Overview

We are one of the leading providers of air-pollution control products and services. These products and services are marketed under the "Kirk & Blum", "CECO Filters", "CECOaire", "Busch International", "CECO Abatement Systems", "kbd/Technic", "K&B Duct", "Effox", "GMD", "Fisher Klosterman", "Flextor", "A.V.C." and "H.M. White" trade names. Our revenues are generated by our services of engineering and designing as well as building equipment, and installing systems that capture, clean and destroy airborne contaminants from industrial facilities and equipment that controls emissions from such facilities. We have a diversified base of more than 3,000 active customers among a myriad of industries including aerospace, brick, cement, ceramics, metalworking, ethanol, printing, paper, food, foundry, power, refining, mining, metal plating, woodworking, chemicals, tobacco, glass, automotive, and pharmaceuticals. Therefore, our business is not concentrated in a single industry or customer.

Our return to profitability in 2006, 2007 and 2008 after several years of losses is directly related to an increase in the level of pollution control capital expenditures which is being driven by an elevated focus on environmental issues such as global warming and energy saving alternatives as well as a U.S. Government supported effort to reduce our independence on foreign oil through the use of bio-fuels like ethanol and electrical energy generated by our abundant domestic supply of coal.

We continue to focus on increasing revenues and profitability. Our operating strategy has involved horizontally expanding our scope of products and services through selective acquisitions and the formation of new business units that are then vertically integrated into our growing family of turnkey system providers. By employing this strategy, we have expanded our business and increased our revenues by adding CECO Abatement Systems, CECOaire, K&B Duct, CECO Filters, India, H.M. White, CECO Energy Management, Effox, GMD, FKI, Flextor and A.V.C. At the same time, we have been able to consolidate these new entities into our existing corporate structure without increasing costs proportionally.

Much of our business is driven by various regulatory standards and guidelines governing air quality in and outside factories.

Recent Developments

Current United States and worldwide economic conditions have resulted in an extraordinary tightening of credit markets coupled with higher interest rates, particularly since the bankruptcy of Lehman Brothers in the third quarter of 2008. These economic conditions have been characterized in news reports as a global economic crisis that has been marked by dramatic and rapid shifts in market conditions and governments throughout the world. The current adverse conditions have affected financial, general industrial and labor markets.

In October 2008, the President signed into law the Emergency Economic Stabilization Act of 2008 under which up to $700 billion has been made available to stabilize U.S. banks and enable the government to purchase devalued financial instruments held by banks and other financial institutions. The Federal Reserve continues to take other measures to stabilize the U.S. financial system and encourage lending. In February 2009, the President signed into law the American Recovery and Reinvestment Act of 2009, which provides up to $787 billion in broad based relief to stimulate economic activity, including $288 billion in tax relief, $148 billion for healthcare, $91 billion for education, $83 billion for worker benefits, job training and unemployment relief, and $81 billion in infrastructure development.

Management has been closely monitoring the economic conditions and government responses. Furthermore, some of our customers have announced that they are facing financial distress which may adversely affect our revenues and accounts receivable. In a weak economy customers tend to lengthen the time between inquiry and order or may defer purchase. If these conditions persist or deteriorate, they could potentially have a significant adverse impact on our operations in future periods.

Operations Overview

Our contracts are obtained either through competitive bidding or as a result of negotiations with our customers. Contract terms offered by us are generally dependent on the complexity and risk of the project as well as the resources that will be required to complete the project. For example, a contract that can be performed primarily by subcontractors and that does not require us to use our fabrication and assembly facilities can be quoted at a lower gross margin than a more typical contract that will require additional factory overhead and administrative expenses. Our focus is on increasing our operating margins as well as our gross margin percentage which translates into higher net income. Our sales typically peak in the fourth quarter due to a tendency of customers to want to fully utilize annual capital budgets and due to the fact that many industrial facilities shut down for the holiday season and that creates demand for maintenance and renovation work that can be done at no other time.

CECO Filters secures international sales through the efforts of its operation in India and also through a network or sales representatives around the globe. System sales, such as those secured by Busch and Kirk & Blum, are secured through relationships built up over the years in various industries. Some of these relationships are at American companies building plants overseas and some are through the global reputation of Busch. Kirk & Blum and H.M. White have both long done business in Mexico. In March of 2007 a full time salesperson was hired in Mexico and we formed Mexican subsidiaries in November 2007. We believe that we will be able to build a Mexican operation eventually that mirrors Kirk & Blum's satellite plants.

Cost of sales include approximately 61.1% material and 16.1% labor, plus subcontracting costs and factory overhead. Our cost of sales is principally driven by a number of factors including material prices and labor cost and availability. Changes in these factors may have a material impact on our overall gross profit margins. For example, in larger contracts, we may incur sub-contract work or direct equipment purchases, which may only be marked-up to a limited extent and consequently, the gross margins of the Company are affected. However, profitability is enhanced through the absorption of fixed operating costs, including SG&A and factory overhead.

We break down costs of sales into four categories. They are:

• Labor- Our direct labor both in the shop and in the field;

• Material- Raw material, mostly steel, that we buy to build our products;

• Equipment- Fans, motors, control panels, etc. necessary for turnkey systems; and

• Subcontracts- Electrical work, concrete work, etc. necessary for turnkey systems.

In general, labor is the factor we are able to mark up the most followed by material and equipment and subcontracts. Across our various product lines the relative relationships of these factors changes thus causing variations in gross margin percentage. Material costs have also increased faster than labor costs, which also reduces gross margin percentage. The important factor is that gross margin dollars increase as do operating margin dollars and percentages.

Selling and administrative expense principally includes advertising and marketing expenditures and all corporate and administrative functions and other costs that support our operations. The majority of these expenses are fixed. We expect to leverage our fixed operating structure as we continue to grow our revenue.

We operate under a "hub and spoke" business model in which executive management, finance, administrative and marketing staff serves as the hub while the sales channels serve as spokes. We use this model throughout our operations. This has provided us with certain efficiencies over a more decentralized model.

Although we discuss four principal product lines, our operating units function as internal customers and suppliers of each others' products and services and as such, products and services are intermingled in one major project. As a result, it is not reasonably possible to segregate revenues to external customers, operating profits or identifiable assets by product line.

Strategy

We believe there are significant opportunities for us to increase our revenue, profitability and market position in both the United States and abroad. Our strategy for growth consists of the following elements:

• Expand our customer base, enter new end markets and further penetrate existing end markets;

• Develop innovative solutions;

• Maintain strong customer focus; and

• Pursue selective acquisitions.

Results of Operations

Our consolidated statements of operations for the years ended December 31, 2008, 2007 and 2006 reflect our operations consolidated with the operations of our subsidiaries.

2008 vs. 2007

                                                    For the year ended
                                                       December 31,
            ($'s in millions)                        2008          2007
            Sales                                 $    217.9      $ 235.9
            Cost of goods sold                         174.5        196.7

            Gross profit                          $     43.4      $  39.2
            Percent of sales                            19.9 %       16.6 %
            Selling and administrative expenses   $     33.6      $  26.2
            Percent of sales                            15.4 %       11.1 %
            Operating income                      $      8.2      $  12.6
            Percent of sales                             3.8 %        5.3 %

Consolidated sales in 2008 were $217.9 million, a decrease of $18.0 million or 7.6% compared to 2007. This decrease was primarily due to decreased demand for our products and services created by weakening industrial sectors including ethanol production, steel production, construction and automotive related sectors. In 2007, General Motors represented $61.6 million of consolidated sales compared to $16.7 million in 2008. This decrease was offset by $33.7 million in new equipment sales revenues attributed to the addition of FKI, Inc. which was acquired in 2008 and $5.1 million attributed to the addition of Flextor which was also acquired in 2008. Demand for our products and services was created by increasingly strict EPA mandated industry Maximum Achievable Control Technology standards ("MACT") and OSHA established Threshold Limit Values ("TLV"), as well as existing pollution control and energy legislation.

Orders booked in 2008 were $182.6 million plus acquired backlog from FKI and Flextor of $17.8 million for a total of $200.4 million, compared with $224.3 million in 2007. The decrease in bookings was due primarily to weakening industrial demand and general economic conditions, as described previously. We continue to experience an active level of customer inquiry and quoting activities.

Selling and administrative expenses increased by $7.4 million to $33.6 million in 2008 and selling and administrative expenses, as a percentage of revenues increased from 11.1% in 2007 to 15.4% in 2008. This increase was due primarily to selling and administrative expenses acquired in 2008 through the acquisitions of FKI and Flextor, which amounted to $4.9 million and $0.6 million, respectively. Additionally, we incurred a full year of selling and administrative expense for Effox and GMD in 2008 compared to ten months, and two months, respectively, in 2007 when they were acquired. This accounted for an additional increase of $.7 million. General increases in selling and administrative wages of $0.4 million also contributed to the overall increase.

Depreciation for 2008 was $1.6 million, the majority of which is included in cost of goods sold. This is an increase of $0.4 million from $1.2 million in 2007. This was due to 2008 machinery & equipment additions as well as additional depreciation expense from assets obtained in our 2008 acquisitions.

Amortization, which is primarily related to acquisition intangibles, increased from $0.4 million in 2007 to $1.6 million in 2008. This $1.2 million increase was due primarily to additional intangibles related to 2008 acquisitions and a full year of amortization from our 2007 acquisitions.

Operating income was $8.2 million in 2008 and $12.6 million in 2007. This decrease in operating income resulted from the various factors previously mentioned. Inflation and changing prices did not have a material effect on our revenues or income from operations.

Other income for the year ended December 31, 2008 increased to $920,000 from $10,000 during the same period in 2007. This increase was the result of unrealized foreign currency transaction gains related to our subordinated debt, which is denominated in Canadian currency.

Interest expense decreased to $1.5 million in 2008 compared to $2.0 million for the same period of 2007. This was partially due to a non-recurring charge of $740,000 in 2007 to expense the remaining discount on subordinated notes offset by an increase in interest expense on outstanding debt in 2008.

Federal and state income tax provision was $2.6 million during 2008 compared with a tax provision of $4.4 million for the same period in 2007. The effective income tax rate for 2008 was 34% compared with 41% for the same period of 2007. The effective tax rate during 2008 was affected by certain permanent differences including non-deductible incentive stock based compensation and income from foreign operations.

Net income was $5.0 million in 2008 compared to a net income of $6.3 million in 2007.

                                                    For the year ended
                                                       December 31,
            ($'s in millions)                        2007          2006
            Sales                                 $    235.9      $ 135.4
            Cost of sales                              196.7        112.4

            Gross profit                          $     39.2      $  23.0
            Percent of sales                            16.6 %       16.9 %
            Selling and administrative expenses   $     26.2      $  16.8
            Percent of sales                            11.1 %       12.4 %
            Operating income                      $     12.6      $   6.0
            Percent of sales                             5.3 %        4.5 %

Consolidated sales in 2007 were $235.9 million, an increase of $100.5 million or 74.2% compared to 2006. This increase was primarily due to increased demand for our products and services created by the fundamental strength of many industrial sectors including ethanol production, steel production, coal fired power plant construction and automotive related sectors. This increase also included $27.5 million in new equipment sales revenues attributed to the addition of Effox, Inc. which was acquired in 2007 and $48.1 million in contracting revenues from a large automotive project at H.M. White, Inc. Additional demand for our products and services was created by increasingly strict EPA mandated industry Maximum Achievable Control Technology standards ("MACT") and OSHA established Threshold Limit Values ("TLV"), as well as existing pollution control and energy legislation.

Orders booked in 2007 were $199.7 million plus acquired backlog from Effox and GMD of $24.6 million for a total of $224.3 million compared with $203.6 million in 2006. The increase in bookings was due primarily to our access to new markets provided by the addition of Effox and GMD Environmental. We continue to experience an active level of customer inquiry and quoting activities.

Gross profit increased by 70.4% or $16.2 million to $39.2 million in 2007 compared with $23.0 million in 2006. Gross profit as a percentage of sales, was 16.6% in 2007 compared to 16.9% in 2006. The decrease in the gross profit as a percentage of sales of 0.3% was due primarily to changes in product mix and lower margins on a large automotive project.

Selling and administrative expenses, as a percentage of revenues decreased from 12.4% in 2006 to 11.1% in 2007. This decrease in percentage is the result of leveraging the primarily fixed selling and administrative expenses with the 74.2% increase in revenues from growth and acquisitions. Selling and administrative expenses increased by $9.4 million to $26.2 million in 2007. This increase was due primarily to the addition of $4.4 million of Effox selling and administrative expenses, additional H.M. White selling and administrative expenses of $1.0 million relating to a full year in 2007 compared to eight months in 2006, increases in commissions and incentive compensation expenses of $750,000 relating to superior financial performance, increased selling and administrative wages of $2.2 million and costs of approximately $575,000 related to auditors and outside consultants' review of internal controls for compliance with Sarbanes-Oxley.

Depreciation and amortization increased $100,000 to $1.2 million. This was due primarily to an increase in capital expenditures.

Operating income was $12.6 million in 2007 and $6.0 million in 2006. This 110% increase in operating income resulted from the various factors previously mentioned.

Other income for the year ended December 31, 2007 was $10,000 compared with other income of $812,000 during the same period in 2006. This 2006 income was primarily due to the valuation of warrants which were all exercised in 2006.

Federal and state income tax provision was $4.4 million during 2007 compared with a tax provision of $1.8 million for the same period in 2006. The effective income tax rate for 2007 was 41% compared with 36% for the same period of 2006. The effective tax rate during 2007 was affected by certain permanent differences including the non-deductible, non-cash interest expense from retirement of subordinated debt.

Net income was $6.3 million in 2007 compared to a net income of $3.1 million in 2006.

Inflation and changing prices did not have a material effect on our revenues and income from operations.

Liquidity and Capital Resources

Financing

At December 31, 2008 and December 31, 2007, cash and cash equivalents totaled $1.2 million and $656,000, respectively. Generally, we do not carry significant cash and cash equivalent balances because excess amounts are used to pay down our revolving line of credit.

Total bank debt at December 31, 2008 was $22.6 million and $4.7 million at December 31, 2007. The bank debt at December 31, 2008 consists of $18.4 million due on the revolving line of credit and $4.2 million due on the term note. Unused credit availability under our $30.0 million revolving line of credit at December 31, 2008 was $8.1 million. Availability is limited as determined by a borrowing base formula contained in the credit agreement.

We entered into a new credit facility (the "Bank Facility") on December 29, 2005 with Fifth Third Bank. The Bank Facility was amended on June 8, 2006, February 28, 2007, February 29, 2008 and August 1, 2008 in conjunction with certain business acquisitions at those dates. Fees paid for these amendments were deferred and are being amortized over the remaining term of the Bank Facility.

As of December 31, 2008, the Bank Facility, as amended, includes a revolving line of credit of up to $30 million, including letters of credit, limited to a borrowing base amount computed as 70% of eligible accounts receivable plus 50% of eligible inventories. Amounts outstanding under the revolver were $18.4 million and $4.4 million at December 31, 2008 and 2007, respectively. Certain term loans previously available under the Bank Facility were fully retired with proceeds from our May 2007 secondary stock offering described in Note 11. At December 31, 2008, $4.2 million of a remaining $5.0 million term note is still outstanding. Interest on the outstanding borrowings is charged at the prime rate or the LIBOR rate plus 2% for the revolver and the prime rate or the LIBOR rate plus 2.25% on the term note. Based on our election to use the LIBOR rate at December 31, 2008, the weighted average interest rate under the Bank Facility was 2.56%.

We further amended the Bank Facility pursuant to a Fifth Amendment to the Credit Agreement ("Fifth Amendment") dated December 31, 2008. The Fifth Amendment amended the Bank Facility by removing the mandatory lock box provision, which had created a requirement to classify our outstanding credit line to be recorded as a current liability.

On July 31, 2008, the Company issued a Subordinated Convertible Promissory Note (the "Note") in the amount of Canadian $5,000,000 to Phillip DeZwirek, the Chairman and CEO of the Company. On August 14, 2008, the Company issued a new Subordinated Convertible Promissory Note (the "Subdebt Note") in the amount of Canadian $5,000,000 to Icarus Ontario, a Canadian company which is controlled by Phillip DeZwirek and Jason DeZwirek, the Secretary and a Director of the Company. The Canadian $5,000,000 proceeds received by the Company were used to repay the Note in full. The Subdebt Note provides for interest to accrue at the rate of 10% per annum in 2008, 11% per annum in 2009, and 12% per annum commencing January 1, 2010 until paid. Interest payments are payable semi-annually subject to the Subordination Agreement with Fifth Third Bank. The holder of the Subdebt Note may convert at any time the outstanding principal and accrued and unpaid interest there under into common stock of the Company at a per share price of $4.75, a price greater than the closing

Overview of Cash Flows and Liquidity



                                                          For the year ended December 31,
($'s in thousands)                                      2008              2007            2006

Total operating cash flow                           $      5,077        $   3,958       $ (4,281 )
Purchases of property and equipment                       (2,249 )         (1,692 )         (898 )
Net cash paid for acquisitions                           (23,535 )         (9,955 )           -

Net cash used in investing activities                    (25,784 )        (11,647 )         (898 )

Proceeds from issuance of common stock,
options and exercise of warrants                              43           18,996          3,362
Excess income tax benefit from share based
compensation                                                  -               531            131
Net bank (repayment) borrowing                            17,879           (5,884 )        3,809
Subordinated debt borrowings (repayments)                  4,884           (5,743 )       (1,988 )
Purchase of treasury shares                               (1,586 )             -              -

Net cash provided by financing activities                 21,220            7,900          5,314

Net increase (decrease)                             $        513        $     211       $    135

In 2008, $5.1 million was provided by operating activities compared to $4.0 million provided by operating activities in 2007. The increase in cash provided by operating activities was due primarily to an increase in non-cash expenses reduced by lower net income and an increase in working capital requirements. The major working capital accounts that provided cash in 2008 were accounts receivable which decreased $8.8 million, prepaid expenses and other current assets which decreased $1.8 million and accrued income taxes which increased $1.9 million. Cash was used in 2008 by decreases in accounts payable of $13.1 million, billings in excess of costs and estimated earnings of $2.4 million and other liabilities of $1.4 million as well as an increase in inventories of $.7 million. Net income in 2008 included $3.2 million of non cash expenses for depreciation and amortization and $1.2 million for non cash stock awards. Our net investment in working capital (excluding cash and cash equivalents and current portion of debt) at December 31, 2008 was $25.1 million as compared to $20.8 million at December 31, 2007. Looking forward, we will continue to manage our net investment in working capital. We believe that our working capital needs will remain constant unless we experience a significant increase or decrease in sales and operating income.

In 2007, $4.0 million was provided by operating activities compared to $4.3 million used by operating activities in 2006. The increase in cash provided was due primarily to significant increases in net income related to our increased level of sales as well as reduced working capital requirements resulting in part from paying sub-contractors after payment from our customers on larger projects. The major working capital accounts that provided cash in 2007 were accounts payable which increased $14.7 million and accrued income taxes which increased $583,000. Cash in 2007 was used by increases in accounts receivable of $15.0 million, billings in excess of costs and estimated earnings of $3.9 million and inventories of $547,000. Net income included non cash interest expense from the . . .