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

Overview

Trans-Lux is a full service provider of integrated multimedia systems for today's communications environments. The essential elements of these systems are the real-time, programmable electronic information displays we manufacture, distribute and service. Designed to meet the evolving communications needs of both the indoor and outdoor markets, these displays are used primarily in applications for the financial, banking, gaming, corporate, advertising, transportation, entertainment and sports industries. In addition to its display business, the Company owns and operates an income producing rental property. The Company operates in three reportable segments: Indoor display, Outdoor display and Real estate rental.

The Indoor display segment includes worldwide revenues and related expenses from the rental, maintenance and sale of indoor displays. This segment includes the financial, government/private and gaming markets. The Outdoor display segment includes worldwide revenues and related expenses from the rental, maintenance and sale of outdoor displays. Included in this segment are catalog sports, retail, digital billboards and commercial markets. The Real estate rental segment includes an income-producing real estate property.

On June 26, 2008, the Board of Directors approved the sale of the assets of the Entertainment Division. As a result of the sale, the Company has accounted for the Entertainment Division as discontinued operations beginning in the second quarter of 2008 and recorded long-lived asset impairment charges of $2.8 million as well as $2.0 million in disposal costs for the quarter ended June 30, 2008. See Note 2 - Discontinued Operations to the consolidated financial statements. The following discussion and analysis of financial condition and results of operations relates only to continuing operations.

Critical Accounting Policies and Estimates

Management's Discussion and Analysis of Financial Condition and Results of Operations discusses the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates its estimates and judgments, including those related to percentage of completion, uncollectable accounts receivable, slow-moving and obsolete inventories, goodwill and intangible assets, income taxes, warranty obligations, pension plan obligations, contingencies and litigation. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Senior management has discussed the development and selection of these accounting estimates and the related disclosures with the audit committee of the Board of Directors.

Management believes the following critical accounting policies, among others, involve its more significant judgments and estimates used in the preparation of its consolidated financial statements:

Percentage of Completion: The Company recognizes revenue on long-term equipment sales contracts using the percentage of completion method based on estimated incurred costs to the estimated total cost for each contract. Should actual total cost be different from estimated total cost, an addition or a reduction to cost of sales may be required.

Uncollectable Accounts Receivable: The Company maintains allowances for uncollectable accounts receivable for estimated losses resulting from the inability of its customers to make required payments. Should non-payment by customers differ from the Company's estimates, a revision to increase or decrease the allowance for uncollectable accounts receivable may be required.

Slow-Moving and Obsolete Inventories: The Company writes down its inventory for estimated obsolescence equal to the difference between the carrying value of the inventory and the estimated market value based upon assumptions about future demand and market conditions. If actual future demand or market conditions are less favorable than those projected by management, additional inventory write downs may be required.

Goodwill and Intangible Assets: The Company evaluates goodwill and intangible assets for possible impairment annually for goodwill and when events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable for other intangible assets. The Company uses the fair market value approach to test for impairment of its goodwill, and considers other factors including economic trends and our market capitalization relative to net book value. The fair market valuations used for the impairment tests can be affected by changes in the estimates of revenue multiples and the discount rate used in the calculations. The October 1, 2008 annual review indicated an impairment of $194,000 of the goodwill associated with the commercial outdoor display business, predominantly due to economic trends. Goodwill in our other businesses was not impaired. No impairment resulted from the annual reviews performed in 2007 or 2006. Future adverse changes in market conditions or poor operating results of underlying assets could result in an inability to recover the carrying value of the assets, thereby possibly requiring an impairment charge in the future.

Income Taxes: The Company records a valuation allowance to reduce its deferred tax assets to the amount that it believes is more likely than not to be realized. While the Company has considered future taxable income and ongoing feasible tax planning strategies in assessing the need for the valuation allowance, in the event the Company were to determine that it would not be able to realize all or part of its net deferred tax assets in the future, an adjustment to the deferred tax assets would be charged to income in the period such determination was made. Likewise, should the Company determine that it would be able to realize its deferred tax assets in the future in excess of its net recorded amount, an adjustment to the deferred tax assets would increase income in the period such determination was made.

Warranty Obligations: The Company provides for the estimated cost of product warranties at the time revenue is recognized. While the Company engages in product quality programs and processes, including evaluating the quality of the component suppliers, the warranty obligation is affected by product failure rates. Should actual product failure rates differ from the Company's estimates, revisions to increase or decrease the estimated warranty liability may be required.

Pension Plan Obligations: The Company is required to make estimates and assumptions to determine the obligation of our pension benefit plan, which include investment returns, rates of salary increases and discount rates. During 2008 and 2007, the Company recorded an after tax change in unrecognized pension liability in other comprehensive loss of $1.5 million and ($103,000), respectively. Estimates and assumptions are reviewed annually with the assistance of external actuarial professionals and adjusted as circumstances change. At December 31, 2008, plan assets were invested 52.9% in guaranteed investment contracts, 44.0% in equity and index funds and 3.1% in bonds. The investment return assumption takes the asset mix into consideration. The assumed discount rate reflects the rate at which the pension benefits could be settled. At December 31, 2008, the weighted average rates used for the computation of benefit plan liabilities were: investment returns, 8.75%; rates of salary increases, 3.00%; and discount rate, 6.25%. Net periodic cost for 2009 will be based on the December 31, 2008 valuation. The defined benefit plan periodic cost was $291,000 in 2008, $628,000 in 2007 and $285,000 in 2006. The 2007 periodic pension cost included a settlement charge of $366,000. See Note
14 - Pension Plan to the consolidated financial statements. At December 31, 2008, assuming no change in the other assumptions, a one percentage point change in investment returns would affect the net periodic cost by $72,000 and a one percentage point change in the discount rate would affect the net periodic cost by $95,000. As of December 31, 2003, the benefit service under the defined benefit plan had been frozen and, accordingly, there is no service cost for each of the three years ended December 31, 2008.

Results of Operations

2008 Compared to 2007

Total revenues for the year ended December 31, 2008 decreased 1.7% to $36.7 million from $37.3 million for the year ended December 31, 2007, principally due to decreases in both Indoor and Outdoor display equipment rentals and maintenance revenues and Outdoor display sales revenues, offset by an increase in Indoor display sales revenues.

Indoor display revenues increased $641,000 or 5.9%. Of this increase, Indoor display equipment sales increased $1.2 million or 36.5%, primarily due an increase in sales from the financial services, gaming and transportation markets.

Indoor display equipment rentals and maintenance revenues decreased $606,000 or 8.2%, primarily due to disconnects and non-renewals of equipment on rental and maintenance on existing contracts in the financial services market. The financial services market continues to be negatively impacted by the current investment climate resulting in consolidation within that industry and the wider use of flat-panel screens for smaller applications. Also, due to the global recession, both Indoor sales and rentals and maintenance revenues have been negatively impacted and continue to be in 2009.

Outdoor display revenues decreased $1.1 million or 4.4%. Of this decrease, Outdoor display equipment rentals and maintenance revenues decreased $672,000 or 13.8%, primarily due to the continued expected revenue decline in the older Outdoor display equipment rental and maintenance bases acquired in the early 1990s. Outdoor display equipment sales decreased $465,000 or 2.2%, primarily in the commercial market, offset by increased sales in the catalog sports market. Also, due to the global recession, both Outdoor sales and rentals and maintenance revenues have been negatively impacted and continue to be in 2009.

Real estate rental revenues decreased $137,000 or 33.2%, primarily due to less than full occupancy of the sub-leased portion of our former Norwalk, CT location, which sub-leases terminated in June 2008.

Total operating income for the year ended December 31, 2008 increased to $1.4 million from $115,000 for the year ended December 31, 2007, principally due to the increase in Indoor sales revenues, a reduction in general and administrative expenses in both the Indoor and Outdoor display segments and a decrease in the cost of Outdoor equipment rentals and maintenance.

Indoor display operating loss decreased to $505,000 in 2008 compared to a loss of $1.6 million in 2007, primarily as a result of the increase in revenues in the financial services, gaming and transportation markets, a decrease in depreciation expense related to the equipment rentals base and a decrease in general and administrative expenses. The cost of Indoor displays represented 80.3% of related revenues in 2008 compared to 81.5% in 2007. Indoor displays cost of equipment rentals and maintenance as a percentage of related revenues decreased primarily due to the relationship between the cost of equipment rentals and maintenance decreasing, and the revenues from Indoor display equipment rentals and maintenance also decreasing, but not at the same rate. The Company continues to monitor and address the cost of its field service operations to bring it in line with the revenues. Indoor displays cost of equipment rentals and maintenance decreased $375,000 or 5.3%, primarily due to a $422,000 decrease in depreciation expense, offset by a $47,000 increase in field service costs to maintain the equipment. Cost of Indoor display equipment rentals and maintenance includes field service expenses, plant repair costs, maintenance and depreciation. Indoor display cost of equipment sales increased $757,000 or 42.3%, primarily due to the increase in Indoor display sales and reduced margins of the Indoor display equipment sales due to product mix of sales to the transportation market. Indoor display general and administrative expenses decreased $796,000 or 22.3%, primarily due to a reduction in selling payroll and benefits and related expenses and a $265,000 decrease in bad debt expense. Due to the current economic condition, subsequent to year-end, certain personnel and related expenses of the Indoor display business were reduced, resulting in annual cash savings of approximately $0.9 million.

Outdoor display operating income increased $365,000 or 26.4%, primarily as a result of a decrease in depreciation expense related to the equipment rentals base, offset by $194,000 for the write down of goodwill, predominantly due to economic trends, relating to a 1995 acquisition in the outdoor commercial business. The cost of Outdoor displays represented 75.7% of related revenues in 2008 compared to 77.7% in 2007. Outdoor displays cost of equipment rentals and maintenance decreased $1.2 million or 30.6%, primarily due to a $573,000 decrease in depreciation expense and a $642,000 decrease in field service costs to maintain the equipment. Cost of Outdoor display equipment rentals and maintenance includes field service expenses, plant repair costs, maintenance and depreciation. Outdoor display cost of equipment sales decreased $170,000 or 1.0%, principally due to the decrease in volume. Outdoor display general and administrative expenses decreased $311,000 or 7.0%, primarily due to a $231,000 reduction in engineering expense. Due to the current economic condition, subsequent to year-end, certain personnel and related expenses of the commercial business were reduced, and all non-union personnel salaries were reduced, resulting in an annual cash savings of approximately $1.0 million.

Real estate rental operating income decreased $137,000 or 46.6%, primarily due the decrease in revenues due to less than full occupancy. The cost of Real estate rental represented 37.7% of related revenues in 2008 compared to 26.4% in 2007. Both the cost of Real estate rental and the general and administrative expenses remained level.

Corporate general and administrative expenses decreased $1.1 million or 26.4%, primarily due a foreign currency gain of $569,000 compared to a foreign currency loss of $259,000 in the prior year and decreases in personnel, benefits, legal fees and audit fees. The Company continues to monitor and reduce certain overhead costs. Due to current economic conditions, subsequent to year-end, all personnel salaries and consulting fees were reduced, resulting in an annual savings of approximately $0.3 million.

Net interest expense decreased $431,000 or 22.0%, due to lower interest rates of the variable debt and a reduction in total debt.

Goodwill impairment is a charge relating to a 1995 acquisition in the outdoor commercial business the Company wrote off. See Goodwill and Intangibles section above. The Company's goodwill evaluation indicated an impairment as of October 1, 2008.

Other (loss) income includes an $81,000 loss on investments that were sold in January 2009.

The effective tax rate for continuing operations for the years ended December 31, 2008 and 2007 was 39.5% and (15.9%), respectively. The 2008 effective tax rate was affected by the $2.7 million valuation allowance on its deferred tax assets as a result of reporting a pre-tax loss and the effect of allocating income taxes between continuing operations and discontinued operations. The 2007 effective tax benefit rate was affected by the $1.5 million one-time, non-cash, non-tax deductible debt conversion cost and the $1.0 million valuation allowance on its deferred tax assets as a result of reporting a pre-tax loss in recent years.

2007 Compared to 2006

Total revenues for the year ended December 31, 2007 decreased 8.7% to $37.3 million from $40.9 million for the year ended December 31, 2006, principally due to a decrease in Indoor display sales.

Indoor display revenues decreased $3.0 million or 21.7%. Of this decrease, Indoor display equipment sales decreased $2.1 million or 38.4%, primarily due to a reduction in sales from the financial services and transportation markets. Indoor display equipment rentals and maintenance revenues decreased $872,000 or 10.5%, primarily due to disconnects and non-renewals of equipment on rental and maintenance on existing contracts in the financial services market. The financial services market continues to be negatively impacted by the current investment climate, resulting in consolidation within that industry; and the wider use of flat-panel screens.

Outdoor display revenues decreased $559,000 or 2.1%. Of this decrease, Outdoor display equipment rentals and maintenance revenues decreased $440,000 or 8.3%, primarily due to the continued expected gradual revenue decline in the older Outdoor display equipment rental and maintenance bases acquired in the early 1990s. Outdoor display equipment sales decreased less than 1.0%, predominantly in the catalog sports market, offset by increases of billboard and commercial revenues.

Real estate rental revenues remained level.

Total operating income for the year ended December 31, 2007 decreased to $115,000 from $1.3 million for the year ended December 31, 2006, principally due to the increased losses of the Indoor display segment.

Indoor display operating loss increased $1.2 million to a loss of $1.6 million in 2007 compared to a loss of $361,000 in 2006, primarily as a result of the decrease in revenues in the financial services and transportation markets. The cost of Indoor displays represented 81.5% of related revenues in 2007 compared to 75.0% in 2006. The cost of Indoor displays as a percentage of related revenues increased primarily due to the relationship between field service costs of equipment rentals and maintenance decreasing, and the revenues from Indoor display equipment rentals and maintenance also decreasing, but not at the same rate. The Company continues to monitor and address the cost of its field service operations to try and bring it in line with the revenues and has centralized the dispatch, help desk and repair functions into the Des Moines, Iowa facility. Indoor display cost of equipment rentals and maintenance decreased $223,000 or 3.1%, largely due to a $502,000 reduction in depreciation expense, offset by an increase of $279,000 of field service costs. Cost of Indoor display equipment rentals and maintenance includes field service expenses, plant repair costs, maintenance and depreciation expense. Indoor display cost of equipment sales decreased $1.3 million or 42.5%, primarily due to the decrease in Indoor display sales. Indoor display general and administrative expenses decreased

$261,000 or 6.8%, primarily due to a reduction in salaries, related benefits and travel costs, offset by an increase in the allowance for doubtful accounts.

Outdoor display operating income decreased $12,000 or 0.9%, primarily as a result of a decrease in catalog sports revenue and an increase in the allowance for doubtful accounts, offset by a reduction in depreciation expense. The cost of Outdoor displays represented 77.7% of related revenues in 2007 compared to 78.3% in 2006. Outdoor display cost of equipment sales increased by 1.1%, primarily due to the cost of raw materials. Outdoor display cost of equipment rentals and maintenance decreased $777,000 or 16.4%, primarily due to a decrease in field service costs of $436,000 and a reduction in depreciation expense of $341,000. Cost of Outdoor display equipment rentals and maintenance includes field service expenses, plant repair costs, maintenance and depreciation expense. Outdoor display general and administrative expenses increased slightly.

Real estate rental operating income decreased $15,000 or 4.9%. The cost of Real estate rental represented 26.4% of related revenues in 2007 compared to 24.3% in 2006. Real estate rental general and administrative expenses remained level.

Corporate general and administrative expenses increased $1.1 million or 35.9%, primarily due to the negative effect of a $406,000 change in the currency exchange gain/loss in 2007 compared to 2006, an increase of $374,000 in pension expense and an increase in the cost of medical benefits.

Net interest expense decreased $633,000 or 24.4%, primarily due to the reduction in the 8 1/4% Limited Convertible Senior Subordinated Notes due 2012, as a result of the exchange offer in the first quarter of 2007, coupled with the reduction of other long-term debt due to regularly scheduled payments and a reduction in the interest rates of the variable rate debt.

The debt conversion cost relates to a $1.5 million one-time, non-cash, non-tax deductible charge for the exchange of debt for Common Stock as a result of the exchange offer. See Note 11 - Long-Term Debt to the consolidated financial statements.

The effective tax benefit rate for continuing operations for the years ended December 31, 2007 and 2006 was 15.9% and 46.9%, respectively. The 2007 effective tax benefit rate was affected by the $1.5 million one-time, non-cash, non-tax deductible debt conversion cost and the $1.0 million valuation allowance on its deferred tax assets as a result of reporting a pre-tax loss in recent years. The 2006 effective tax benefit rate was affected by the reversal of a deferred tax liability related to prior repurchases of the Company's convertible debt.

Liquidity and Capital Resources

The Company has a bank Credit Agreement, which provides for a term loan of $10.0 million, a non-revolving line of credit of up to $6.2 million to finance purchases and/or redemptions of one-half of the 7 1/2% Subordinated Notes due 2006 (which were redeemed in June 2006 and no longer outstanding), and a revolving loan of up to $5.0 million at variable interest rates ranging from LIBOR plus 2.25% to Prime (3.25% at December 31, 2008). Subsequent to year-end the rate of interest was modified to Prime plus 2.00%, with a floor of 6.00%, and the maturity date of the Credit Agreement was extended to April 1, 2010. The Credit Agreement requires an annual facility fee on the unused commitment of 0.25%, and requires compliance with certain financial covenants, which include a a loan-to-value ratio of not more than 50% and a leverage ratio. Subsequent to year-end, the fixed charge coverage ratio was modified to 1.1 to 1.0 for two quarters and the tangible net worth was redefined and modified to $24.0 million. As of December 31, 2008, the Company was in compliance with the forgoing financial covenants, but was not in compliance with the cap on capital expenditures, which the senior lender waived subsequent to year-end. At December 31, 2008, the entire revolving loan facility had been drawn. The non-revolving line of credit is no longer available. The Company's objective in regards to the Credit Agreement is to obtain additional funds from external sources through equity or additional debt financing and the Company is in discussions with senior lenders and others to obtain additional borrowing capacity, which management believes it should be able to accomplish within the next twelve months, but the current global credit market has been impacting the timing of accomplishing these objectives. While management believes it will be successful, there can be no assurance that management will be successful in achieving these objectives. The Company continually evaluates the need and availability of long-term capital in order to meet its cash requirements and fund potential new opportunities.

On March 15, 2007, the Company completed an offer to exchange 133 shares of its Common Stock, $1 par value per share, for each $1,000 principal amount of its 8 1/4% Limited convertible senior subordinated notes due 2012 (the "8 1/4% Notes"). The offer was for up to $9.0 million principal amount, or approximately 50% of the $18.0 million principal amount outstanding of the 8 1/4% Notes. A total of $7.8 million principal amount of the 8 1/4% Notes were exchanged, leaving $10.1 million principal amount of the 8 1/4% Notes outstanding. A total of 1,041,257 shares of Common Stock were issued in the exchange. In accordance with FASB No. 84, "Induced Conversions of Convertible Debt," the Company recorded a non-cash, non-tax deductible charge for the exchange of debt for Common Stock and additional amortization of prepaid financing costs aggregating $1.5 million in debt conversion cost as a result of the exchange offer.

During 2007, the Company secured a five-year $2.0 million financing of its real estate rental property in New Mexico at prime rate of interest, with a floor of 6.75%, which was the rate of interest at December 31, 2008.

No cash dividends for Common Stock and Class B Stock were declared by the Board of Directors during 2008 or 2007 in order to conserve cash and pay down debt.

The Company has incurred net losses from continuing operations for the years ended December 31, 2008, 2007 and 2006 of $4.6 million, $5.8 million and $2.3 million, respectively, but has generated cash provided by operating activities of continuing operations of $1.6 million, $4.7 million and $2.4 million for the years December 31, 2008, 2007 and 2006, respectively. The Company has implemented several initiatives to continue to improve operational results and cash flows over future periods. The Company's engineering staff continues to work on areas to improve manufacturing efficiencies as well as expanding and improving the outdoor commercial products, particularly controllers and digital billboards to include larger LED arrays, smaller LED pixel sizes for higher resolutions and additional features. The Company believes the outdoor commercial market is a growing industry, and we see increasing usage of digital signage in the outdoor commercial market once the economy begins to recover. The Company also continues to explore ways to reduce costs and relocated its Norwalk facility in the second quarter of 2008 to lower operating costs in the future. The Company continues to take steps to reduce the cost to maintain the equipment on rental and maintenance. In addition, the Company is recording less interest expense as a result of the exchange offer in the first quarter of 2007, see Note 11 - Long-Term Debt to the consolidated financial statements, paid down debt with the net proceeds from the sale of the assets of the Entertainment Division, see Note 2 - Discontinued Operations to the consolidated financial statements, and a reduction in interest rates of its variable rate debt. The Company has positive working capital of $1.8 million as of December 31, 2008. Management believes that its current cash resources and cash provided by continuing operations should be sufficient to fund its continuing operations and its current obligations through December 31, 2009.

Cash and cash equivalents decreased $5.2 million in 2008 compared to an increase of $0.8 million in 2007 and a decrease of $7.8 million in 2006. The decrease in 2008 was primarily attributable to a $5.7 million payment of long-term debt with the net proceeds from the sale of the assets of the Entertainment Division, in addition to $2.7 million of regularly scheduled payments of long-term debt. Operating activities provided $1.6 million, offset by the investment in equipment manufactured for rental of $4.1 million and purchases of property, plant and equipment of $0.4 million. The increase in 2007 was primarily attributable to proceeds received from loan borrowings of $2.0 million and operating activities of $4.7 million, offset by the investment in equipment manufactured for rental of $3.9 million and purchases of property, plant and equipment of $0.1 million. The decrease in 2006 is primarily attributable to the net reduction of long-term debt of $6.8 million, investment in equipment manufactured for rental of $4.3 million and purchases of property, plant and . . .