipment secured loans and leases, to the extent needed, long-term debt financing, or by using our available capacity under our Credit Facility. Contractual Obligations Information regarding our known contractual obligations of the types described below as of March 31, 2014 is set forth in the following table: Payments Due By Period Less than More than Total 1 Year 1-3 Years 3-5 Years 5 Years (in thousands) Bank debt obligations $ 6,602$ 3,450$ 2,617$ 130$ 405 Cash interest payments on debt 546 251 144 62 89 Operating lease obligations 651 289 291 71 - Purchase order and capital expenditure commitments(1) 4,431 4,431 - - - Total $ 12,230$ 8,421$ 3,052$ 263$ 494



(1) Reflects non-cancellable purchase commitments in the amount of $4.4 million

for certain inventory items entered into in order to secure better pricing

and ensure materials on hand.

The table of contractual obligations and commitments does not include our unrecognized tax benefits which were $0.2 million at March 31, 2014. We have a high degree of uncertainty regarding the timing of any adjustments to these unrecognized benefits. Off-Balance Sheet Arrangements We have no off-balance sheet arrangements. Inflation Our results from operations have not been, and we do not expect them to be, materially affected by inflation. Critical Accounting Policies and Estimates The discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of our consolidated financial statements requires us to make certain estimates and judgments that affect our reported assets, liabilities, revenue and expenses, and our related disclosure of contingent assets and liabilities. We re-evaluate our estimates on an ongoing basis, including those related to revenue recognition, inventory valuation, the collectability of receivables, stock-based compensation, warranty reserves and income taxes. We base our estimates on historical experience and on various assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates. A summary of our critical accounting policies is set forth below. Revenue Recognition. We recognize revenue when the following criteria have been met: there is persuasive evidence of an arrangement; delivery has occurred and title has passed to the customer; the sales price is fixed and determinable and no further obligation exists; and collectability is reasonably assured. Virtually all of our revenue is recognized when products are shipped to a customer or when services are completed and acceptance provisions, if any, have been met. In certain of our contracts, we provide multiple deliverables. We record the revenue associated with each element of these arrangements by allocating the total contract revenue to each element based on their relative selling prices. In such circumstances, we use a hierarchy to determine the selling price to be used for allocating revenue to deliverables: (1) vendor-specific objective evidence, or "VSOE" of selling price, if 40



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available, (2) third-party evidence, or "TPE" of selling price if VSOE is not available, and (3) best estimate of the selling price if neither VSOE nor TPE is available. We determine the selling price for our HIF lighting and energy management system products, installation and recycling services and for solar renewable product and services using management's best estimate of selling price as VSOE or TPE evidence does not exist. We consider external and internal factors including, but not limited to, pricing practices, margin objectives, competition, geographies in which we offer our products and services, internal costs, and the scope and size of projects. Our PPA contracts are supply side agreements for the generation of electricity for which we recognize revenue on a monthly basis over the life of the PPA contract, typically in excess of 10 years. For sales of our solar PV systems, we recognize revenue using the percentage-of-completion method by measuring project progress by the percentage of costs incurred to date of the total estimated costs for each contract as materials are installed. Revenue from sales of our solar PV systems is generally recognized over a period of three to 15 months. Additionally, we offer our OTA sales-type financing program under which we finance the customer's purchase of our energy management systems. Our OTA contracts are sales-type capital leases under GAAP and we record revenue at the net present value of the future payments at the time customer acceptance of the installed and operating system is complete. Our OTA contracts under this sales-type financing are either structured with a fixed term, typically 60 months, and a bargain purchase option at the end of term, or are one year in duration and, at the completion of the initial one-year term, provide for (i) one to four automatic one-year renewals at agreed upon pricing; (ii) an early buyout for cash; or (iii) the return of the equipment at the customer's expense. The revenue that we are entitled to receive from the sale of our lighting fixtures under our OTA financing program is fixed and is based on the cost of the lighting fixtures and applicable profit margin. Our revenue from agreements entered into under this program is not dependent upon our customers' actual energy savings. Upon completion of the installation, we may choose to sell the future cash flows and residual rights to the equipment on a non-recourse basis to an unrelated third party finance company in exchange for cash and future payments. Deferred revenue or deferred costs are recorded for project sales consisting of multiple elements or performance milestones, where the criteria for revenue recognition has not been met. Substantially all of our deferred revenue relates to advance customer billings for solar PV projects or to prepaid services to be provided at determined future dates. As of March 31, 2013 and 2014, our deferred revenue was $4.2 million and $1.9 million, respectively. Deferred costs on product are recorded as a current or long-term asset dependent upon when the project completion is expected to occur. As of March 31, 2013 and 2014, our deferred costs were $2.1 million and $0.7 million, respectively. Inventories. Inventories are stated at the lower of cost or market value and include raw materials, work in process and finished goods. Items are removed from inventory using the first-in, first-out method. Work in process inventories are comprised of raw materials that have been converted into components for final assembly. Inventory amounts include the cost to manufacture the item, such as the cost of raw materials and related freight, labor and other applied overhead costs. We review our inventory for obsolescence and marketability. If the estimated market value, which is based upon assumptions about future demand and market conditions, falls below cost, then the inventory value is reduced to its market value. Our inventory obsolescence reserves at March 31, 2013 and 2014 were $2.3 million and $2.5 million, respectively. Allowance for Doubtful Accounts. We perform ongoing evaluations of our customers and continuously monitor collections and payments and estimate an allowance for doubtful accounts based upon the aging of the underlying receivables, our historical experience with write-offs and specific customer collection issues that we have identified. While such credit losses have historically been within our expectations, and we believe appropriate reserves have been established, we may not adequately predict future credit losses. If the financial condition of our customers were to deteriorate and result in an impairment of their ability to make payments, additional allowances might be required which would result in additional general and administrative expense in the period such determination is made. Our allowance for doubtful accounts was $0.9 million and $0.4 million at March 31, 2013 and March 31, 2014, respectively. Recoverability of Long-Lived Assets. We evaluate long-lived assets such as property, equipment and definite lived intangible assets, such as patents, customer relationships, developed technology, and non-competition agreements, for impairment whenever events or circumstances indicate that the carrying value of the assets recognized in our financial statements may not be recoverable. Factors that we consider include whether there has been a significant decrease in the market value of an asset, a significant change in the way an asset is being utilized, or a significant change, delay or departure in our strategy for that asset, such as the loss of a customer in the case of customer relationships. Our assessment of the recoverability of long-lived assets involves significant judgment and estimation. These assessments reflect our assumption, which, we believe, are consistent with the assumptions hypothetical marketplace participants use. Factors that we must estimate when performing recoverability and impairment tests include, among others, the economic life of the asset. If impairment is indicated, we first determine if the total estimated future cash flows on an undiscounted basis are less than the carrying amounts of the asset or assets. If so, an impairment loss is measured and recognized. After an impairment loss is recognized, a new, lower cost basis for that long-lived asset is established. Subsequent changes in facts and circumstances do not result in the reversal of a previously recognized impairment loss. 41



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Our impairment loss calculations require that we apply judgment in estimating future cash flows and asset fair values, including estimating useful lives of the assets. To make these judgments, we may use internal discounted cash flow estimates, quoted market prices when available and independent appraisals as appropriate to determine fair value. If actual results are not consistent with our assumptions and judgments used in estimating future cash flows and asset fair values, we may be required to recognize additional impairment losses which could be material to our results of operations. Goodwill. We test goodwill for impairment at least annually as of the first day of the fiscal fourth quarter, or when indications of potential impairment exist. We monitor for the existence of potential impairment indicators throughout the fiscal year. We conduct impairment testing for goodwill at the reporting unit level. Reporting units, as defined by ASC 350, Intangibles - Goodwill and Other, may be operating segments as a whole or an operation one level below an operating segment, referred to as a component. For fiscal 2014, our goodwill impairment testing was conducted at the Harris component level since we currently manage Harris as a separate unit with our energy management segment. In the future, we expect that Harris will be fully integrated into our engineered systems segment and separate impairment testing at the component level may not be possible; therefore, we expect impairment testing will be conducted at the segment level in the future. We may initiate goodwill impairment testing by considering qualitative factors to determine whether it is more likely than not that a reporting unit's carrying value is greater than its fair value. Such factors may include the following, among others: a significant adverse change in macroeconomic conditions or legal factors; deterioration in our industry and market environment, including unanticipated or increased competition, a change in the market for our products or services, or a regulatory development; cost factors such as increases in raw materials, labor, or other costs that have a negative effect on earnings and cash flows; overall financial performance such as a significant decline in the reporting unit's expected future cash flows or a decline in actual or planned revenue or earnings compared with actual and projected results of relevant prior periods; a sustained, significant decline in our stock price and market capitalization; and changes in management, key personnel, strategy, or customers. If our qualitative assessment reveals that goodwill impairment is more likely than not, we perform the two-step impairment test. Alternatively, we may bypass the qualitative test and initiate goodwill impairment testing with the first step of the two-step goodwill impairment test. During the first step of the goodwill impairment test, we compare the fair value of the reporting unit to its carrying value, including goodwill. We derive a reporting unit's fair value through a combination of the market approach (a guideline transaction method) and the income approach (a discounted cash flow analysis). The income approach utilizes a discount rate from the capital asset pricing model. If all reporting units are analyzed during the first step of the goodwill impairment test, their respective fair values are reconciled back to the Company's consolidated market capitalization. If the fair value of a reporting unit exceeds its carrying value, then we conclude that no goodwill impairment has occurred. If the carrying value of the reporting unit exceeds its fair value, we perform the second step of the goodwill impairment test to measure possible goodwill impairment loss. During the second step, we hypothetically value the reporting unit's tangible and intangible assets and liabilities as if the reporting unit had been acquired in a business combination. Then, the implied fair value of the reporting unit's goodwill is compared to the carrying value of its goodwill. If the carrying value of the reporting unit's goodwill exceeds the implied fair value of the goodwill, we recognize an impairment loss in an amount equal to the excess, not to exceed the carrying value of the reporting unit's goodwill. Once an impairment loss is recognized, the adjusted carrying value of the goodwill becomes the new accounting basis of the goodwill for the reporting unit. Indefinite Lived Intangible Assets. On the first day of our fiscal fourth quarter we test indefinite lived intangible assets for impairment at least annually on the first day of our fiscal fourth quarter, or when indications of potential impairment exist. We monitor for the existence of potential impairment indicators throughout the fiscal year. Our impairment test may begin with a qualitative test to determine whether it is more likely than not that an indefinite lived intangible asset's carrying value is greater than its fair value. If our qualitative assessment reveals that asset impairment is more likely than not, we perform a quantitative impairment test by comparing the fair value of the indefinite lived intangible asset to its carrying value. Alternatively, we may bypass the qualitative test and initiate impairment testing with the quantitative impairment test. Determining the fair value of indefinite-lived intangible assets entails significant estimates and assumptions including, but not limited to, estimating future cash flows from product sales, perpetuation of employment agreements containing non-competition clauses, continuation of customer relationships and renewal of customer contracts, and approximating the useful lives of the intangible assets acquired. If the fair value of the indefinite lived intangible asset exceeds its carrying value, we conclude that no indefinite lived intangible asset impairment has occurred. If the carrying value of the indefinite lived intangible asset exceeds its fair value, we recognize an impairment loss in an amount equal to the excess, not to exceed the carrying value. Once an impairment loss is recognized, the adjusted carrying value becomes the new accounting basis of the indefinite lived intangible asset. Investments. Our accounting and disclosures for short-term investments are in accordance with the requirements of the Fair Value Measurements and Disclosure, Financial Instrument, and Investments: Debt and Security Topics of the FASB Accounting Standards Codification. The Fair Value Measurements and Disclosure Topic defines fair value, establishes a framework for 42



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measuring fair value under GAAP and requires certain disclosures about fair value measurements. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. GAAP describes a fair value hierarchy based on the following three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value: Level 1 - Quoted prices in active markets for identical assets or liabilities. Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. As of March 31, 2013 and 2014, our financial assets were measured at fair value employing level 1 inputs. Stock-Based Compensation. We have historically issued stock options and restricted stock awards to our employees, executive officers and directors. During fiscal 2014, we changed our long-term equity incentive grant policy so that only restricted shares are currently issued to employees. We adopted the provisions of ASC 718, Compensation - Stock Compensation, which requires us to expense the estimated fair value of employee stock options and similar awards based on the fair value of the award on the date of grant. Compensation costs for options granted are recognized in earnings, net of estimated forfeitures, on a straight-line basis over the requisite service period. The fair value of each option for financial reporting purposes was estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions used for grants: Fiscal Year Ended March 31, 2012 2013 2014 Weighted average expected term 5.7 years 5.5 years 4.1 years Risk-free interest rate 1.5% 0.8% 0.8% Expected volatility 70.0% 72.5% - 74.4% 73.3% Expected forfeiture rate 15.1% 21.4% 20.3% The Black-Scholes option-pricing model requires the use of certain assumptions, including fair value, expected term, risk-free interest rate, expected volatility, expected dividends, and expected forfeiture rate to calculate the fair value of stock-based payment awards. We estimated the expected term of our stock options based on the vesting term of our options and expected exercise behavior. Our risk-free interest rate was based on the implied yield available on United States treasury zero-coupon issues as of the option grant date with a remaining term approximately equal to the expected life of the option. We determined volatility based upon the historical market price of our common share price. Since the closing of our IPO in December 2007, we have solely used the closing sale price of our common shares as reported by the national securities exchange on which we were listed on the date of grant to establish the exercise price of our stock options. We recognized stock-based compensation expense under ASC 718 of $1.3 million for fiscal 2012, $1.2 million for fiscal 2013 and $1.6 million for fiscal 2014. As of March 31, 2014, $3.0 million of total total stock-based compensation cost was expected to be recognized by us over a weighted average period of 5.1 years. We expect to recognize $1.1 million of stock-based compensation expense in fiscal 2015 based on our stock options and restricted stock awards outstanding as of March 31, 2014. This expense will increase further to the extent we have granted, or will grant, additional stock options in the future. Common Stock Warrants. As of March 31, 2014, warrants were outstanding to purchase a total of 38,980 shares of our common stock at weighted average exercise prices of $2.25 per share. These warrants were valued using a Black-Scholes option pricing model with the following assumptions: (i) contractual terms of five years; (ii) weighted average risk-free interest rates of 4.35% to 4.62%; (iii) expected volatility ranging between 50% and 60%; and (iv) dividend yields of 0%. 43



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Accounting for Income Taxes. As part of the process of preparing our consolidated financial statements, we are required to determine our income taxes in each of the jurisdictions in which we operate. This process involves estimating our actual current tax expenses, together with assessing temporary differences resulting from recognition of items for income tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet. We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, establish a valuation allowance. To the extent we establish a valuation allowance or increase this allowance in a period, we must reflect this increase as an expense within the tax provision in our statements of operations. Our judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities, and any valuation allowance recorded against our net deferred tax assets. We continue to monitor the realizability of our deferred tax assets and adjust the valuation allowance accordingly. For fiscal 2012, we determined that a valuation allowance against our net state deferred tax assets was necessary in the amount of $428,000 due to our state apportioned income and the potential expiration of state tax credits due to the carryforward periods. For fiscal 2013, we determined that a full valuation allowance against our net federal and our net state deferred tax assets was necessary in the amount of $4.1 million due to our cumulative three year taxable losses. For fiscal 2014, we reversed $2.3 million of our valuation reserve to offset deferred tax liabilities created by the acquisition of Harris. In making these determinations, we considered all available positive and negative evidence, including projected future taxable income, tax planning strategies, recent financial performance and ownership changes. We believe that past issuances and transfers of our stock caused an ownership change in fiscal 2007 that affected the timing of the use of our net operating loss carryforwards, but we do not believe the ownership change affects the use of the full amount of the net operating loss carryforwards. As a result, our ability to use our net operating loss carryforwards attributable to the period prior to such ownership change to offset taxable income will be subject to limitations in a particular year, which could potentially result in increased future tax liability for us. As of March 31, 2014, we had net operating loss carryforwards of approximately $19.6 million for federal tax purposes and $15.8 million for state tax purposes. Included in these loss carryforwards were $3.5 million for federal and $4.5 million for state tax expenses that were associated with the exercise of non-qualified stock options. The benefit from our net operating losses created from these compensation expenses has not yet been recognized in our financial statements and will be accounted for in our shareholders' equity as a credit to additional paid-in-capital as the deduction reduces our income taxes payable. We first recognize tax benefits from current period stock option expenses against current period income. The remaining current period income is offset by net operating losses under the tax law ordering approach. Under this approach, we will utilize the net operating losses from stock option expenses last. We also had federal tax credit carryforwards of $1.5 and state tax credit carryforwards of $0.8, which are fully reserved for as part of our valuation allowance. Both the net operating losses and tax credit carryforwards will begin to expire in varying amounts between 2020 and 2034. We recognize penalties and interest related to uncertain tax liabilities in income tax expense. Penalties and interest were immaterial as of the date of adoption and are included in unrecognized tax benefits. Due to the existence of net operating loss and credit carryforwards, all years since 2002 are open to examination by tax authorities. By their nature, tax laws are often subject to interpretation. Further complicating matters is that in those cases where a tax position is open to interpretation, differences of opinion can result in differing conclusions as to the amount of tax benefits to be recognized under Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) 740, Income Taxes. ASC 740 utilizes a two-step approach for evaluating tax positions. Recognition (Step 1) occurs when an enterprise concludes that a tax position, based solely on its technical merits, is more likely than not to be sustained upon examination. Measurement (Step 2) is only addressed if Step 1 has been satisfied. Under Step 2, the tax benefit is measured as the largest amount of benefit, determined on a cumulative probability basis that is more likely than not to be realized upon ultimate settlement. Consequently, the level of evidence and documentation necessary to support a position prior to being given recognition and measurement within the financial statements is a matter of judgment that depends on all available evidence. As of March 31, 2014, the balance of gross unrecognized tax benefits was approximately $0.2 million, all of which would reduce our effective tax rate if recognized. We believe that our estimates and judgments discussed herein are reasonable, however, actual results could differ, which could result in gains or losses that could be material. Recent Accounting Pronouncements See Note B -Summary of Significant Accounting Policies to our accompanying audited consolidated financial statements for a full description of recent accounting pronouncements including the respective expected dates of adoption and expected effects on results of operations and financial condition. Item 7A Quantitative and Qualitative Disclosure About Market Risk Market risk is the risk of loss related to changes in market prices, including interest rates, foreign exchange rates and commodity pricing that may adversely impact our consolidated financial position, results of operations or cash flows. 44



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Inflation. Our results from operations have not historically been, and we do not expect them to be, materially affected by inflation. Foreign Exchange Risk. We face minimal exposure to adverse movements in foreign currency exchange rates. Our foreign currency losses for all reporting periods have been nominal. Interest Rate Risk. Our investments consist primarily of investments in money market funds and certificate of deposits. While the instruments we hold are subject to changes in the financial standing of the issuer of such securities, we do not believe that we are subject to any material risks arising from changes in interest rates, foreign currency exchange rates, commodity prices, equity prices or other market changes that affect market risk sensitive instruments. It is our policy not to enter into interest rate derivative financial instruments. As a result, we do not currently have any significant interest rate exposure. As of March 31, 2014, $1.5 million of our $6.6 million of outstanding debt was at floating interest rates. An increase of 1.0% in the prime rate would result in an increase in our interest expense of approximately $15,000 per year. Commodity Price Risk. We are exposed to certain commodity price risks associated with our purchases of raw materials, most significantly our aluminum purchases. We have currently locked pricing for our specialty reflective aluminum requirements through the end of calendar year 2014 and for our non-specialty aluminum requirements through November 2014. A hypothetical 10% fluctuation in aluminum prices would have an impact of $0.4 million on earnings in fiscal 2014. Additionally, we recycle legacy HID fixtures and recover the salvaged scrap value which we believe provides a raw materials cost hedge as commodity prices change. Credit Risk. Credit risk refers to the potential for economic loss arising from the failure of our customers to meet their contractual agreements. Our financing program, the Orion Throughput Agreement, or OTA, is an installment based payment plan for our customers. This financing program subjects us to credit risk as poor credit decisions or customer defaults could result in increases to our allowances for doubtful accounts and/or write-offs of accounts receivable and could have material adverse effects on our results of operations and financial condition. In fiscal 2012, we entered into debt agreements for the purpose of funding certain OTA contracts where we maintain ownership of the contracts. We did not enter into any debt agreements during fiscal 2013 and 2014 for the purpose of financing OTA contracts. We currently utilize third party equipment finance companies for the purpose of funding virtually all of our OTA projects and expect to continue to do so in the future. 45



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