Summary of MERISEL INC /DE/

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion of the Company's consolidated historical results of operations and financial condition should be read in conjunction with its unaudited condensed consolidated financial statements and the notes thereto included elsewhere in this report.

Merisel is a leading supplier of visual communication solutions. Until August 2004, the Company's primary operations consisted of a software licensing solutions business. Thereafter, between March 2005 and October 2006, the Company, which conducts its operations through its main operating subsidiary, Merisel Americas, Inc. ("Americas"), acquired its current businesses:

· On March 1, 2005, the Company acquired its New York-based graphics solutions, premedia and retouching services businesses, Color Edge, Inc. ("Color Edge") and Color Edge Visual, Inc. ("Color Edge Visual"), and its New York-based prototype services provider, Comp 24, LLC ("Comp 24");

· On August 8, 2005, the Company acquired its California-based graphics solutions business, Crush Creative, Inc. ("Crush");

· On May 5, 2006, the Company acquired its California-based prototypes business, Dennis Curtin Studios, Inc. ("DCS");

· On May 10, 2006, the Company acquired its Georgia-based prototypes business, Advertising Props, Inc. ("AdProps"); and

· On October 1, 2006, the Company acquired its New York-based premedia and retouching services business, Fuel Digital, Inc. ("Fuel").

All of the acquired businesses operate as a single reportable segment in the graphic imaging industry, and the Company is subject to the risks inherent in that industry.

RESULTS OF OPERATIONS (amounts in thousands except as noted or for per share data)

The Company reported a loss available to common shareholders of $(3,346) or $(0.46) and $(3,838) or $(0.53) per share for the three and six months ended June 30, 2009, respectively, as compared to a loss of $(1,586) or $(0.20) and $(2,772) or $(0.35) per share for the three and six months ended June 30, 2008, respectively.

Three Months Ended June 30, 2009, as Compared to the Three Months Ended June 30, 2008

Net Sales - Net sales were $12,377 for the three months ended June 30, 2009, compared to $20,342 for the three months ended June 30, 2008. The decrease of $7,965 or 39.2% was due to weakening demand for our client services due to the ongoing weak economic conditions throughout the United States, and specifically in the retail market, which represents a significant portion of our customer base. The decline in sales was due primarily to a decrease in volume with the Company's existing customers, as the Company's customer base remains substantially intact.

Gross Profit - Total gross profit was $3,275 for the three months ended June 30, 2009, compared to $8,607 for the three months ended June 30, 2008. The decrease in total gross profit of $5,332 or 61.9% was primarily due to the 39.2% decline in net sales, combined with a decrease in gross profit percentage to 26.5% for the three months ended June 30, 2009, from 42.3% for the three months ended June 30, 2008. This 15.8% decrease in gross margin percentage resulted from higher (percentage of sales) costs for raw materials, production labor, and fixed costs including depreciation on production equipment, and production rent and utilities expense. Production labor costs increased as a percentage of revenues but decreased by $697 or 18.9% in absolute dollars.

Selling, General and Administrative - Total Selling, General and Administrative expenses decreased to $8,024 for the three months ended June 30, 2009, from $10,406 for the three months ended June 30, 2008. The decrease of $2,382 or 22.9% was due primarily to decreases in legal costs and investment banking fees associated with the Company's decision to enter into a merger agreement of $1,102, sales salaries and commission expense of $1,073, and other compensation costs of $201. Total Selling, General and Administrative expenses as a percentage of sales increased to 64.8% for the three months ended June 30, 2009, compared to 51.2% for the three months ended June 30, 2008.

Interest Expense, Net - Interest expense increased to $48 in the three months ended June 30, 2009, from $24 in the three months ended June 30, 2008. The increase was due to a decrease in interest income of $79 due to lower interest rates on balances in short-term interest-bearing investments classified as cash, offset by a $55 reduction in interest expense resulting from lower installment note balances.

Income Taxes - The Company recorded income tax benefit of $2,053 for the three months ended June 30, 2009, compared to a benefit of $789 for the three months ended June 30, 2008. Income tax expense in the current quarter is recorded at an effective tax rate of 42.8%, which compares to a 43.3% tax rate in the first quarter of 2008.

Net Loss - As a result of the above items, the Company had net loss of $2,744 for the three months ended June 30, 2009, compared to a loss of $1,030 for the three months ended June 30, 2008.

Six Months Ended June 30, 2009, as Compared to the Six Months Ended June 30, 2008

Net Sales - Net sales were $29,479 for the six months ended June 30, 2009, compared to $41,694 for the six months ended June 30, 2008. The decrease of $12,215 or 29.3% was due to weakening demand for our client services due to the ongoing weak economic conditions throughout the United States, and specifically in the retail market, which represents a significant portion of our customer base. The decline in sales was due primarily to a decrease in volume with the Company's existing customers, as the Company's customer base remains substantially intact
Gross Profit - Total gross profit was $9,641 for the six months ended June 30, 2009, compared to $17,994 for the six months ended June 30, 2008. The decrease in total gross profit of $8,353 or 46.4% was primarily due to the 29.3% decline in net sales, combined with a decrease in gross profit percentage to 32.7% for the six months ended June 30, 2009, from 43.2% for the six months ended June 30, 2008. This 10.5% decrease in gross margin percentage resulted from higher (percentage of sales) costs for raw materials, production labor, and fixed costs including depreciation on production equipment, and production rent and utilities expense. Production labor decreased by $1,314 or 16.8% in absolute dollars while increasing as a percentage of sales when compared to the six months ended June 30, 2008.

Selling, General and Administrative - Total Selling, General and Administrative expenses decreased to $14,174 for the six months ended June 30, 2009, from $20,887 for the six months ended June 30, 2008. The decrease of $6,713 or 32.1% was due primarily to the $2,000 legal settlement with ACAS, which was recorded as a reduction in expense during the first quarter of 2009, coupled with decreases in legal costs and investment banking fees associated with the Company's decision to enter into a merger agreement of $1,862, sales salaries and commission expense of $1,524, other compensation costs of $580, insurance costs of $481 and professional fees of $423. Excluding the gain from the legal settlement with ACAS, total Selling, General and Administrative expenses as a percentage of sales increased to 54.6% for the six months ended June 30, 2009, compared to 50.1% for the six months ended June 30, 2008.

Interest Expense, Net - Interest expense increased to $89 in the six months ended June 30, 2009, from $25 in the six months ended June 30, 2008. The increase was due to a decrease in interest income of $207 due to lower interest rates on lower balances in short-term interest-bearing investments classified as cash offset by a $143 reduction in interest expense resulting from lower installment note balances.

Income Taxes - The Company income tax benefit of $1,978 for the six months ended June 30, 2009, compared to a benefit of $1,249 for the six months ended June 30, 2008. Income tax expense in the current period is recorded at an effective tax rate of 42.8%, which compares to a 42.8% tax rate in the first six months of 2008.

Net Loss - As a result of the above items, the Company had net loss of $2,644 for the six months ended June 30, 2009 compared to a loss of $1,669 for the six months ended June 30, 2008.

LIQUIDITY AND CAPITAL RESOURCES

Cash Flow Activity

Net cash provided by operating activities was $2,505 during the six months ended June 30, 2009. The primary source of cash was a decrease of $5,619 in accounts receivable, depreciation and amortization of $2,491, and a decrease in inventories of $981, partially offset by the net loss of $2,644, deferred taxes of $1,978 and decreases in accounts payable of $1,996. The net loss was reduced by the ACAS settlement of $2,000 ($1,144 after tax benefit).

Net cash used by operating activities was $2,559 during the six months ended June 30, 2008. The primary uses of cash were the net loss of $1,669, and increases of $1,227 in accounts receivable, of $660 in inventory, and of $737 in prepaid assets partially offset by an increase in accounts payable of $2,611 and stock based compensation of $219.

For the six months ended June 30, 2009, net cash used in investing activities was $1,500 which consisted of $275 used for acquisition related expenditures and $1,225 used for capital expenditures.

For the six months ended June 30, 2008, net cash used in investing activities was $2,145 which consisted of $750 used for acquisition related expenditures and $1,395 used for capital expenditures.

For the six months ended June 30, 2009 and 2008, net cash used in financing activities was $472 and $436, respectively, of which $353 and $436 related to repayments of installment notes and capital lease payments, respectively. Additionally the Company used $119 to repurchase treasury stock during the six months ended June 30, 2009.

Financing Sources and Capital Expenditures

In June 2000, an affiliate of Stonington Partners, Inc., which currently owns approximately 69% of the Company's outstanding common stock, purchased 150,000 shares of convertible preferred stock (the "Convertible Preferred") issued by the Company for an aggregate purchase price of $15,000. The Convertible Preferred provides for an 8% annual dividend payable in additional shares of Convertible Preferred. Dividends are cumulative and will accrue from the original issue date whether or not declared by the Board of Directors. As of June 30, 2009, 157,383 shares of Convertible Preferred have been accrued as dividends. As of June 30, 2009, 151,356 shares have been issued to Stonington Partners, Inc in payment of that accrual. The remaining 6,027 shares will be issued during the third quarter of 2009. Additionally, cumulative accrued dividends of $15,738 and $14,544 were recorded as temporary equity at June 30, 2009 and as equity at December 31, 2008. At the option of the holder, the Convertible Preferred is convertible into the Company's common stock at a per share conversion price of $17.50. At the option of the Company, the Convertible Preferred can be converted into Common Stock when the average closing price of the Common Stock for any 20 consecutive trading days is at least $37.50. At the Company's option, on or after June 30, 2003, the Company may redeem outstanding shares of the Convertible Preferred initially at $105 per share and declining to $100 on or after June 30, 2008, plus accrued and unpaid dividends. In the event of a defined change of control, holders of the Convertible Preferred have the right to require the redemption of the Convertible Preferred at $101 per share plus accrued and unpaid dividends. As of June 30, 2009, no redemptions have been made.

In connection with the Company's financing of the Comp 24 and Color Edge acquisitions, the Company and Amalgamated Bank ("Bank") entered into two credit agreements dated March 1, 2005. The first credit agreement provided for a term loan in the amount of $500 with quarterly installment payments of $42 and a six-year revolving credit facility of $1,500.

The second credit agreement provided for a term loan in the amount of $2,000 with quarterly installment payments of $100 and a six-year revolving credit facility of $10,000. This credit agreement was amended on August 8, 2005, in connection with the Crush acquisition to, among other things, increase the revolving credit facility's commitment by $4,000 to an aggregate of $14,000 and to add Crush as an additional borrower.

On February 27, 2008, the Company and its operating subsidiaries entered into a six-year amendment and extension of the Company's two credit agreements with Amalgamated (collectively, the "Amalgamated Credit Agreement") to extend and combine the existing borrowings into a single $15,500 revolving credit facility (the "Facility") and a $800 term loan (the "Term Loan"). The amendment provided for interest at a "Base Rate," which is a floating rate equal to the greater of
(a) Amalgamated's prime rate in effect on such day and (b) the Federal Funds Effective Rate in effect on such day plus ½ of 1%.

From March 1, 2008, through March 27, 2009, the Company's borrowing base under the Facility was set at 85% of its eligible accounts receivable. The Facility must be prepaid when the amount of the borrowings exceeds the borrowing base. In addition, borrowings under the Term Loan and the Facility must be prepaid with net cash proceeds that result from certain sales or issuances of stock or from capital contributions. Voluntary prepayments are permitted, in whole or in part, without premium or penalty, at the Company's option, in minimum principal amounts of $100.

Color Edge, Color Edge Visual and Crush are named as borrowers under the February 27, 2008, amendment. All borrowings under the Amalgamated Credit Agreement are guaranteed by the Company, Merisel Americas, and each of their existing operating subsidiaries, as guarantors, and must be guaranteed by all of their future subsidiaries. The borrowings are secured by a first priority lien on substantially all, subject to certain exceptions, of the borrowers' and the guarantors' properties and assets, and the properties and assets of their existing and future subsidiaries.

The Amalgamated Credit Agreement provides for covenants as to the Company's financial performance on a consolidated basis, as well as restrictive covenants, which restrict the ability of the Company and its subsidiaries to, among other things: (1) declare or pay dividends or redeem or repurchase capital stock, (2) prepay, redeem or purchase debt, (3) incur liens or engage in sale-leaseback transactions, (4) make loans and investments, (5) incur additional debt, (6) engage in certain mergers, acquisitions and asset sales, (7) engage in transactions with affiliates, (8) change the nature of the borrowers' or the guarantors' business or the business conducted by their subsidiaries, and (9) incur any guaranteed obligations. The Amalgamated Credit Agreement also provides for customary events of default, including non-payment defaults, covenant defaults and cross-defaults to the other material indebtedness of the borrowers, the guarantors or any of their existing or future subsidiaries.

Under the financial covenants contained in the Amalgamated Credit Agreement the Company shall maintain a maximum leverage ratio, a minimum debt service coverage ratio, and a minimum tangible net worth amount. The Company was not in compliance with the leverage ratio as of December 31, 2008, and as a result, on March 26, 2009, the Company entered into an amendment to the Amalgamated Credit Agreement. For the period from January 1, 2008 through December 31, 2008 only, the amendment changes the calculation of adjusted consolidated EBITDA under the Facility and waives the Company's noncompliance with the leverage ratio requirements under the prior definition. In addition, effective as of March 26, 2009, the amendment reduces the Company's borrowing base under the Facility from 85% to 80% of eligible accounts receivable and sets the interest rate for the Company's borrowings under its lines of credit at 1% over the Base Rate. As of June 30, 2009, this rate was 4.25%. The March 26, 2009, amendment sets the termination date for the Facility at April 13, 2010. All other terms and conditions of the Amalgamated Credit Agreement remain in full force and effect.

As of June 30, 2009, the Company was not in compliance with the leverage ratio; however the Bank has waived the Company's non-compliance. The Company is currently in discussions with the Bank to amend the covenants and the Company anticipates completing an amendment during the third quarter of 2009. However, there can be no assurances that an amendment will be finalized.

As of June 30, 2009, the Company has $8,830 outstanding debt at variable interest rates.

As of June 30, 2009, the Company's borrowing base was below the outstanding balance on the revolving credit agreement. During August 2009, the Company paid down the outstanding balance by $600 to $8,030 under the terms of the loan agreement.

Management believes that its current cash balances and cash flow from operations will be sufficient liquidity for the next twelve months. However, the Company's operating cash flow can be impacted by macroeconomic factors outside of its control.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of financial statements in conformity with generally accepted accounting principles requires the appropriate application of certain accounting policies, many of which require the Company to make estimates and assumptions about future events and their impact on amounts reported in the Company's condensed consolidated financial statements and related notes. Since future events and their impact cannot be determined with certainty, the actual results will inevitably differ from the Company's estimates. Such differences could be material to the condensed consolidated financial statements.

The Company believes the application of its accounting policies, and the estimates inherently required therein, are reasonable. These accounting policies and estimates are constantly reevaluated, and adjustments are made when facts and circumstances dictate a change.

There have been no material changes in our critical accounting policies and estimates from those disclosed in Item 8 of our Annual Report on Form 10-K for the year ended December 31, 2008.