Overview

Allied is a strategic portfolio of defense and security businesses, with presence in worldwide markets, offering both government and commercial customers' leading edge products and services. The Company has two reporting segments, the Ammunition & Weapons Effects (AWE) segment and the Electronic Security (ES) segment. In addition, the Company had a third, Other segment, that solely consisted of the Company's SeaSpace subsidiary. In July 2007, September 2007, March 2008 and October 2008, the Company sold SeaSpace, The VSK Group, Titan and GMS, respectively. Accordingly, the results of operations, financial position and cash flows of SeaSpace, The VSK Group, Titan and GMS, have been reported as discontinued operations for all periods presented and are eliminated from the segment discussion provided below. Headquarters expenses are reported separately on the segment reporting schedules.

The AWE segment provides conventional ammunition and other training devices to the U.S. military and 30 countries worldwide, dealing with defense departments or ministries of defense in US/European Community approved sovereign entities. The ES segment encompasses a wide range of fixed and deployable systems and equipment used to address today's security and surveillance requirements in the U.S. The ES segment markets its products to governments, law enforcement, and commercial security personnel. In addition to having distinct differences in client base and application of products, the production processes of the segments are distinct.

• Ammunition & Weapons Effects segment consists of MECAR, located in Belgium, and MECAR USA, located in Marshall, TX. MECAR develops and produces medium caliber, tank, mortar and other ammunition. MECAR USA became operational in late 2005 and pursues contracts from U.S. and foreign governments for ammunition and pyrotechnics devices with a focus on the 105MM market. More recently, MECAR USA has begun purchasing and selling weapon systems and/or ammunition manufactured by others, in the form of procurement contracts for the benefit of the U.S government and other foreign governments.

• Electronic Security segment consists of News Sports Microwave (NSM) located near San Diego, California. NSM designs, manufactures, installs and services industrial and law enforcement surveillance products and integrated systems for the law enforcement community and agencies of the Department of Homeland Security and the Department of Defense.

Allied, the parent Company, provides management, business development and related services to its subsidiaries and has no operating activities.

The Company continues to evaluate it strategic options. The Company sold GMS to be in a position to satisfy the "put" of its senior secured convertible notes which will be made in December 2008 and January 2009, as discussed below. The Company has committed to a plan to sell NSM. In addition, the Board of Directors of the Company is evaluating a possible disposition of all operating units of the Company and the return of the net remaining proceeds to the shareholders. The Directors of the Board continue to evaluate the future plans for the Company, and will continue to evaluate the alternatives to maximizing shareholder value through either the divestiture process or a more focused, cohesive business strategy centered on the MECAR and MECAR USA business.

Liquidity and Capital Resources

As described in the Company's Form 10-K filed for December 31, 2007, the Company encountered liquidity difficulties in 2006 and 2007. The liquidity position improved markedly in the third and fourth quarters of 2007, but the Company encountered some liquidity challenges in the summer months of 2008 as

MECAR performed on its increased backlog and was limited in its ability to ship product to its largest customer during the summer months of June through August.

The Company has two significant liquidity challenges in the coming months. MECAR must reconstitute its credit facility and the Company must repay the outstanding balances of its senior secured convertible notes. The Company believes it will meet these challenges and upon doing so, the Company will have substantially reduced its indebtedness.

The Company is uncertain at this time what impact the current financial crisis will have on its ability to refinance the MECAR credit facility. The Company has had current discussions with MECAR's existing bank group to refinance the credit facility but no formal agreement has been reached at this date.

In April 2008, MECAR reached an agreement with its existing bank group regarding its credit facility. The agreement provides for an expansion of the total credit facility from approximately $61,914 (€42,850) to $65,924 (€45,625). The credit facility was restructured and the portion designated for tax prepayments was terminated. The agreement provides for a cash line of $14,738 (€10,200) and performance bond and advance payment guarantee line of $51,186 (€35,425). The agreement required a partial repayment of MECAR's cash line of $7,369 (€5,100) in July 2008 and the remainder to be repaid by November 30, 2008. The performance bond and advance payment guarantee line expires on December 31, 2008, although the existing outstanding performance bonds and advance payment guarantees will be in place until their intended maturity. After that date the Company will be unable to issue any new performance bonds or advance payment guarantees without a new credit facility. Based on the timing of MECAR's shipments in July 2008, the Company was unable to repay half of the cash line by July 31, 2008, but subsequently made the required repayments to the banking facility in the third quarter of 2008. Based on cash flow projections, the Company believes its MECAR subsidiary will be able to repay the remaining $7,369 (€5,100) by November 30, 2008 with cash generated from operations. MECAR has shipments of approximately $52,258 (€36,167) which have occurred and are projected for the balance of the fourth quarter of 2008 to its largest client that will allow the subsidiary to generate cash in the fourth quarter in addition to other operating activities that will generate cash.

In addition, in April 2008, MECAR's bank group received local government support that will guarantee an additional portion of MECAR's performance bonds and advance payment guarantees from May through November 2008. This additional guarantee will reduce the required restricted cash balances at MECAR and allow the Company to fund MECAR through its critical working capital expansion period. This agency began guaranteeing approximately 50% of MECAR's new performance bonds and advance payment guarantees in July 2007.

The Company in is discussions with members of the existing MECAR bank facility and other financial institutions to replace the existing credit facility. The anticipated new credit facility will have both a revolving cash line facility and performance bond and advance payment guarantee line like the existing facility. The Company may look to expand the size of the performance bond and advance payment guarantee line to meet its projected requirements. The refinancing of the credit facility, in some form, is critical to the Company's ability to continue operations. Initial interest in establishing a new banking relationship has been expressed by certain existing bank group members although specific terms have not been documented at this time.

As of September 30, 2008, the principal outstanding balance of the Convertible Notes was $19,876. From October 4 through 14, 2008, the Company repaid $10,908 of the Convertible Notes with the proceeds of the GMS sale as required by terms of the agreement. In addition, as described in Note 8 of the condensed consolidated financial statements, the Company's Convertible Notes have a put feature that allows the holders to put the notes back to the Company on December 26, 2008 and/or January 19, 2009 based on the date of issuance. As permitted by the provisions of the Company's Convertible Notes, on October 10 through 14, 2008, the Company received notices from all four of its note holders requiring the Company to redeem all of the outstanding Notes at face value on December 26, 2008 and January 19, 2009. The Company is required to redeem $8,039 on December 26, 2008 and $928 on January 19, 2009. The Company will use the remaining GMS proceeds, its existing cash balances, and cash generated from operations, as needed, to repay the Convertible Notes.

At September 30, 2008, the Company had $5,093 in cash on hand. The Company had a net loss of $8,609 for the nine months ended September 30, 2008. A substantial portion of these charges were of a non-

cash nature. For the nine months ended September 30, 2008, the Company used $21,338 of cash for operating activities from continuing operations mainly related to increases in accounts receivable and costs and accrued earnings on uncompleted contracts at MECAR as it performs on its substantial backlog. The Company does not anticipate continuing to use cash at this level for the remainder of 2008 as MECAR will increase its billings as the contracts in progress are shipped and generate cash collections from accounts receivable in the fourth quarter of 2008.

In general, the Company believes that it has adequate cash sources to fund operations for the remainder of 2008 based on its strong current backlog and its history of performing on a profitable basis when backlog is substantial. The Company believes it will have adequate cash to meet the convertible note holders "put" in December 2008 and January 2009. As noted above, management has begun the process of securing a long-term credit facility solution for MECAR. Management believes, based on MECAR's historic performance when it has substantial backlog as well as its operating performance since the fourth quarter of 2007, that adequate opportunities will be available to finalize a long-term solution for the Company's credit needs.

While the Company is looking to secure long-term MECAR financing and be able to satisfy the put feature on its Convertible Notes, there can be no assurance that:

• The Company will be successful securing MECAR's long-term financing.

• The Company will be successful generating adequate cash at its MECAR subsidiary in the fourth quarter of 2008 to repay its existing credit facility.

• The Company will be successful in taking necessary steps to be in a position to satisfy the "put" of its senior secured convertible notes which will be made in December 2008 and January 2009.

• The Company will be successful in its restructuring and turnaround efforts at its subsidiaries.

• The Company will be able to meet the financial debt covenants of its debt instruments.

The Company has less than $200 of firm commitments for capital expenditures outstanding as of September 30, 2008.

Overview Results

Allied had a net loss of $6,220 in the three months ended September 30, 2008 as compared to net income of $22,283 in the three months ended September 30, 2007. In the nine months ended September 30, 2008, Allied had a net loss of $8,609 as compared to a net loss of $19,726 for the comparable period in 2007. The 2008 loss includes three non cash items: a charge for impairment of goodwill and long-lived assets, losses relating to changes in fair value of its participating forward European currency contracts and a change in the fair value of convertible notes and warrants. In the three months ended September 30, 2008, these items accounted for $5,361 of the $6,220 loss.

The net loss from continuing operations before income taxes was $7,240 for the three months ended September 30, 2008 as compared to a net loss from continuing operations before income taxes of $6,718 for the comparable period in 2007. The increase in net loss for the three months ended September 30, 2008 was negatively impacted by a charge for the impairment of goodwill and long-lived assets of $3,957, an increase in the other expenses mainly resulting from foreign currency fluctuations of $2,136 and a fluctuation in the change in the fair value of notes and warrants of $1,235. These fluctuations were offset by improved operating results at the AWE segment.

The net loss from continuing operations before income taxes was $10,403 for the nine months ended September 30, 2008 as compared to $44,548 for the comparable period in 2007. The decrease in loss from continuing operations before income taxes in 2008 resulted from improved operating performance mainly at AWE segment and reduced restructuring and refinancing activities and interest expense associated with the senior convertible notes. In addition, the net loss on the fair value of senior convertible notes and warrants was $6,686 in 2007 as compared to $682 in the current period.

In July 2007, MECAR announced that it had successfully negotiated several new orders with various clients in Asia, Europe, North America and other export markets, with a total expected value exceeding $170,000 over a three year period. In addition, in February 2008, the Company announced the award of an

additional multi-year contract at MECAR for $43,500. The backlog at MECAR was $156,134 at September 30, 2008 as compared to $127,608 at September 30, 2007. The backlog at MECAR USA has grown to $12,229 at September 30, 2008 as compared to $884 at September 30, 2007, driven by new procurement contracts. On a consolidated basis, the Company had firm committed backlog of $169,744 and additional unfunded backlog of $19,724 at September 30, 2008.

The Company's results were significantly affected by the foreign exchange impact on the operations of the Company's Euro-based business units. All Euro-based results of operations were converted at the average 2008 and 2007 exchange rates of 1.52254 and 1.34454, U.S. Dollar to 1 Euro, respectively.

Results of Operations for the Three Months Ended September 30, 2008 and 2007


                                                                 Three Months Ended September 30,
                                                                 2008                        2007
                                                          Amount          %           Amount          %

Revenue                                                  $ 50,813        100.0 %     $ 11,247        100.0 %
Cost and expenses
Cost of sales                                              44,078         86.8         10,938         97.3
Selling and administrative                                  5,678         11.2          5,962         53.0
Research and development                                      683          1.3            599          5.3
Impairment of goodwill and long-lived assets                3,957          7.8              -            -

Operating loss                                             (3,583 )       (7.1 )       (6,252 )      (55.6 )
Other income (expense)
Interest income                                               103          0.2             75          0.6
Interest expense                                           (1,432 )       (2.8 )       (1,584 )      (14.1 )
Gain (loss) from fair value of notes and warrants            (155 )       (0.3 )        1,080          9.6
Other - net                                                (2,173 )       (4.3 )          (37 )       (0.3 )

Loss from continuing operations before income taxes        (7,240 )      (14.3 )       (6,718 )      (59.8 )
Income tax expense (benefit)                                  174          0.3             (8 )       (0.1 )

Net loss from continuing operations, net of tax            (7,414 )      (14.6 )       (6,710 )      (59.7 )
Gain on sale of subsidiaries, net of tax                        -            -         29,774        264.7
Income (loss) from discontinued operations, net of tax      1,194          2.4           (781 )       (6.9 )

Income from discontinued operations, net of tax             1,194          2.4         28,993        257.8

Net Income (loss)                                        $ (6,220 )      (12.2 )%    $ 22,283        198.1 %

Revenue. The table below shows revenue by segment for the three months ended September 30, 2008 and 2007, respectively. Allied had revenue of $50,813 during the current period, which was 352% higher than its revenue in the same period of 2007.

                                                                           Revenue by Segment
                                                        Three Months Ended                   Three Months Ended
                                                        September 30, 2008                   September 30, 2007
                                                                      Percentage                           Percentage
                                                     Amount            of total           Amount            of total
Ammunitions & Weapons Effects                     $     49,248                 97 %    $     10,193                 91 %
Electronic Security                                      1,565                  3             1,054                  9

Total                                             $     50,813                100 %    $     11,247                100 %

The Ammunition & Weapons Effects (AWE) segment revenue for the three months ended September 30, 2008 increased $39,055 (383%) from the prior period mainly due to a higher volume of MECAR contracts in process due to increased orders received in July 2007 and in 2008. AWE segment revenues for the three

months ended September 30, 2008 included $32,213 of revenues from MECAR and $17,035 of revenues from MECAR USA as compared to $9,117 of revenues from MECAR and $1,076 in revenue at MECAR USA in the prior period. The 2008 revenue for MECAR USA has increased significantly based on a receipt of several new procurement contracts in 2008. Since its inception in late 2005, MECAR USA had been participating in numerous bids for procurement contracts that require the Company to supply ammunition manufactured by other parties. In late 2007 and February 2008, MECAR USA was successful in receiving several of these contracts and has grown revenue levels in the current period.

Revenue for the Electronic Security (ES) segment for the three months ended September 30, 2008 increased $511 (48%) from the prior comparable period of 2007. The increase of $511 in NSM revenue was primarily due to receipt of orders from government customers for frequency reallocation equipment upgrades. The growth experienced by NSM was mainly attributable to the Commercial Spectrum Enhancement Act, which was signed into law in December 2004. Under this law the U.S government sold portions of the radio frequency spectrum used by Federal agencies to commercial wireless companies. This sale forced those agencies to vacate the spectrum that they had historically used, and upgrade systems and equipment to migrate to a new frequency for their operations. The cost of the upgrades is being borne by the commercial wireless carriers.

Cost of Sales. Cost of sales, as a percentage of revenue, for the three months ended September 30, 2008, was 87% compared to 97% for the same period in 2007. Gross profit (loss), as a percentage of revenues, was 13% and 3% for the three months ended September 30, 2008 and 2007, respectively.

                                                              Cost of Sales as a Percentage of Revenue by Segment
                                                       Three Months Ended                             Three Months Ended
                                                       September 30, 2008                             September 30, 2007
                                                                     Percentage of                                 Percentage of
                                                 Amount             Segment Revenue            Amount             Segment Revenue

Ammunitions & Weapons Effects                $        42,851                      87 %     $         9,769                       96 %
Electronic Security                                    1,227                      78                 1,169                      111

Total                                        $        44,078                      87 %     $        10,938                       97 %

Cost of sales for the AWE segment was $42,851 (87% of segment revenue) in 2008 as compared to $9,769 (96% of segment revenue) in 2007. The change in cost of sales for the three months ended September 30, 2008 resulted primarily from higher sales activity at MECAR and MECAR USA. In 2007, MECAR's cost of sales were almost equal to revenues as a result of a low level of revenues on MECAR's fixed cost structure. Current period results were negatively impacted by overtime pay and shift premiums that were required to be paid based on supply chain issues at MECAR in order to deliver contracts on a timely basis. Most sales contracts at MECAR have penalties associated with late delivery. In addition, in the current period MECAR recorded $589 in contract loss provision related to specific products that are included in a significant sales contract that became funded in September 2008. The revised estimated costs of those non-standard products, after allocating all appropriate overhead costs, would result in a loss thereby requiring MECAR to record a loss provision at this point in time. Gross profit for the AWE segment was $6,397 (13% of segment revenue) in 2008 as compared to gross profit of $424 (4% of segment revenue) in the prior period. Gross profit for the three months ended September 30, 2008 consisted of $5,429 from MECAR and $968 from MECAR USA, as compared to gross profit of $70 from MECAR and $354 from MECAR USA in the prior period. The difference between MECAR and MECAR USA's margin rates mainly resulted from in-house manufacturing that made up most of the MECAR's revenue as compared to procurement contracts at MECAR USA that have lower margin. MECAR's gross profit rate in the current period was 17% as MECAR USA's margin rate was 6% in the current period.

Cost of sales for the ES segment, consisting of NSM, was $1,227 (78% of segment revenue) in 2008 as compared to $1,169 (111% of segment revenue) in 2007. Gross profit for NSM was $338 (22% of segment revenue) in 2008 as compared to a gross loss of $115 (11% of segment revenue) in 2007. The improvement of gross profit for the three months period in 2008 was a result of an increased sales volume at NSM and reduced fixed operating costs, including the outsourcing of manufacturing.

Overall, most of the Company's subsidiaries operate with a relatively high fixed cost structure. As a result, reduced revenue levels can have an unfavorable impact on profitability. The Company is focused on reducing these breakeven points wherever it can - on both a tactical and strategic level and is investing in business development and sales and marketing programs to ensure sales stay above break-even levels.

Selling and Administrative Expenses. Selling and Administrative (SA) expenses as a percentage of revenue were 11% and 53% for the three months ended September 30, 2008 and 2007, respectively. SA expenses for the three months ended September 30, 2008 consisted of $2,740 from the AWE segment, $801 from the ES segment and $2,137 from the Corporate segment as compared to expenses of $2,373 from the AWE segment, $714 from the ES segment and $2,875 from the Corporate segment in the prior period.

The increase of $367 in the AWE segment was mainly due to a higher level of spending for professional services related to restructuring activities at MECAR and a higher level of operating activity at both MECAR and MECAR USA in the current period. The increase in the ES segment was attributable to a provision taken for bad debts in the current period. The decrease of $738 in the Corporate segment resulted from reduced spending in staffing, legal and professional costs.

The Company is focused on reducing administrative costs across all business segments. It is focused on significant reductions in corporate expenses as restructuring consultants have been reduced in 2008.

Research and Development. Research and development (R&D) costs increased $84 or
(14)% for the three months ended September 30, 2008 from 2007 levels. This increase was attributable to overall increase in cost on R&D projects in the current period. The Company had more technical resources focused on Research and Development (R&D) during the three months ended September 30, 2008. Research and development expenses are incurred at MECAR where there is a full time staff of engineers available for projects.

Impairment of Goodwill and Long-Lived Assets. In the fourth quarter of 2008, the Company committed to a formal plan to sell NSM. The Company is in negotiations with prospective purchasers. Based on such negotiations and nonbinding offers received during the third quarter of 2008, the Company, on September 30, 2008, recorded a loss of $3,495 to write down NSM's assets to fair value less costs to sell. In addition, on September 30, 2008, the Company recorded $462 in impairment charges for long-lived assets related to the Company's ERP computer system. As the Company has reduced its head count as a result of selling a number of its subsidiaries, the Company determined that the carrying value of the ERP system exceeds its fair value.

Interest Income. Interest income for the three months ended September 30, 2008 increased by $28 from 2007 levels. The increase in interest income was a result of having higher average cash levels in 2008 compared to prior comparable period's cash levels in 2007.

Interest Expense. Interest expense for the three months ended September 30, 2008 was $1,432 as compared to prior period expense of $1,584. This decrease was mainly due to an overall lower Corporate interest expense of $473 based on the reduced outstanding debt at Corporate in 2008. In October 2007, with the proceeds of The VSK Group sale, the Company repaid $19,949 of the Notes that were issued in June and July 2007. Current period results were negatively impacted by $321 of increased interest expense at MECAR associated with higher borrowing and increased financing charges associated with MECAR's short term restructuring of its credit facility.

Net Loss on fair value of the senior convertible notes and warrants. For the three months ended September 30, 2008, the Company recognized net loss of $155 related to the fair value of the Notes and warrants as compared to the a net gain of $1,080 for the comparable period in 2007. The change in the fair value of the Notes and warrants is due primarily to the change in the Company's closing stock price, the volatility of the Company's stock price during the period and the redemption features of the Notes relative to the Company's announced subsidiary asset sales. On September 30, 2008, the Company's stock closed at $6.10 per common share as compared to $7.88 per common share on September 30, 2007. See Note 8 for a description of these instruments.

Other - Net. Other - net for the three months ended September 30, 2008 increased to a loss of $2,173 from a loss of $37 in the prior period. This unfavorable result was associated with MECAR's foreign currency transactions. Approximately $1,249 of this loss is attributed to unrealized losses from the change in fair value of its participating forward European currency contracts. MECAR had participating forward European currency

. . .