10-K

United States Securities and Exchange Commission

Washington, D.C. 20549

FORM 10-K

(Mark One) 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2006

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM TO

Commission File No. 000-50343

INTEGRATED ALARM SERVICES GROUP, INC.

(Exact name of Registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)		42-1578199 (IRS Employer Identification No.)
99 Pine Street, 3rd Floor, Albany, New York (Address of principal executive offices)		12207 (Zip code)
(518) 426-1515 ( Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Common Stock	Name of each exchange on which registered The NASDAQ Stock Market LLC
Securities registered pursuant to Section 12(g) of the Act: NONE

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o   No  x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934).  Large accelerated filer o   Accelerated filer  x  Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes  o No  x 

The aggregate market value of common stock held by non-affiliates of the registrant as of December 31, 2006, was $79,198,717.

The number of shares outstanding of the registrant’s common stock as of March 1, 2007 was 24,368,836 shares.

Integrated Alarm Services Group, Inc.

FORM 10-K

For The Fiscal Year Ended December 31, 2006

INDEX

Part I		Page
Item 1	Business	3
Item 1A	Risk Factors	11
Item 1B	Unresolved Staff Comments	14
Item 2	Properties	14
Item 3	Legal Proceedings	15
Item 4	Submission of Matters to a Vote of Security Holders	15
Part II
Item 5	Market for Registrant’s Common Stock, Related Stockholder Matters and Issuer Purchases of Equity Securities	16
Item 6	Selected Financial Data	16
Item 7	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17
Item 7A	Quantitative and Qualitative Disclosures about Market Risk	36
Item 8	Financial Statements and Supplementary Data	36
Item 9	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	37
Item 9A	Controls and Procedures	37
Item 9B	Other Information	38
Part III
Item 10	Directors and Executive Officers of the Registrant	39
Item 11	Executive Compensation	41
Item 12	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	48
Item 13	Certain Relationships and Related Transactions	51
Item 14	Principal Accountant Fees and Services	51
Part IV
Item 15	Exhibits and Financial Statement Schedules	53
	Signatures	S-1

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PART I

This Annual Report on Form 10-K contains forward-looking statements. The forward-looking statements involve a number of risks and uncertainties. A number of factors could cause our actual results, performance, achievements or industry results to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements. These factors include, but are not limited to:

·   general economic and business conditions;

·   our business strategy for expanding our presence in our industry, including acquisitions;

·   anticipated trends in our financial condition and results of operations;

·   the impact of competition and technological change;

·   existing and future regulations affecting our business; and

·   other risk factors set forth under Item 1A - Risk Factors below.

You can identify forward-looking statements generally by the use of forward-looking terminology such as ‘‘believes,’’ ‘‘expects,’’ ‘‘may,’’ ‘‘will,’’ ‘‘intends,’’ ‘‘plans,’’ ‘‘should,’’ ‘‘could,’’ ‘‘seeks,’’ ‘‘pro forma,’’ ‘‘anticipates,’’ ‘‘estimates,’’ ‘‘continues,’’ or other variations thereof, including their use in the negative, or by discussions of strategies, opportunities, plans or intentions. These forward-looking statements necessarily depend upon assumptions and estimates that may prove to be incorrect.

Although we believe that the assumptions and estimates reflected in the forward-looking statements contained in this Annual Report on Form 10-K are reasonable, we cannot guarantee that we will achieve our plans, intentions or expectations. The forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause actual results to differ in significant ways

from any future results expressed or implied by the forward-looking statements.

Item 1.Business

Recent Developments

On December 20, 2006, Protection One, Inc. (“Protection One”), Integrated Alarm Services Group, Inc. (“IASG”) and Tara Acquisition Corp., a direct, wholly owned subsidiary of Protection One (“Tara”), entered into an Agreement and Plan of Merger (the “Merger Agreement”) pursuant to which Protection One will acquire IASG (the “Merger”). If IASG’s Board of Directors withdraws or modifies the Merger Agreement in a manner adverse to Protection One or its recommendation of the merger, the Company may be subject to a $7.5 million payment to Protection One consisting of a termination fee and reimbursement of expenses.

Subject to the terms and conditions of the Merger Agreement, which has been unanimously approved by the boards of directors of Protection One and IASG, upon the completion of the Merger, each share of IASG common stock will be converted into 0.29 shares of Protection One common stock, with cash to be paid in lieu of fractional shares. On March 27, 2007, the Shareholders of IASG will vote on adoption of the Merger Agreement. If approved by the Shareholders, the merger is scheduled to be consummated on April 2, 2007.

Overview

We are one of the largest providers of monitoring, financing, and business support services to independent security alarm Dealers, which we refer to as “Dealers”, in the United States. We offer our services to Dealers competing in both the residential and commercial security alarm markets. We believe our services better allow Dealers to compete with larger, self-monitoring national alarm companies. The major categories of services we provide include:

·   Monitoring: We monitor alarm systems on behalf of Dealers who do not have the capital resources or critical mass to economically establish their own monitoring facilities and for our own accounts. We believe we are the largest wholesale alarm monitoring company in the United States, monitoring approximately 620,000 alarm systems on behalf of approximately 4,000 independent Dealers. We refer to this as our wholesale business and we currently receive approximately $2.6 million of revenue per month to monitor contracts owned by Dealers. Our alarm monitoring services are provided through two redundant alarm monitoring centers located in New Jersey and California. The acquisition of Financial Security Services, Inc. (“FSS”) in 2005 provided us with approximately 95,000 new monitored alarm systems as of December 31, 2006 and approximately 147 new Dealer relationships (these are included in the above totals) as well as an alarm monitoring center in Minnesota.

·   Financing: Since 1993, we have provided financing for Dealers in the form of loans or alarm monitoring contract purchases of approximately $520 million. As of December 31, 2006, we owned and monitored a portfolio of approximately 145,000 retail alarm monitoring contract equivalents. A contract equivalent is equal to $30 per month in Recurring Monthly Revenue (“RMR”) from a typical residential customer. We refer to this as our retail business and we currently receive approximately $4.3 million of revenue per month from this portfolio. In addition, we hold approximately 27,000 contracts as collateral against loans we have made to Dealers, 20,000 of which are from our FSS portfolio acquired in 2005.

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·   Business Support Services: For some of our Dealers, we provide billing, collection and marketing services as well as access to equipment discount programs. Because of our scale, we can generally provide these services on a more cost-effective basis for Dealers than they can for themselves. In addition, our equipment discount program allows Dealers who use our monitoring services to automatically receive preferential pricing for certain alarm equipment.

Our retail portfolio is comprised of both commercial and residential subscribers, which represent approximately 77% of our revenue in this portfolio, and commercial subscribers, which represent approximately 23% of our revenue in this portfolio.

We acquire alarm monitoring contracts on both a “flow business” and “bulk purchase” basis. Flow business is the purchase of newly created alarm monitoring contracts on a recurring, or “as originated,” basis from Dealers. We currently have relationships with over 75 Dealers from which we acquire alarm monitoring contracts on a flow basis. Bulk purchases are the acquisition of existing portfolios of alarm monitoring contracts with demonstrated payment histories. These alarm monitoring contracts are typically purchased from Dealers on a non-recurring basis. We also acquire monitoring contracts and Dealer relationships by acquiring monitoring call centers.

We believe our package of services allows Dealers to compete against the large self-monitoring national providers in the security alarm market by giving them access to technical sophistication, financing, back office and other services that they would not otherwise have, while allowing them to remain the local and visible contact with their customer, the end-user of the security alarm system. We intend to continue to expand the number of Dealers to which we provide these services through direct marketing of our services as well as acquisitions of Dealer relationships. See financial statement footnote 17 for segment information.

Our Business Strategy

Growth Initiatives

Acquisition of Additional Alarm Monitoring Contracts

We intend to expand our acquisition and financing of alarm monitoring contracts through purchasing retail alarm monitoring contracts on both a flow business and bulk purchase basis and by expanding our internal sales organization. Since our initial public offering in July 2003, we have acquired approximately 167,000 retail alarm monitoring contract equivalents at an average purchase multiple of 28 times the RMR. The sources of contracts available for acquisition include (i) our existing Dealer network, (ii) purchases from independent brokers representing pools of seasoned contracts and (iii) opportunistic purchases in the normal course of business.

Building Additional Wholesale Monitoring Relationships with Dealers

We intend to grow our wholesale business both internally and by acquiring Dealer relationships. Our internal growth is driven by the quality of service that we provide to our Dealers and their end-users. Our state-of-the-art redundant monitoring centers are important factors that enable us to attract additional Dealers. We believe that the fact that we do not compete, in most markets, with Dealers in the sale or installation of security alarm systems provides us a competitive advantage over many of our competitors that do compete with independent Dealers. We also intend to purchase Dealer relationships from monitoring companies.

Cross-Selling Opportunities

We have initiated a comprehensive cross-selling program of our primary services to Dealers. For those Dealers to whom we provide wholesale monitoring services, we will encourage them to use us as the purchaser when they wish to sell alarm monitoring contracts, or as a financing source should they wish to borrow funds against the value of their alarm monitoring contracts. We also have a program to offer additional services to the Dealers’ end-users, such as two-way voice communication, extended warranty coverage, personal emergency response service and GPS tracking services for movable assets.

Maximize Subscriber Retention

We seek to maximize subscriber retention by continuing to acquire high quality retail alarm monitoring contracts with demonstrated payment histories (for bulk purchases) and to increase the average life of an alarm monitoring contract by providing superior customer service and actively identifying subscribers who are relocating, the number one reason for account cancellations, and target retention of such subscribers, we also target the new residents moving into the relocating subscriber’s residence.

Maximize Economies of Scale

Our existing infrastructure will allow us to add a substantial number of additional alarm monitoring contracts with minimal additional costs. As we continue to grow our subscriber base, we believe our margins will increase as some of these costs are spread over larger recurring revenue streams. We believe our cash flows will also benefit from our continued efforts to reduce subscriber attrition. In addition, we believe that the consolidation of our various operating systems into one company wide product, as well as other actions we plan to take, will allow us to realize substantial cost savings.

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Our Industry

Overview

The security alarm industry is characterized by a large number of privately owned companies involved in security alarm sales, leasing, installation, repair and monitoring. Based on information from BarnesAssociates, approximately 45% of this market is served by companies not included in the 100 largest companies. The top 100 companies include large self-monitoring national providers such as ADT, Brinks and Protection One. Our target market is the portion of the market served by the Dealers outside of the top 100, or approximately 45% of the overall alarm monitoring market.

The growth in the security alarm industry has been fueled by several factors. We believe the aging of the population and the increase in two-career families have both contributed to an increased focus on the security of the home. Many insurance companies offer discounts to home and business owners who install electronic security alarm systems. In fact, many commercial enterprises are required by insurance underwriters to have monitored alarm systems. Additionally, we believe that many new homes have pre-installed security alarm systems. We also anticipate that historic growth rates in penetration will increase as technology continues to lower the cost of security alarm systems and monitoring and increases the potential applications of monitoring centers.

The performance of the security alarm industry has been impacted by numerous factors including the significant amount of consolidation that occurred in the mid-to-late nineties, self-monitoring national providers such as ADT and Protection One, private regional providers, as well as new entrants into the market which acquired a large number of independent Dealers (with and without monitoring call centers) and wholesale monitoring stations. During this period of consolidation, purchase multiples of RMR ranged from approximately 35x to 68x. This growth was largely financed with debt. Most of these acquirers experienced service disruptions in connection with the integration of these newly-acquired customer accounts, which resulted in a significant loss of customers, or “attrition,” as is referred to in the industry. Further, many acquirers were facing and continue to face financial pressures to service the debt used to effect these acquisitions. We believe that we will be able to complete acquisitions at purchase multiples of RMR lower than those which existed industry-wide in the mid-to-late nineties. Further, we expect that such acquisitions will be completed without compromising our account underwriting and due diligence criteria.

Dealer Operations

The primary sources of revenue for Dealers are the sale and installation of security alarm systems and the monthly subscription of the monitoring service. Typically, upon installation, the end-user enters into an annual alarm monitoring contract. Under an alarm monitoring contract, the Dealer agrees to monitor, or contract with another company to monitor, the security alarm from a remote location and to take certain pre-determined actions, such as calling the police, an ambulance service or fire department, when a security system is triggered and an alarm signal is received. After its initial term, most alarm monitoring contracts are subject to automatic renewal on an annual basis unless the Dealer or end-user notifies the other party within a defined time period that the alarm monitoring contract will not be renewed. The average life of alarm monitoring contracts, including renewals, typically ranges from 8 to 12 years.

Most Dealers do not have the capability to monitor alarms internally and outsource the monitoring and/or administrative aspects of the business to an outside wholesale alarm monitoring company. We believe that Dealers look for a partner, such as us, who offers a wide array of services, including state-of-the-art monitoring service, billing and collection capabilities and marketing support, all at a reasonable cost.

Financing support is often just as important as monitoring support since many Dealers are constrained by the working capital requirements required to build their business. In many cases, the cost of the installed equipment to the end-user is at or below the Dealer’s cost. In these cases, much of the Dealer's capital and financial return comes from future monthly payments under the alarm monitoring contracts. As a result, Dealers often need or desire to monetize these alarm monitoring contracts and will, consequently, sell or borrow against their alarm monitoring contracts.

Although there is a well-developed market for the purchase and sale of alarm monitoring contracts and several specialty finance companies have been willing to lend against alarm monitoring contracts held by Dealers, many Dealers have not had access to traditional credit lending markets. Several characteristics of the industry, including the lack of standardization among individual alarm monitoring contracts and the under-capitalization of most Dealers, make it difficult for traditional lenders to comfortably lend against the value of individual alarm monitoring contracts. Further, the ability to provide or control monitoring service is critical to maximizing the value of the alarm monitoring contract since service issues are the primary reasons why end-users do not renew alarm monitoring contracts. Traditional lenders and many specialty lenders do not have this capability.

When acquiring alarm monitoring contracts from Dealers, purchasers typically pay a multiple of the RMR. According to BarnesAssociates, a financial services provider to the security alarm industry, the average RMR purchase multiple for portfolios with less than $50,000 in RMR was, 33.5x in 2004, 34.8x in 2005 and an estimated 36.1x in 2006. For example, assuming a monthly security alarm monitoring cost to the end-user of $30, the acquisition price of the alarm monitoring contract would be approximately $1,080 in 2006.

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Our Services

Our two primary business activities are acquiring and managing portfolios of alarm monitoring contracts and monitoring security alarms. We also offer administrative services to our Dealers, such as billing and collection, as well as new and emerging products and services. Our acquisition and financing solutions provide capital to Dealers, allowing them to compete with larger competitors on the initial price of equipment and installation to the end-user.

We also provide Dealers with access to technical sophistication and back office services that they may not otherwise have (or be able to profitably operate), while allowing them to maintain visible contact with their local customers, the end-users of the alarm. Our alarm monitoring contract acquisition, financing solutions and monitoring services complement one another and drive growth in other areas of our business.

We generally require Dealers to whom we provide alarm monitoring contract financing to use our monitoring services for all of the alarm monitoring contracts they continue to own. We typically also require these Dealers to use our billing and collection services, enabling us to gain an additional level of control over the reliability of the alarm monitoring contracts’ cash flows. This places us in a unique position to minimize alarm monitoring contract attrition because we can control the quality of the monitoring, billing and collection and to a significant extent Dealer interaction with the end-user.

Alarm Monitoring Contract Acquisition and Financing Services

Generally, Dealers have had limited access to traditional credit providers. Several characteristics of the industry, including the lack of standardization among many individual alarm monitoring contracts, the under capitalization of Dealers and their inability to provide monitoring services directly has historically made lenders hesitant to provide financing to Dealers. When providing financing to Dealers, we obtain a security interest in the underlying alarm monitoring contracts. The payment terms are generally between 36 and 72 months, at interest rates based on prevailing overall interest rates and market conditions.

We believe that we are uniquely positioned to maximize the value of alarm monitoring contracts through the depth of our knowledge of the security alarm industry and the integrated nature of the services we provide. We have the ability to exercise greater control over alarm monitoring contract attrition than most capital providers because we have direct influence over the quality of the monitoring, interaction with the end-user and billing and collection. Consequently, we are able to deploy more capital and achieve higher returns.

With respect to purchased alarm monitoring contracts, we typically acquire them from the Dealers that originally sold and installed the security alarm systems giving rise to the alarm monitoring contracts. We structure the payment terms and pricing of both our alarm monitoring contract purchases and loans to provide us with a competitive internal rate of return. In a typical transaction, the Dealer will sell their alarm monitoring contracts for a purchase price that is a multiple of the RMR. The multiple paid in any actual transaction is impacted by several factors, including average RMR, the amount of the homeowner's investment in the alarm system, geographic diversity of the accounts and our own due diligence of the Dealer.

Generally, Dealers that sell or borrow against their alarm monitoring contracts do so on either a flow basis or a bulk basis. We purchase alarm monitoring contracts on both a flow and a bulk basis. Typically, the price paid for a flow alarm monitoring contract is less than that paid in a bulk purchase because very often the bulk purchases are comprised of seasoned, performing alarm monitoring contracts. In either instance, we typically require Dealers to replace any cancelled alarm monitoring contracts and lost revenues for the first year after we purchase an alarm monitoring contract. Such replacement must be in cash or acceptable alarm monitoring contracts. We also hold back a portion of the payment to purchase the contracts to secure this Dealer obligation.

Since alarm monitoring contract quality is a key driver of our profitability, underwriting discipline is critical. We maintain a very strict underwriting discipline. For example, we do not typically purchase alarm monitoring contracts that were generated by Dealers offering “zero-down” on equipment purchases and installation, unless the contracts have been outstanding for a minimum of 12 months and exhibit acceptable payment patterns as well as acceptable responses to quality control calls, since the lack of such costs does not create an investment stake in the service by the end-user. Further, end-users attracted to “zero-down” promotions are often of lower credit standing and therefore, may be more likely to default.

Credit quality of the end-user is also a key consideration when purchasing alarm monitoring contracts on a flow basis. We require credit rating scores on all alarm monitoring contracts that we acquire on a flow basis. We typically reject those alarm monitoring contracts with Beacon Scores (a credit rating employing a methodology developed by Fair, Isaac and Co., primarily used by Equifax in the U.S. and Canada) of less than 625 and typically accept alarm monitoring contracts with a Beacon Score of 640 or more (provided they satisfy all of our other due diligence criteria). Alarm monitoring contracts with a Beacon Score between 625 and 640 are further scrutinized through an additional review of the end-user’s credit status. We do not conduct a credit review of the end-user for bulk purchases because of the seasoned performance characteristics of such alarm monitoring contracts, such as the customer payment history.

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Our due diligence process begins with an examination of the Dealer in much the same way as a bank reviews a mortgage applicant. We perform judgment and lien searches, review tax filings (corporate and personal), and obtain credit scores, certificates of good standing and proof of licensure from the state(s) in which the Dealer does business. In addition, we pre-approve each Dealer's standard end-user alarm monitoring contract and with respect to flow purchases obtain a credit rating for each end-user. We also generally require that the selling Dealers carry errors and omissions insurance with at least $1 million of coverage and provide us with a personal guarantee of the dealer recourse obligation. When we purchase on a flow basis, we also generally contact the end-user to ensure that they understand the alarm monitoring contract and know how to use the alarm system.

When purchasing alarm monitoring contracts on a bulk basis, we contact a significant random sample to ensure the customers exist. In all cases, we verify that the alarm system generates a live signal to our monitoring call centers. We include certain additional safeguards in our purchase and loan agreements. We generally bill end-users directly and require that the receipts be deposited into a lock-box account for our benefit. The contents of the lock-box are remitted daily to an accumulation account. The Dealers have no right in, or any right to withdraw any amounts held in the accumulation account. For loans, we also take physical possession of the original alarm monitoring contracts and file financing statements to perfect our security interest.

While some of our monitoring competitors also claim to offer alarm monitoring contract acquisition and financing alternatives to Dealers, many act merely as an intermediary. In contrast, we operate as a principal and either lend directly to the Dealers or acquire alarm monitoring contracts for our own portfolio. We are not aware of any other monitoring competitor in the industry that acts as a principal for loans to Dealers.

In addition to the alarm monitoring contract acquisition and finance process described above, we generally require that Dealers use us to monitor all of their alarm monitoring contracts, not just those that have been acquired or financed. This monitoring requirement enables us to ensure the quality of the monitoring services.

Monitoring Services

We provide monitoring to Dealers on alarm monitoring contracts that they have entered into with an end-user. Dealers typically pay us a fixed monthly monitoring fee for each account that we monitor on their behalf. The cost of the monthly monitoring fee is either based on a published list price or is negotiated between us and the Dealer. The charges are billed to the Dealer on a monthly, quarterly, semi-annual or annual basis in accordance with the contract agreement. The collection of payments by the Dealer from their end users have no effect on the prices charged or collected by us from the Dealer. We currently monitor approximately 765,000 end-user accounts. Generally, when an alarm is activated, a signal is sent from the alarm system through a phone line, radio transmitter or wireless service to a receiver located at one of our two monitoring facilities. This signal is immediately routed through our automated system and an operator personally handles each call. When the operator receives the alarm condition, his or her computer will simultaneously display a series of instructions on how to handle the alarm. These instructions are prepared by the Dealer and the end-user in advance and are customized to the particular logistics of the geographic area as well as the individual needs of the end-user.

In many instances, the operator will call a phone number specified by the end-user and ask for a code word. If the operator is unable to contact the end-user or an incorrect code word is given, the operator will dispatch the appropriate authority to the scene of the alarm. In the instance of a fire alarm, the operator is typically instructed to dispatch emergency vehicles without making an attempt to contact the end-user. In any event, after dispatching the appropriate authority, the operator will then call any other individuals specified in the end-user's instructions and will provide notice to the Dealer servicing the end-user of the event. The Dealer can then provide follow-up support with the local end-user.

In a typical week, our operators respond to approximately 68,000 priority alarm activations. We have consistently met a response time for priority events, measured by us as the time between when an alarm signal arrives in our alarm monitoring centers and our first response to that alarm, of 19 seconds on average, which we believe is among the best response times in the industry.

We own and operate two redundant alarm monitoring centers, which operate with state-of-the-art equipment and a highly trained staff. Our alarm monitoring centers are located in Manasquan, New Jersey and Irvine, California, and are linked via advanced software that creates a real-time queuing process. Having two facilities located strategically in different time zones allows us to efficiently allocate alarm responses based on time-of-day or specific event drivers that may cause one area of the country to have a higher volume of alarms than others. As a result, alarm signals, which would otherwise wait for available operators during peak periods, are routed to our other alarm monitoring centers where they are more quickly processed. For instance, a large number of alarms at our New Jersey facility resulting from bad weather in the Northeast would result in the transfer of a portion of these calls to our California facility. In addition, we also own and operate a monitoring center in St. Paul, Minnesota which we acquired as part of the FSS acquisition. The St. Paul facility operates on a different software platform than our other two alarm monitoring centers and is therefore unable to load share with those facilities.

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All of our alarm monitoring centers are Underwriters Laboratories (R) (“UL”) listed. To obtain and maintain a UL listing, a monitoring call center must be located in a building meeting UL's structural requirements, have back-up and uninterruptible power supply, have secure and redundant telephone lines and redundant computer systems that meet UL criteria. Access to the facility must also be strictly controlled.

Alarm monitoring offerings vary widely with the specific needs of the end-user and encompass many types of monitored alarms including burglary, hold-up, panic, fire, two-way voice communication, industrial process control, medical emergency and environmental alert. We monitor all of these types of alarms from our existing monitoring call centers. Our alarm monitoring centers are also capable of supporting a full range of add-on services such as remote video monitoring, network intrusion detection, cellular transmission, private radio access, personal emergency response systems and Global Positioning System (“GPS”) monitoring and emergency dispatch services using GPS technology.

Historically, our wholesale alarm monitoring services business has grown by adding new Dealer relationships generated by both direct marketing and sales activities and by cross-selling to those Dealers to whom we have provided financing. Additionally, over the last four years we have acquired five wholesale alarm monitoring companies and we expect to acquire additional alarm monitoring centers in the future, subject to the availability of suitable acquisition opportunities.

We continually monitor the efficiency of each of our alarm monitoring centers. In recent years we have consolidated eight alarm monitoring centers into two alarm monitoring centers, taking advantage of new technologies that enable us to monitor large geographic areas very effectively from a single location. This consolidation has allowed us to increase efficiency and productivity, and decrease duplicative expenses. However, we intend to always maintain at least one fully redundant facility. During 2005, a third alarm monitoring center was added as a result of the FSS acquisition.

Other Products and Services

Billing and Collection

We create paper invoices and mail them to end-users serviced by our Dealers. We also utilize electronic and credit card payment options for our customer’s convenience. Additionally, we may provide collection services for accounts receivable. We generally charge on a per account basis. In instances where we provide the billing and collection function in addition to alarm monitoring contract acquisition and financing, we gain an additional level of assurance that timely payments will be made on the alarm monitoring contracts that we have purchased or lent against. It also enables us to minimize billing errors, which are also a cause of alarm monitoring contract attrition. By offering billing and collection services to our Dealers, we enable Dealers to focus their efforts on sales and installation, rather than administration of alarm monitoring contracts.

Equipment Sales without Monitoring

We sell equipment, such as motion detectors, sensors, cameras and closed circuit televisions without monitoring to certain commercial customers.

Commercial and Residential Bundled Arrangements

We sell bundled arrangements to our commercial and residential customers which consist of equipment, installation services and ongoing monitoring services generally under three to five year contracted terms. These bundled arrangements generally require an upfront payment and recurring monthly revenue (RMR) payments over the term of the contract. Amounts assigned to each component are based on the component’s objectively determined fair value. If fair value can not be determined for a sale involving multiple elements, upfront non-refundable deposits are deferred and recognized over the expected life of the customer relationship. The RMR is recognized monthly over the term of the contract.

Equipment Discount Program

We provide our Dealers with access to discounts on equipment. For example, we have entered into a relationship with Honeywell, which is the largest security alarm equipment manufacturer and provider in the world. Our understanding with Honeywell is that any Dealer who uses our monitoring services will automatically receive preferential pricing for all equipment purchased from Honeywell. This program can represent significant savings to our Dealers. To be eligible for this program, we require that the Dealer (i) be an existing customer of ours, (ii) connect all of their new end-users to our alarm monitoring center and (iii) maintain a current standing with regard to their monitoring charges.

We are currently in discussions with other major manufacturers of alarm equipment to institute a similar type of discount program for their equipment. This will give our Dealers a choice of using different types and brands of equipment while enjoying similar reduced pricing plans.

Sales and Marketing

Our sales and marketing activities are conducted through a network of 74 in-house professionals.

Sales activities are separated between retail and wholesale customers. Wholesale customer sales activities are structured under three product areas: wholesale monitoring, finance and acquisitions. The Company employs a salaried and commissioned sales force that is geographically distributed throughout the United States, which is responsible for identifying opportunities. The Company also employs product specialists, which assist the sales force. There are 8 professionals in our wholesale sales force. Our retail segment has 63 employees involved in sales activities related to servicing commercial and residential customers.

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Our marketing department is comprised of 3 professionals and is responsible for the production and distribution of print advertising materials and direct mail marketing pieces. The team also issues corporate communications to employees, customers, strategic partners and other interested parties through regular press releases and announcements of new products and services. The group is also responsible for business development activities including the identification and procurement of new products and services that Dealers can sell to their customers.

We believe that this multi-faceted approach to sales and marketing activities is an important ingredient to the successful ongoing growth in all our business areas.

Acquisition Process

Since 2003, we have acquired four businesses. Through these acquisitions, we have not only significantly increased our number of contracts owned and dealer loan portfolios, but have increased our installation and servicing of commercial and residential monitoring systems.

Our alarm monitoring flow business includes the purchase of newly created alarm monitoring contracts on a recurring, or as originated, basis from our Dealers. We have engaged in flow business with over 75 Dealers over time, and are actively seeking to increase the number of Dealers with whom we conduct flow business.

Bulk purchases occur when we buy existing portfolios of alarm monitoring contracts with demonstrated payment histories of at least six months. Bulk purchases typically range in size from 1,000 to 5,000 alarm monitoring contracts. These alarm monitoring contracts are typically purchased from Dealers on a non-recurring basis. The bulk purchases are less predictable in terms of the timing of account acquisitions, but are generally more predictable in terms of performance than flow business because the actual historical performance of individual alarm monitoring contracts is known. Many of the bulk purchases made by us are made from Dealers who are existing monitoring customers.

In a typical alarm monitoring contract acquisition, we retain the selling Dealer to service the underlying alarm system, which helps us maintain strong relationships with the Dealers and encourages the Dealer to sell additional alarm monitoring contracts to us as new installations are completed.

The impact of the acquired contracts on revenue and profitability will be affected by the attrition rates of acquired portfolios, as well as the variable expenses relating to such acquisitions including billing, collection and servicing.

Employees

As of December 31, 2006, we had a workforce of 682 employees. Of our total workforce, 255 are engaged in finance, administration and management, 219 are engaged in the monitoring business, 74 are engaged in sales and marketing, and 134 are engaged in service and installation of monitoring systems. None of our employees are represented by a collective bargaining agreement, nor have we experienced work stoppages. We believe that our relations with our employees are good.

Competition

The security alarm industry is highly competitive and fragmented. While we generally do not compete directly with many of the large companies in the industry such as ADT, Brinks, Protection One and Honeywell because we do not primarily sell and install security systems, we are nonetheless impacted by the competitive challenge these companies present to Dealers. While all of these companies provide monitoring services, some of these companies, may from time to time, purchase portfolios of monitoring contracts.

We compete with several companies that have alarm monitoring contract acquisition and loan programs for Dealers and some of these competitors may be better capitalized than us. There is also the potential for other entities such as banks or finance companies to gain a better understanding of the industry and become more active as a source of competition for alarm monitoring contract acquisition and financing portions of our business. Further, we compete with participants that primarily provide alarm monitoring contract acquisition and financing services.

History

We were formed as King Central in 1985 in the State of New Jersey. In 1986, Thomas Few, Sr. our former Vice Chairman and President joined King Central as Executive Vice President and Chief Operating Officer and acquired 20% of King Central's capital stock. In January 1998, as part of a reorganization of King Central, Mr. Few, Sr.'s ownership was increased to 80% and the remaining 20% was acquired by Timothy M. McGinn, our former Chief Executive Officer, and David L. Smith, a former Director. At that time, we changed our name to KC Acquisition.

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In September 2002, KC Acquisition acquired all of the capital stock of Criticom International Corporation (“Criticom”) in exchange for $1.0 million and 155,911 shares of our common stock. An additional 68,182 shares of our common stock have been issued to the sellers based upon Criticom's financial performance in 2003. Criticom provides wholesale alarm monitoring services to Dealers. In addition, it provides Global Positioning System monitoring and asset tracking services to various customers. KC Acquisition adopted the name Criticom International as its trade name for our monitoring services business during 2003.

M&S Partners, a New York general partnership equally owned by Mr. McGinn and Mr. Smith began to acquire portfolios of alarm monitoring contracts from Dealers in 1992. Each contract was ultimately placed by M&S Partners with one of 41 leveraged trusts of which Mr. McGinn, Mr. Few, Sr. and Mr. Smith were the beneficiaries. M&S Partners also acquired alarm monitoring contracts through three limited liability companies (Guardian Group, LLC, Palisades Group, LLC and Payne Security Group, LLC) which were owned by TJF Enterprises, LLC, which is owned by Mr. Few, Sr., and First Integrated Capital Corporation, which is majority owned by Mr. McGinn and Mr. Smith. They bundled those alarm monitoring contracts and sold them as Trust Certificates collateralized by the underlying alarm monitoring contracts and their recurring monthly revenue. We do not expect to engage in securitizing alarm monitoring contracts in the future.

Between March and November 2002, IASI, a company that was controlled by Mr. McGinn, Mr. Smith and Mr. Few, Sr., offered the holders of the trust certificates the right to exchange such certificates for promissory notes of IASI. Upon completion of the exchanges, all but eleven of the trusts were liquidated and their assets were transferred to IASI. The trust certificates of the remaining trusts were repaid with the proceeds of the offering and the assets of the trusts were transferred to us. In January 2003, IASI entered into a merger with a wholly owned subsidiary of ours and became our wholly owned subsidiary. In connection with the acquisition of IASI, we issued an aggregate of 772,192 shares of our common stock.

Palisades Group, LLC was the owner of approximately 38% of the alarm monitoring contracts underlying the trusts. In January 2003, Palisades exchanged all of its ownership interests for our stock and distributed such stock to its members, TJF Enterprises, LLC and First Integrated Capital Corporation. In connection with the acquisition of Palisades, we issued an aggregate of 25,000 shares of our common stock. This acquisition was accounted for under the purchase method of accounting. In January 2003, Payne Security Group, LLC and Guardian Group, LLC were acquired by us and became our wholly owned subsidiaries. In connection with the acquisition of Payne Security Group, LLC, we issued an aggregate of 50,250 shares to TJF Enterprises, LLC, and First Integrated Capital Corporation. In connection with the acquisition of Guardian Group, LLC, we issued an aggregate of 16,750 shares to TJF Enterprises, LLC, and First Integrated Capital Corporation.

Morlyn Financial Group, LLC was founded in May 2000 to assist Dealers who were interested in selling their alarm monitoring contracts to IASI. Morlyn originates alarm monitoring contracts for acquisition and provides due diligence, billing and other related services. In connection with the acquisition of Morlyn, in January 2003, we issued an aggregate of 17,000 shares of our common stock to Messrs. McGinn, Few Sr., and Smith.

In June 1999, KC Acquisition acquired all of the assets and assumed certain liabilities of Criticom CA, Inc., a monitoring call center in Santa Fe Springs, California, in exchange for approximately $3.2 million. In May 2000, KC Acquisition acquired 99.2% of the capital stock of Monital Signal Corporation in exchange for approximately $10.7 million. Monital, located in Manasquan, New Jersey, was KC Acquisition's largest competitor in the Northeast, United States. In October 2001, KC Acquisition acquired Custom Design Security, an independent wholesale alarm monitoring company which services the Western and Central Regions of Florida, in exchange for approximately $1.2 million. In January 2002, KC Acquisition acquired certain assets of RTC Alarm Monitoring Services, an alarm monitoring call center in California, in exchange for $5.1 million.

In January 2003, we effected a migratory merger into KC Alarm Services Group, Inc., a Delaware corporation. The sole purpose of the migratory merger was to change our jurisdiction of incorporation from New Jersey to Delaware. Subsequent to the migratory merger, we assumed all of the assets and liabilities of Integrated Alarm Services Group, Inc., a pre-existing, Delaware company whose only activity was the sale of $5.5 million of convertible debentures. The pre-existing Integrated Alarm Services Group, Inc. was then dissolved and we changed our name to Integrated Alarm Services Group, Inc.

See heading “Acquisitions” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations for entities acquired since our initial public offering of common stock.

Risk Management

We carry insurance of various types, including general liability and errors and omissions insurance. Our errors and omissions coverage is $10 million per occurrence. Our loss experience and the loss experience of other companies in the security industry may affect the cost and availability of such insurance. Since 1998 we have had no significant uninsured losses. Certain of our insurance policies and the laws of some states may limit or prohibit insurance coverage for punitive or other types of damages, or liability arising from gross negligence or wanton behavior. See “Risk Factors—In the event that adequate insurance is not available or our insurance is not deemed to cover a claim we could face liability.”

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The nature of the services we provide potentially exposes us to greater risks of liability for employee acts or omissions or systems failure than may be inherent in other businesses. Our agreements with Dealers and end-users contain provisions limiting our liability to end-users and Dealers in an attempt to reduce this risk. However, in the event of litigation with respect to such matters, there can be no assurance that these limitations will continue to be enforced. In addition, the costs of such litigation could have an adverse effect on us.

Regulatory Matters

A number of local governmental authorities have adopted or are considering various measures aimed at reducing the number of false alarms. Such measures include: (i) subjecting alarm monitoring companies to fines or penalties for transmitting false alarms, (ii) licensing individual alarm systems and the revocation of such licenses following a specified number of false alarms, (iii) imposing fines on end-users for false alarms, (iv) imposing limitations on the number of times the police will respond to alarms at a particular location after a specified number of false alarms and (v) requiring further verification of an alarm signal before the police will respond.

Our operations are subject to a variety of other laws, regulations and licensing requirements of federal, state and local authorities. In certain jurisdictions, we are required to obtain licenses or permits to comply with standards governing employee selection and training and to meet certain standards in the conduct of our business. Many jurisdictions also require certain of our employees to obtain licenses or permits.

The alarm industry is also subject to requirements imposed by various insurance, approval, listing and standards organizations. Depending upon the type of end-user served, the type of service provided and the requirements of the relevant local governmental jurisdiction, adherence to the requirements and standards of such organizations is mandatory in some instances and voluntary in others.

Our alarm monitoring business utilizes radio frequencies to transmit alarm signals. The Federal Communications Commission and state public utilities commissions regulate the operation and utilization of radio frequencies.

The Company’s current reports on Form 8-K, quarterly reports on Form 10-Q, and annual reports on Form 10-K are electronically filed with the Securities and Exchanged Commission (“SEC”), and all such reports and amendments to such reports have been and will be made available, free of charge, through the Company’s website (www.iasg.us) as soon as reasonably practicable after such filing. The public may read and copy any material filed by the Company with the SEC at the SEC‘s Public Reference Room at100 F Street, N. E., Washington, D.C. The public may obtain information on the operation of the public reference room by calling the SEC at 1-800-SEC-0330. The SEC maintains a website (www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

Item 1A.Risk Factors

Risks Related to Our Business

Consummation of IASG’s merger with Protection One is subject to the satisfaction of various closing conditions; IASG’s inability to consummate the merger could have a material adverse effect on IASG’s results of operations and financial condition. Consummation of the proposed merger with Protection One is subject to the satisfaction of various closing conditions, including the following:

·   the merger agreement shall have been approved by a majority of the outstanding shares of IASG common stock;

·   the shares of Protection One common stock issuable to IASG stockholders as part of the merger and issuable upon exercise of outstanding IASG stock options converted into Protection One stock options shall have been approved for listing on a NASDAQ stock market, subject to official notice of issuance;

·   certain holders of IASG’s 12% Senior Secured Notes due 2011 shall have exchanged their notes for new notes issued by a subsidiary of Protection One;

·   Protection One shall have obtained an amendment to its existing credit facility; and

·   other customary closing conditions described in the merger agreement, including the receipt of tax opinions, accuracy of representations and warranties and the performance of obligations under the merger agreement.

IASG cannot guarantee that these closing conditions will be satisfied or that the proposed merger will be successfully completed. In the event that the proposed merger is not completed:

·   IASG’s board of directors will need to determine whether to seek an alternative transaction or whether to remain an independent business ;

·   If IASG’s board of directors seeks an alternative transaction, there can be no assurance whether any such transaction can be entered into or consummated or what the terms of such a transactions would be;

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·   If IASG’s board of directors determines that IASG should remain an independent company, IASG’s management will need to revise its business plan and there can be no assurance that such business plan can be successfully implemented;

·   IASG’s relationships with customers, suppliers and employees may be adversely affected as a result of uncertainties with regard to its business and prospects;

·   IASG may be required to pay significant transaction costs related to the proposed Merger, such as a transaction termination (break-up) fee and/or reimbursement expenses as follows:

·   A cash amount equal to $7.5 million, consisting of both a termination fee and reimbursement of expenses, will be paid by IASG to Protection One if prior to the adoption of the merger agreement by IASG stockholders, the IASG board of directors has withdrawn or modified in a manner adverse to Protection One its recommendation of the merger; recommended to the stockholders of IASG, or caused IASG to enter into any definitive agreement providing for the implementation of, another acquisition proposal; materially breached its obligations regarding the delivery of a proxy statement/prospectus or the calling and holding of the special meeting to vote on adoption of the merger agreement; or materially breached its obligations regarding non-solicitation.

·   Reasonable out-of-pocket fees and expenses up to $2 million actually incurred by Protection One in connection with the merger agreement and related agreements, and the transactions contemplated in those agreements, including fees and expenses of counsel, investment bankers, accountants, experts, consultants and other representatives of Protection One will be paid by IASG to Protection One if Protection One is not in breach in any material respect of its obligations under the merger agreement, and IASG has breached or failed to perform any of its representations, warranties, covenants or agreements in the merger agreement which breach or failure to perform (a) would give rise to the failure of a condition regarding representations and warranties and performance of obligations and (b) such breach has not been cured by IASG within 30 days after written notice to IASG.

Any such events could have a material negative impact on IASG’s results of operations and financial condition.

Significant attrition, or non-renewal of retail alarm monitoring contracts or loss of dealer relationships would materially adversely affect our results of operations. We experience attrition of Dealer customer relationships and alarm monitoring contracts as a result of several factors including relocation of end-users, adverse financial and economic conditions and competition from other alarm service companies. In addition, we may lose or experience non-renewal of certain alarm monitoring contracts of Dealers, particularly acquired Dealer customer relationships and alarm monitoring contracts, if we do not service those alarm monitoring contracts adequately or do not successfully integrate new alarm monitoring contracts into our operations. A significant increase in attrition or the non-renewal of alarm monitoring contracts would have a material adverse effect on our revenues and earnings. To the extent that actual attrition exceeds our expectations, our revenues, profitability, cash flow and earnings would be adversely affected. Attrition for acquired Dealer customer relationships and alarm monitoring contracts may be greater in the future than the attrition rate assumed or historically incurred by us. In addition, because some Dealer customer relationships and acquired alarm monitoring contracts are prepaid on an annual, semi-annual or quarterly basis, attrition may not become evident for some time after an acquisition is consummated.

If our retail alarm monitoring contract attrition exceeds 18% for certain periods, we will be required to offer to purchase a portion of the outstanding 12% Senior Secured Notes due 2011. Our actual attrition for fiscal year 2006 was 12.9%. Under the same circumstances, our ability to purchase new retail alarm monitoring contracts may be limited. If we are required to make such an offer, we may not have sufficient funds to purchase the Notes we are required to repurchase or such repurchase could adversely affect our liquidity.

We face significant competition in the security alarm industry, which could make it more difficult for us to succeed in securing relationships with Dealers and reduce the number of alarm monitoring contracts we are able to acquire. We are dependent on entering into and maintaining relationships with Dealers who will either sell their alarm monitoring contracts directly to us, borrow from us, or enter into alarm monitoring contracts for us to provide wholesale monitoring services for the alarm monitoring contracts retained by them. While we do not typically compete directly with many of the larger companies in the industry because we do not primarily sell and install security systems, we are nonetheless impacted by the competitive challenge these entrants present to Dealers.

There is the potential that larger companies in the industry may generate alarm monitoring contracts offering "zero down" on equipment purchases and installation.The independent Dealer may have to offer the same "zero down" deal in order to effectively compete. Since the end-users attracted to "zero- down" promotions are often of lower credit standing and thereby are more likely to default, we will only purchase these contracts if they have been outstanding for periods longer than 12 months and exhibit acceptable payment patterns as well as acceptable responses to quality control calls, thus potentially limiting the available alarm monitoring contracts which meet our due diligence standards.

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We also compete with several companies that have alarm monitoring contract acquisition and loan programs for Dealers and some of those competitors may be larger and better capitalized than we are. Some of these companies may be able to pay higher multiples of recurring monthly revenue for the portfolios they acquire than we can. We may be required to offer higher prices for such acquisitions than we have in the past, thus making these acquisitions less financially advantageous. Some of the companies we compete with include ADT, Protection One, Brinks and Honeywell. There is also the potential for other entities such as banks or finance companies to become more active as a source of competition for the Dealer financing portions of our business.

We may not be able to obtain all of the benefits of the security alarm monitoring contracts we purchase. A principal element of our business strategy is to acquire portfolios of alarm monitoring contracts. Acquisitions of end-user alarm monitoring contracts involve a number of risks, including the possibility that we will not be able to realize the recurring monthly revenue stream we contemplated at the time of acquisition because of higher than expected attrition rates or fraud. Although we complete an extensive due diligence process prior to acquiring alarm monitoring contracts and obtain representations and warranties from the seller, we may not be able to detect fraud on the part of the seller, including the possibility that the seller has misrepresented the historical attrition rates of the sold contracts or has sold or pledged the contracts to a third party. If the sale of alarm monitoring contracts involves fraud or the representations and warranties are otherwise inaccurate, we may not be able to recover from the seller damages in the amount sufficient to fully compensate us for any resulting losses. In such event, we may incur significant costs in litigating ownership or breach of acquisition contract terms.

We may pursue acquisitions of alarm monitoring call centers that by their nature present risks and may not be successful. An element of our business strategy is to acquire additional alarm monitoring call centers. The following are some of the risks associated with these acquisitions:

·   We may be unable to achieve anticipated revenues, earnings or cash flow because of higher than expected attrition rates or other reasons.

·   We may be unable to integrate acquired call centers successfully and realize anticipated economic, operational and other benefits in a timely manner. If we are unable to integrate acquired call centers successfully, we could incur substantial costs and delays or other operational, technical or financial problems.

·   If we are not successful in integrating acquired call centers, we could have increased attrition because of service-related problems.

·   Acquisitions could disrupt our ongoing business, distract management, divert resources and make it difficult to maintain our current business standards, controls and procedures.

We also face competition in identifying and purchasing suitable alarm monitoring centers. We compete with other firms, many of which have greater financial and other resources than we do, for the acquisition of alarm monitoring centers. Should this competition increase, it will be more difficult to acquire additional alarm monitoring centers, on terms acceptable to us.

Our ability to continue to grow our business is dependent upon our ability to obtain additional financing. We intend to continue to pursue growth through the acquisition of end-user alarm monitoring contracts and wholesale monitoring businesses. We will be required to seek additional funding from third party lenders and/or from the possible sale of additional securities, which may lead to higher leverage or the dilution of then existing stockholders. Our senior secured notes contain terms that limit our ability to incur additional indebtedness which may negatively impact our ability to acquire additional monitoring contracts. Any inability to obtain funding through third party financing is likely to adversely affect our ability to continue or increase our acquisition activities. Third party funding may not be available to us on attractive terms or at all.

Rising interest rates could negatively affect our profitability. The interest rate of our financing is generally tied to prevailing market rates. In the event that interest rates rise, the spread between our cost of capital and the amount that we can charge Dealers who borrow from us may decrease, which will negatively affect our profitability.

We could face liability for our failure to respond adequately to alarm activations. The nature of the services we provide potentially exposes us to risks of liability for employee acts or omissions or system failures. In an attempt to reduce this risk, our alarm monitoring agreements and other agreements pursuant to which we sell our products and services contain provisions limiting liability to end-users and Dealers. However, in the event of litigation with respect to such matters, there can be no assurance that these limitations will continue to be enforced. In addition, the costs of such litigation could have an adverse effect on us.

We may face additional costs and potential liability as a result of "false alarm" ordinances.Significant concern has arisen in certain municipalities about the high incidence of false alarms. This concern could cause a decrease in the likelihood or timeliness of police response to alarm activations and thereby decrease the propensity of consumers to purchase or maintain alarm monitoring services.

A number of local governmental authorities have considered or adopted various measures aimed at reducing the number of false alarms. Such measures include subjecting alarm monitoring companies to fines or penalties for transmitting false alarms, licensing individual alarm systems and the revocation of such licenses following a specified number of false alarms, imposing fines on alarm end-users for false alarms, imposing limitations on the number of times the police will respond to alarms at a particular location after a specified number of false alarms and requiring sufficient further verification of an alarm signal before the police will respond. Enactment of such measures could increase our costs and thus adversely affect our future results of operations.

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Future government or other organization regulations and standards could have an adverse effect on our operations. Our operations are subject to a variety of laws, regulations and licensing requirements of federal, state and local authorities. In certain jurisdictions, we are required to obtain licenses or permits, to comply with standards governing employee selection and training and to meet certain standards in the conduct of our business. The loss of such licenses, or the imposition of conditions to the granting or retention of such licenses, could have an adverse effect on us. We believe that we are in material compliance with applicable laws and licensing requirements. In the event that these laws, regulations and/or licensing requirements change, it could require us to modify our operations or to utilize resources to maintain compliance with such rules and regulations. There can be no assurance as to what new regulations will be enacted and what effect they may have on us.

The loss of our Underwriters Laboratories listing could negatively impact our competitive position. All of our monitoring call centers are UL listed. To obtain and maintain a UL listing, an alarm monitoring call center must be located in a building meeting UL's structural requirements, have back-up and uninterruptible power supply, have secure telephone lines and maintain redundant computer systems. UL conducts periodic reviews of monitoring call centers to ensure compliance with their regulations. Non-compliance could result in a suspension of our UL listing. The loss of our UL listing could negatively impact our competitive position.

We rely on technology which may become obsolete. Our monitoring services depend upon the technology (hardware and software) of security alarm systems. We may be required to upgrade or implement new technology which could require significant capital expenditures. There can be no assurance that we will be able to successfully implement new technologies or adapt existing technologies to changing market demands. If we are unable to adapt in a timely manner in response to changing market conditions or customer requirements, such inability could adversely affect our business.

In the event that adequate insurance is not available or our insurance is not deemed to cover a claim we could face liability. We carry insurance of various types, including general liability and errors and omissions insurance. Our loss experience and that of other security service companies may affect the availability and cost of such insurance. Certain of our insurance policies and the laws of some states may limit or prohibit insurance coverage for punitive or certain other types of damages, or liability arising from gross negligence. To the extent that insurance was not available, or a particular claim was not covered or exceeded our coverage, we could be exposed to material costs.

Item 1B.Unresolved Staff Comments

None.

Item 2.Properties

In September 2003, the Company entered into a five-year lease for office space for its headquarters in Albany, New York. The lease is for approximately 21,000 square feet. The lease period is November 15, 2003 through November 14, 2008. The lease has a five-year renewal option. Annual rents will be $190,000 for year one and two and $225,000 for years three through five.

We also have offices at our East Coast call monitoring center in Manasquan, New Jersey. The facility is approximately 7,000 square feet. We own the premises, subject to a mortgage in favor of LaSalle Bank, creating a first priority security interest for the benefit of LaSalle Bank, and subject to a second mortgage in favor of the Trustee, creating a second priority security interest for the benefit of the holders of the Notes.

Morlyn’s executive offices are located in Oakland, New Jersey. The offices are approximately 3,500 square feet. The lease expires in July 2007 and provides for a monthly rental of approximately $4,000.

Our Wall, NJ facility houses both administrative and dealer care offices. The facility is approximately 5,000 square feet. The lease expires in August 2007 with a monthly cost of approximately $6,000.

As part of the acquisition of National Alarm Computer Center (“NACC”), we assumed the lease of office space and a monitoring center of approximately 19,000 square feet in Irvine, California at a monthly cost of approximately $40,000. The lease runs through April 2007. This facility will be replaced by a new office property in Cypress, California.

We also had an alarm monitoring center in Minneapolis, Minnesota. During 2005, it was consolidated into our Manasquan, NJ monitoring call center. The Minneapolis facility is approximately 13,000 square feet. The lease expires in 2010, and provides for a monthly rental rate of approximately $15,000. We closed this facility during 2006.

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Our Las Vegas, Nevada location houses a customer call center and service, installation and administrative offices. The facility is approximately 10,000 square feet. The lease expires in June 2007 with a current monthly cost of approximately $12,000, with annual rent increases based upon the U.S. Department of Labor Consumer Price Index.

As part of the acquisition of FSS, we assumed the leases of office space in Dallas, Texas and an alarm monitoring center in St. Paul, Minnesota. The Dallas facility is approximately 3,000 square feet. The lease expires in October 2008 with an early termination option in October 2007 with a monthly cost of approximately $4,300 and $4,500 in 2007 and 2008 respectively. The St. Paul facility is approximately 7,000 square feet. The lease expires in April 2008 with a five year renewal option at a monthly cost of approximately $5,000.

We also have two sales, service and administrative offices as well as seven sales and service branch offices located in California, New Mexico and Arizona. The leases expire at various dates through 2010 and currently have a monthly rental rate of approximately $28,000.

We also have administrative and service offices as well as dealer care centers located in California, Michigan, New Jersey, Minnesota and Georgia. The leases expire at various dates through 2008 and currently have a monthly rental rate of approximately $13,000. Some of these dealer care centers have been consolidated into our other dealer care facilities during 2005.

We entered into a long-term lease for secure office property in Cypress, California in December 2006. The Cypress facility is expected to be occupied in the second quarter of 2007 after leasehold improvements and central station operating infrastructure construction is completed. This facility will replace the NACC, Irvine, CA location.

Item 3.Legal Proceedings

In March 2003, Protection One, a company engaged in the business of providing security and other alarm monitoring services to residential and commercial customers, brought an action against us in the Superior Court of New Jersey, Camden County for $1.4 million unspecified damages in connection with our purchase of certain alarm monitoring contracts from B&D Advertising Corp. B&D had previously sold alarm monitoring contracts to Protection One. As part of such sales, B&D agreed not to solicit any customers whose contracts had been purchased and to keep certain information confidential. Protection One claims that our subsequent purchase of contracts from B&D constitutes tortious interference, that we utilized confidential information belonging to Protection One and that Protection One had an interest in some of the contracts that we purchased from B&D. We plan to vigorously defend this claim. We believe the resolution of this matter will not have a material adverse effect on our financial condition, results of operations or cash flows. This matter has been stayed pending the completion of the merger between Protection One and us, at which time it is expected that the matter will be dismissed by agreement of the parties, without costs or recovery by any party.

In December of 2005, Ira R. Beer, former president of our American Home Security, Inc (“AHS”) subsidiary in Las Vegas, brought an action against AHS and us in District Court for Clark County, Nevada. Mr. Beer sought monies allegedly due under a certain Employment Agreement dated November 21, 2003. Mr. Beer’s employment was terminated, for cause, on December 8, 2005. Mr. Beer’s lawsuit alleged that his termination was not for cause and that he was owed unpaid salary through the end of 2006 of some $440,000 and a certain “bonus buy-out” which he asserted to be approximately $2,192,000. He also sought unspecified punitive damages. We had also filed a counterclaim against Mr. Beer for derogation of his management duties. This matter was settled in it entirety in early December 2006 for approximately $1.76 million.

On June 26, 2006, our former president Thomas J. Few, Sr. initiated litigation against us in connection with his employment, seeking a monetary award for amounts allegedly due to him under an employment agreement. The claim was filed in the Superior Court of New Jersey, in the Bergen County Law Division. The principal parties to the suit are Thomas J. Few, Sr. and us. Mr. Few alleges that he is owed up to 36 months of pay as well as an amount representing accrued but unused vacation as a result of his resignation following our alleged breach of the employment agreement.  Settlement negotiations have been unsuccessful and discovery proceedings are underway as ordered by the Bergen County Law Division.

We are involved in litigation and various legal matters that have arisen in the ordinary course of business. We do not believe that the outcome of these matters will have a material adverse effect on our financial position, results of operations or cash flows, although it is possible that an adverse resolution of a number of these matters could have a material adverse effect on the Company’s financial position, results of operations, or cash flows in a particular quarter or fiscal year.

Item 4.Submission of Matters to a Vote of Security Holders

No matters were submitted to a vote of stockholders during the fourth quarter of the fiscal year ended December 31, 2006, through the solicitation of proxies or otherwise.

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Part II

Item 5.Market for Registrant’s Common Stock, Related Stockholder Matters and Issuer Purchases of Equity Securities

The Company’s common stock is traded in the NASDAQ National Market System under the symbol IASG. Quarterly high and low bid information for the quarterly periods of 2006 and 2005 as reported by NASDAQ for normal trading hours (4 pm EST closing) are set forth below:

Year ended December 31, 2006	High		Low
First Quarter	$	4.27	$	2.41
Second Quarter		4.11		3.25
Third Quarter		4.29		3.56
Fourth Quarter		3.95		2.56
Year ended December 31, 2005		High		Low
First Quarter	$	6.40	$	4.83
Second Quarter		4.96		3.60
Third Quarter		5.08		3.50
Fourth Quarter		3.90		1.89

These over the counter market quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions.

No dividends have been paid on the common shares to date and none are anticipated for the foreseeable future.

During 2005, the Company’s Board of Directors approved an initial plan to repurchase up to $2.5 million of the Company’s common stock, the maximum permitted under the Senior Secured Note covenants. As of December 31, 2006, the Company has purchased 312,626 shares of treasury stock at an aggregate cost of approximately $1.0 million.

As of December 31, 2006 there were 24,681,462 common shares issued and 24,368,836 common shares outstanding held by 12 shareholders of record, not including persons or entities where stock is held in nominee or “street” name through various brokerage firms or banks.

Item 6.Selected Financial Data

The following selected financial data have been derived from the Consolidated Financial Statements of the Company.

	Year ended December 31,
	2002			2003			2004			2005			2006
	(in thousands, except share and per share data)
Statement of operations data (1):
Revenue	$	23,496		$	40,868		$	80,369		$	99,234		$	94,364
Total operating expenses, inclusive of cost of revenue		24,268			44,517			82,496			107,752			166,493
Income (loss) from operations		(772	)		(3,649	)		(2,127	)		(8,518	)		(72,129	)
Other (expense), net		(5,557	)		(14,829	)		(9,172	)		(13,251	)		(12,799	)
Income (loss) before income taxes		(6,329	)		(18,478	)		(11,299	)		(21,769	)		(84,928	)
Income tax expense (benefit)		(682	)		3,527			418			563			(1,013	)
Net income (loss)	$	(5,647	)	$	(22,005	)	$	(11,717	)	$	(22,332	)	$	(83,915	)
Basic and diluted income (loss) per share	$	(9.53	)	$	(1.95	)	$	(0.47	)	$	(0.91	)	$	(3.44	)
Shares used computing basic and diluted income (loss) per common share (3)		592,785			11,263,455			24,667,960			24,662,198			24,368,836
Pro forma income tax to give effect as if a C corporation (2):
Loss before income tax expense (benefit)		(6,329	)		(18,478	)		N/A			N/A			N/A
Income tax expense (benefit)		(2,872	)		(90	)
Net income (loss)	$	(3,457	)	$	(18,388	)
Net income (loss) per share	$	(5.83	)	$	(1.63	)

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	Year ended December 31,
	2002			2003			2004			2005			2006
		(in thousands, except share and per share data)
Balance sheet data:
Cash, cash equivalents and short-term investments	$	3,442		$	35,436		$	31,555		$	16,239		$	13,664
Total assets		45,628			241,036			302,084			273,074			188,716
Long-term debt		45,061			65,743			130,225			125,000			125,000
Capital lease obligations		508			885			1,035			811			836
Total stockholders' equity (deficit)		(11,563	)		153,403			142,850			120,114			36,585
Working capital (deficit)		(8,077	)		4,769			16,956			9,066			7,525
Other financial data:
Cash provided by (used in) operating activities		2,692			(4,239	)		14,149			8,099			6,367
Cash provided by (used in) investing activities		(8,863	)		(57,984	)		(76,766	)		(16,348	)		(8,613	)
Cash provided (used in) financing activities		5,389			97,217			58,736			(7,067	)		(329	)

 (1) Results of operations for acquired companies are included from the date of acquisition. As a result comparability of periods presented has been affected by our acquisitions. For more information about our acquisition history, see “Business”, Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 11 to our consolidated financial statements.

 (2) To give effect to the conversion of KC Acquisition from an S corporation to a C corporation for federal income tax purposes. The tax provision was prepared as if we had a combined federal and state effective tax rate of 40% and giving effect for permanent differences.

 (3) During July 2003, the Company completed its IPO and issued a total of 22,982,729 shares of common stock and received net proceeds of approximately $195,857,000.

Item 7.Management’s Discussion and Analysis of Financial Condition and Results of Operations

See Item 1 Business (Recent Developments) and Item IA Risk Factors for disclosure related to our pending merger with Protection One.

Executive Overview

During the third quarter of 2006, the Company realigned its segments. Prior period segment information for the year ended December 31, 2005 has been retroactively adjusted to reflect this realignment. The Company is unable to retroactively adjust segment information for the year ended December 31 2004 as the necessary data is not available. Effective third quarter of 2006, IASG has three reportable segments: alarm-monitoring wholesale services, alarm-monitoring residential services and alarm-monitoring commercial services. The Company has determined its reportable segments based on its method of internal reporting which is used by management for making operational decisions and assessing performance.

The Company conducts business in the security industry through three segments:

·   Alarm Monitoring Wholesale Services (Wholesale Segment) The alarm-monitoring wholesale services segment provides monitoring services to a broad range of independent alarm-monitoring dealers. This division also offers administrative services such as billing and collection to dealers. Criticom International, our wholesale services also provides monitoring services to our other divisions.

·   Alarm Monitoring Residential Services (Residential Segment) The alarm-monitoring residential services segment provides monitoring services to its end customers, working capital to independent alarm-monitoring dealers and customer service and billing and collection services to our portfolio of accounts. This is accomplished by purchasing alarm monitoring contracts from the dealer or by providing loans using the dealer's alarm monitoring contracts as collateral. The monitoring of the customer’s system is performed primarily by Criticom International.

·   Alarm Monitoring Commercial Services (Commercial Segment) The alarm-monitoring commercial services segment is a commercial security integrator that provides installation, testing and maintenance for commercial customers as well as monitoring services to its end customers. Growth in this segment is accomplished by purchasing alarm monitoring contracts from dealers or by installing monitoring systems for new commercial customers. The monitoring of the customer’s system is performed exclusively by Criticom International.

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Management’s approach to each of its security businesses is similar, with a focus on quality service, risk management and a patient and disciplined approach to markets. Management believes each business is a premium provider of services in the markets that it serves. The Company’s marketing and sales efforts are enhanced by its brands so the Company seeks to protect their value. Since the Company’s services focus on protecting people and valuables, its employees strive to understand and manage risk. Overlaying management’s approach is an understanding that the Company must be disciplined and patient enough to charge fair prices that reflect the value provided, the risk assumed and the need for an appropriate return on invested capital.

The business environments in which the Company’s security businesses operate throughout the United States are constantly changing. Management continually adapts to changes in the competitive landscapes, economic conditions in different parts of the country and each customer’s level of business. As a result, the Company operates largely on a decentralized basis so local management can adjust operations to its unique circumstances.

For the same reasons that the Company operates on a decentralized basis, short-term forecasts of performance are difficult to make with precision. As a result, the Company does not provide detailed earnings forecasts.

The Company measures financial performance on a long-term basis. The key financial factors on which it focuses are:

·   Growth in revenues and earnings

·   Attrition minimization

·   Generation of cash flow

·   Creation of value through portfolio growth

These and similar measures are critical components of the Company’s employee performance evaluations.

The following discussion and analysis of our financial condition and results of operations should be read together with the Consolidated Financial Statements and Notes thereto.

Overview

We are one of the largest providers of monitoring, financing, and business support services to independent security alarm Dealers, which we refer to as “Dealers”, in the United States. We offer our services to Dealers competing in both the residential and commercial security alarm markets. We believe our services better allow Dealers to compete with larger, self-monitoring national alarm companies. The major categories of services we provide include:

·   Monitoring. We monitor alarm systems on behalf of Dealers who do not have the capital resources or critical mass to economically establish their own monitoring facilities and for our own accounts. We believe we are the largest wholesale alarm monitoring company in the United States, monitoring approximately 620,000 alarm systems on behalf of approximately 4,000 independent Dealers. We refer to this as our wholesale business and we currently receive approximately $2.6 million of revenue per month to monitor contracts owned by Dealers. Our alarm monitoring services are provided through two, state-of-the-art, redundant alarm monitoring centers located in New Jersey and California. The acquisition of FSS in 2005 discussed below provided us with 95,000 new monitored alarm systems and approximately 147 new Dealer relationships (these are included in the above totals) as well as an alarm monitoring center in Minnesota.

·   Financing. Since 1993, we have provided financing for Dealers in the form of loans or alarm monitoring contract purchases of approximately $520 million in the aggregate. As of December 31, 2006, we owned and monitored a portfolio of approximately 145,000 retail alarm monitoring contract equivalents. A contract equivalent is equal to $30 per month in RMR (“Recurring Monthly Revenue”) from a typical residential customer. We refer to this as our retail business and we currently receive approximately $4.3 million of revenue per month from this portfolio. In addition, we hold approximately 26,000 contracts as collateral against loans we have made to Dealers. The FSS acquisition added in 2005 has approximately 19,000 contracts as collateral against loans made to Dealers (which we assumed in the acquisition) and these are included in the above totals.

·   Business Support Services. For many of our Dealers, we provide billing, collection and marketing services as well as access to equipment discount programs. Because of our scale, we can generally provide these services on a more cost-effective basis for Dealers than they can for themselves. In addition, our equipment discount program allows Dealers who use our monitoring services to automatically receive preferential pricing for certain alarm equipment.

Our retail portfolio is comprised of both commercial and residential subscribers, which represent approximately 77% of our revenue in this portfolio, and commercial subscribers, which represent approximately 23% of our revenue in this portfolio. We believe maintaining an appropriate balance between residential and commercial customers will be important going forward.

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We believe our package of services allows Dealers to compete against self-monitoring national providers in the security alarm market by giving them access to technical sophistication, financing, back office and other services that they would not otherwise have, while allowing them to remain the local and visible contact with their customer, the end-user of the security alarm system. We intend to continue to expand the number of Dealers for which we provide these services through direct marketing of our services as well as acquisitions of alarm contracts and alarm monitoring companies.

Our revenues are derived primarily from our portfolio of retail alarm monitoring contracts and providing wholesale alarm monitoring services to Dealers for the benefit of the end-user of the alarm system. We typically enter into contracts with our Dealers to provide alarm monitoring services for periods ranging from one to five years. The majority of monitoring contracts entered into by end-users with our Dealers generally permit cancellation with notice of 30-60 days before the end of the original, or any renewal, contract term. Some alarm monitoring contracts with Dealers have longer, more definitive terms. However, essentially all alarm monitoring contracts may be broken for non-performance. Our alarm monitoring contracts with Dealers may require the Dealer to place its entire portfolio of end-user alarm monitoring contracts in our monitoring centers. Our revenues will fluctuate based upon changes in the net number of end-user alarm monitoring contracts and the timing of connections and disconnections that any one Dealer has with us. Our revenues will also fluctuate based upon the number of Dealers that are added or lost during any particular period. We may gain or lose Dealers based upon the quality, range or price of the services we provide relative to what is provided by our competitors and the effectiveness of our sales and marketing efforts. Our revenues may also be affected by the application of various pricing strategies we may choose to use with our Dealers.

In addition to our organic revenue growth, our revenues will increase because of acquisitions of retail alarm monitoring contracts and Dealer relationships and their related wholesale alarm monitoring business. Our RMR derived from acquired businesses are also subject to the standard risks associated with any acquisition and subsequent integration. We may suffer attrition because of differences in, among other things, the application of policies and procedures, or disruption caused by any conversion or consolidation activity.

The cost of services is primarily a function of labor, telecommunication, data processing and technical support costs. Labor costs are driven in part by the number and productivity of operators, supervisors and management within our alarm monitoring centers that provide alarm monitoring services on behalf of our Dealers' customers. Labor costs are also a function of the quality of our data processing, customer service and quality management functions. Labor costs also reflect the number of technical staff required to maintain and develop our state-of-the-art monitoring systems. Telecommunication costs reflect, among other things, the number of signals processed, the time required to process any particular signal, the number and type of lines, the design and functionality of our telecommunications network and the negotiated rate with our chosen telecommunication providers. We are constantly evaluating how to improve the quality of our services while lowering the cost of providing those services.

Our operating expenses are primarily comprised of general and administrative, selling and marketing and depreciation and amortization expenses. General and administrative expenses are comprised primarily of office staff and officer salaries, rent and professional fees. Fluctuations in general and administrative expenses generally reflect net increases in staff associated with acquisitions, changes in professional fees primarily associated with acquisition activity and audits of our financial statements and merit compensation increases. Selling and marketing expenses are primarily driven by the size of our sales force, commissions based upon successful selling activities, travel and advertising. Depreciation and amortization expenses are primarily a function of the acquisition of Dealer relationships and alarm monitoring contracts, along with accelerated amortization.

Streamlining of Operations

Our November 2004 acquisition of NACC’s state of the art monitoring center, located in Irvine, California, substantially increased our capacity to provide monitoring services. During 2005, we consolidated our Minneapolis, Minnesota monitoring center into our existing monitoring centers. Additionally, during 2005, we reduced the number of dealer care centers from six to three.

Acquisitions

On October 1, 2005, we purchased substantially all of the assets and assumed certain liabilities of Financial Security Services, Inc. for approximately $23.1 million in cash. FSS primarily engages in alarm dealer financing along with wholesale monitoring and billing services. On the date of acquisition, FSS was generating approximately $0.2 million of wholesale RMR and approximately $0.2 million of monthly interest income on notes receivable from Dealers. The acquisition has been accounted for as a purchase business combination and the results of the acquirees are included in our results of operations from the date of acquisition.

On November 19, 2004, we acquired substantially all of the assets and assumed certain liabilities of NACC, a subsidiary of Tyco, for approximately $50.6 million in cash, subject to certain closing adjustments. NACC engages in the wholesale and retail alarm monitoring business and also provides secured financing to Dealers. At November 19, 2004, NACC contributed approximately $0.8 million of wholesale RMR, $0.4 million of retail RMR and $0.2 million of monthly interest income on notes receivable from Dealers collateralized by retail contracts to us. The acquisition has been accounted for as a purchase business combination and the results of the acquirees are included in our results of operations from the date of acquisition.

In May 2004, we acquired the alarm portfolio and certain other assets of Alliant Protection Services, Inc. (“Alliant”) for a total cash purchase price of approximately $14.5 million, which included accounts receivable (approximately $0.8 million), customer contracts (approximately $8.7 million), goodwill (approximately $5.8 million), non-compete agreement (approximately $.3 million) and current liabilities (approximately $1.1 million). The acquisition has been accounted for as a purchase business combination and the results of the acquirees are included in our results of operations from the date of acquisition.

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Prior to the acquisition of Integrated Alarm Services, Inc., Messrs. Timothy M. McGinn and David L. Smith controlled 41 trusts and three limited liability companies which were principally created to acquire alarm monitoring contracts. Approximately 62% of the trust certificates of the 41 trusts were exchanged for promissory notes of Integrated Alarm Services, Inc. and some of these notes were repaid with proceeds from our initial public offering. Approximately 38% of the trust certificates were not exchanged and were subsequently repaid out of the proceeds of our initial public offering. An additional $9.5 million of bank debt relating to these contract acquisitions was also repaid with proceeds from our initial public offering. Messrs. McGinn and Smith were residual beneficiaries of these trusts but have contributed their residual benefits in the trusts to us. The three limited liability companies, Palisades Group, LLC, Payne Security Group, L.L.C. and Guardian Group, LLC were acquired by us in January 2003 and Payne Security Group, L.L.C. and Guardian Group, LLC are now our wholly owned subsidiaries. Palisades Group, LLC was dissolved on July 22, 2004.

Operations

We have completed the consolidation of our alarm monitoring centers. Key expenses such as payroll and telecommunication costs have been reduced. We believe that our costs per subscriber will continue to decline as additional subscriber accounts are added.

Our RMR may include amounts billable to customers or Dealers with past due balances which we believe are collectible. We seek to preserve the revenue stream associated with each end-user alarm monitoring contract, primarily to maximize our return on the investment we made to generate each alarm monitoring contract or Dealer relationship. As a result, we actively work to collect amounts owed to us and to retain the end-user at the same time.

In some instances, we may allow more than six months to collect past due amounts, while evaluating the ongoing customer or Dealer relationship. After we have made every reasonable effort to collect past due balances, we will disconnect the customer.

Customer creation and marketing

Our current customer acquisition strategy relies on both internally generated sales and acquiring Dealer relationships and alarm monitoring contract rights to monitor security systems. We currently have a salaried and commissioned sales force in select markets which perform end-user sales activities across the United States. The internal sales program generated in the wholesale segment approximately 79,000, 127,000 and 208,000 new monitoring contracts in 2004, 2005 and 2006, respectively.

Attrition

Alarm-Monitoring Wholesale Services

End-user attrition has a direct impact on our results of operations since it affects our revenues, amortization expense and cash flow. We define attrition in the wholesale alarm monitoring business as the number of end-user accounts lost, expressed as a percentage, for a given period. In some instances, we use estimates to derive attrition data. We monitor end-user attrition each month, each quarter and each year. In periods of end-user account growth, end-user attrition may be understated and in periods of end-user account decline, end-user attrition may be overstated. Our actual attrition experience shows that the relationship period with any individual Dealer or end-user can vary significantly. Dealers discontinue service with us for a variety of reasons, including but not limited to, the sale of their alarm monitoring contracts, performance issues and receipt of lower pricing from competitors. End-users may discontinue service with the Dealer and therefore with us for a variety of reasons, including, but not limited to, relocation, service issues and cost. A portion of Dealer and end-user relationships, whether acquired or originated via our sales force, can be expected to discontinue service every year. Any significant change in the pattern of our historical attrition experience would have a material effect on our results of operations, financial position or cash flows.

For the years ended December 31, 2004, 2005 and 2006 our trailing annual end-user account growth rates in the wholesale monitoring segment, including acquisitions were 31.7%, 1.2% and 5.0%, respectively. For the years ended December 31, 2004, 2005, and 2006 our trailing annual end-user account growth rates in the wholesale monitoring segment, excluding acquisitions, were (6.1%), (7.4%) an 2.9% respectively. For the years ended December 31, 2004, 2005, and 2006 our trailing annual end-user attrition rates in the wholesale monitoring segment, calculated as end-user losses divided by the sum of beginning end-users, end-users added and end-users acquired, was 13.1%, 19.8% and 19.4% respectively. End-users acquired includes accounts purchased by the wholesale segment and customers acquired by the residential segment. Included in total end-users for 2004, 2005, 2006 are approximately 149,000, 159,000 and 145,000 contracts, respectively, that are owned by us, the remainder are third-party owned.

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Following is a summary of our end-user accounts:

	2004			2005			2006
Beginning balance, January 1,		546,649			719,881			728,223
Reporting discrepancy adjustments (see Note)		(26,592	)		-			-
End-users added, excluding acquisitions		79,191			126,617			207,672
End-users acquired		232,984			61,837			14,890
End-user losses		(112,351	)		(180,112	)		(186,203	)
Ending balance, December 31,		719,881			728,223			764,582

Note: As a result of the discovery of a discrepancy in the reporting mechanism for the number of wholesale accounts, an adjustment of 26,592 to the January 1, 2004 beginning balance is necessitated and is reflected in the table above.

Attrition for acquired Dealer customer relationships and alarm monitoring contracts may be greater in the future than the attrition rate assumed or historically incurred by us. In addition, because some Dealer customer relationships and acquired alarm monitoring contracts are prepaid on an annual, semi-annual or quarterly basis, attrition may not become evident for some time after an acquisition is consummated.

Alarm-Monitoring Residential and Commercial Services (formerly reported combined as “retail services”)

We employ, for contracts purchased on a bulk basis subsequent to January 31, 2003, an amortization methodology which is the total of the charges calculated by a straight line, 18 year life; together with charges incurred as a result of actual contract attrition. For bulk contracts purchased prior to that date, we employ an amortization methodology which uses 150% declining balance over a life of 8 years.

The annualized attrition rates, based upon customer accounts cancelled or becoming significantly delinquent, during the periods presented are as follows:

	Quarter Ended
						Year Ended
		March 31,	June 30,	September 30,	December 31,	December 31,
		2006	2006	2006	2006	2006
Legacy and flow		12.12%	11.83%	16.33%	16.86%		13.54%
Residential since IPO		12.07%	11.91%	20.99%	15.42%		14.25%
Total Residential		12.08%	11.88%	19.58%	15.84%		14.05%
Commercial since IPO		5.30%	12.50%	11.10%	7.60%		8.83%
Total Retail		10.60%	12.02%	17.57%	13.96%		12.88%

The 2006 portfolio retail attrition rate of 12.88% compares to the 2005 portfolio retail attrition of 13.67%.

The attrition for a given period is calculated as the quotient of: (i) the sum of (a) cancelled RMR plus (b) the increase (or minus the decrease) in “disqualified RMR” (i.e., RMR with related account receivable balances over 90 days from invoice date) minus (c) “replacement RMR” (i.e., cancelled or disqualified RMR that has been replaced by the selling Dealer with new RMR as required by the original sales contract with the Dealer); divided by (ii) “qualified RMR” (i.e., RMR with no related account receivable balances over 90 days from invoice date).

Critical Accounting Policies

Our discussion and analysis of results of operations, financial condition and cash flows are based upon our 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 us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. These estimates are evaluated on an on-going basis, including those related to revenue recognition and allowance for doubtful accounts, valuation to allocate the purchase price for a business combination, notes receivable reserve and fair value of customer contracts on foreclosed loans, fair value and forecasted data to access recoverability of intangible assets and goodwill, income taxes and contingencies and litigation. We base our estimates on historical experience and on various other assumptions 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.

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Note 2 of the "Notes to Financial Statements" includes a summary of the significant accounting policies and methods used in the preparation of our financial statements. The following is a brief description of the more significant accounting policies and methods we use.

Revenue Recognition and Allowance for Doubtful Accounts

All revenue is recognized on an accrual basis. Accounts receivable are recorded at the invoiced amount and do not bear interest. Credit is extended based upon an evaluation of the customer’s financial condition and history. The allowance for doubtful accounts is our best estimate of the amount of probable credit losses in our existing accounts receivable. We review our allowance for doubtful accounts monthly. Customer accounts, including a high percentage of accounts with balances over 90 days from the invoice date are reserved based on historical trends. Account balances are charged-off against the allowance when we feel it is probable the receivable will not be recovered. We do not have any off-balance-sheet credit exposure related to our customers.

Revenue from providing monitoring only service to the customers of our dealers and our retail owned customer contracts is recognized as the monitoring service is provided over the term of the contract.

Revenue from sales of installed equipment without monitoring is recognized upon the completed installation of the equipment.

We sell bundled arrangements to our commercial and residential customers which consist of equipment, installation services and ongoing monitoring services generally under three to five year contracted terms. These bundled arrangements generally require an upfront payment and recurring monthly revenue (RMR) payments over the term of the contract. Amounts assigned to each component are based on the component’s objectively determined fair value. If fair value can not be determined for a sale involving multiple elements, upfront non-refundable deposits are deferred and recognized over the expected life of the customer relationship. The RMR is recognized monthly over the term of the contract.

Notes Receivable Reserve and Fair Value of Customer Contracts on Foreclosed Loans

We make loans to Dealers, which are collateralized by the Dealers’ portfolio of end-user alarm monitoring contracts. Loans to Dealers are carried at the lower of the principal amount outstanding or if non-performing, the net realizable value of the portfolio underlying the loan. Loans are generally considered non-performing if they are 120 days in arrears of contractual terms.

Management periodically evaluates the loan portfolio to assess the collectibility of Dealer notes and adequacy of allowance for loan losses. Management reviews certain criteria in assessing the adequacy of the allowance for loan losses, including our past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral and current economic conditions. Loan impairment is identified when a portfolio's cash flow is materially below the minimum necessary to service the loan. In most cases, loans will be foreclosed and valued at the lower of cost (loan carrying value) or fair value of end-user contracts using recent transaction prices and industry benchmarks.

Unearned discount on acquired notes that are prepaid within the first year of acquisition is offset to goodwill.

Notes receivable consists primarily of loans to Dealers which are collateralized by a portfolio of individual end-user monitoring contracts. When a Dealer becomes delinquent, we generally foreclose on and take ownership of the portfolio of end-user monitoring contracts.

At December 31, 2006, we had non-performing loans to Dealers aggregating approximately $1.2 million. Currently, the cash flows from the underlying collateral support the carrying value of the loans. However, if the cash flow from the underlying collateral deteriorates, it may result in a future charge to earnings.

Deferred customer acquisition costs, net

The direct incremental costs associated with obtaining a new customer including the installation of the monitoring systems, to the extent of deferred revenue (upfront non-refundable deposits), are capitalized and amortized over the expected life of the customer relationship. Excess direct incremental costs over deferred revenue (upfront non-refundable deposits) are being amortized over the term of the contract.

Deferred issuance costs

Debt issuance costs represent direct costs incurred in connection with obtaining financing with related parties, banks and other lenders. Debt issuance costs are being amortized over the life of the related obligations using the effective interest method.

Intangible Assets and Goodwill

Alarm monitoring services for Dealers’ end-users are outsourced to us. We acquire such Dealer relationships from our internally generated sales efforts and from other monitoring companies. Acquired Dealer relationships are recorded at cost, which management believes approximates fair value. End-user alarm monitoring contracts are acquired from the Dealers’ pre-existing portfolios of contracts or assumed upon the foreclosure on Dealers’ loans.

Acquired end-user alarm monitoring contracts are recorded at cost which management believes approximates fair value. End-user alarm monitoring contracts assumed as a result of foreclosure on dealer loans are recorded at the lower of cost (loan carrying value) or the fair value of such contracts using recent transaction prices and industry benchmarks at the time of foreclosure.

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End-user alarm monitoring contracts are amortized over the term that such end-users are expected to remain as our customer. We, on an ongoing basis, conduct comprehensive reviews of our amortization policy for end-user contracts and, when deemed appropriate, use an independent appraisal firm to assist in performing an attrition study.

Amortization methods for end-user contracts below consider the average estimated life and historical and projected attrition rates determined from actual experience and consists of the following portfolios:

Acquired as a result of the IASI merger:

Existing at January 31, 2003	Accelerated method	Period
Existing portfolio accounts (bulk)	150% Declining balance	8 years
Dealer acquired new accounts (flow)	160% Declining balance	8 years
Contracts assumed from dealers	160% Declining balance	4 years

Acquired subsequent to the IASI merger:

Acquired after January 31, 2003	Accelerated method	Period
Existing portfolio accounts (bulk)	Straight-line plus attrition	18 years
Dealer acquired new accounts (flow)	200% Declining balance	12 years
Contracts assumed from dealers	200% Declining balance	8 years

Dealer relationships and end-user contracts are amortized using methods and lives which are management’s estimates, based upon all information available (including industry data, attrition studies, current portfolio trends), of the life (attrition pattern) of the underlying contracts and relationships. If actual results vary negatively (primarily attrition) from management assumptions, amortization will be accelerated, which will negatively impact results from operations. If amortization is not accelerated or conditions deteriorate dramatically, the asset could become impaired. For existing portfolio accounts purchased subsequent to January 31, 2003, we amortize such accounts using the straight-line method over an 18-year period plus actual attrition. This methodology may cause significant variations in amortization expense in future periods. Dealer relationships and end-user alarm monitoring contracts are tested for impairment on a periodic basis or as circumstances warrant. Recoverability of Dealer relationship costs and end-user alarm monitoring contracts are highly dependent on our ability to maintain our Dealers. Factors we consider important that could trigger an impairment review include higher levels of attrition of dealers and/or end-user alarm monitoring contracts and continuing recurring losses.

SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, requires that the assets be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of the assets to be held and used is measured by a comparison of the carrying amount of the assets with the future net cash flows expected to be generated. Cash flows of Dealer relationships and retail customer contracts are analyzed at the same group level (acquisition by acquisition and portfolio grouping, respectively) that they are identified for amortization, the lowest level for which independent cash flows are identifiable. All other long-lived assets are evaluated for impairment at the company level, using one asset grouping. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. As of December 31, 2006, our long-lived assets aggregate approximately $117.0 million.

We account for goodwill under Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets. Under SFAS No. 142, goodwill is not amortized, but it is tested for impairment at least annually. Each year we test for impairment of goodwill according to a two-step approach. In the first step, we test for impairment of goodwill by estimating the fair values of our reporting units using the present value of future cash flows approach, subject to a comparison for reasonableness to our market capitalization at the date of valuation. If the carrying amount exceeds the fair value, the second step of the goodwill impairment test is performed to measure the amount of the impairment loss, if any. In the second step the implied fair value of the goodwill is estimated as the fair value of the reporting unit used in the first step less the fair values of all other net tangible and intangible assets of the reporting unit. If the carrying amount of the goodwill exceeds its implied fair market value, an impairment loss is recognized in an amount equal to that excess, not to exceed the carrying amount of the goodwill. In addition, goodwill of a reporting unit is tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. We perform our annual impairment test in the third quarter of each year and to date have not been required to record an impairment charge. During the second quarter of 2004 and continuing through the third quarter of 2006, the common stock of the Company traded below its book value. During the third quarter of 2006, the Company’s Residential and Commercial segments continued to incur operating losses and failed to achieve their respective nine months operating plan. As a result, the Company revised its future operating forecasts and determined that goodwill was impaired at September 30, 2006. A non-cash goodwill impairment charge of $65,000,000 has been recorded in the third quarter of

2006. The impairment reduces the goodwill associated with the Residential segment by $47,430,000 and the Commercial segment by $17,570,000.Our goodwill balance at December 31, 2006 is approximately $26.2 million.

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Income taxes

As part of the process of preparing our financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves estimates of our actual current tax exposure together with assessing temporary differences resulting from differing treatment of items, such as depreciation and amortization, for tax and accounting purposes.

Litigation

See Part I, Item 3 Legal Proceedings.

The following table sets forth, for the periods indicated, selected statements of operations data for IASG:

	Years Ended December 31,
	2004			2005			2006
	(in thousands, except per share data)
Total revenue	$	80,369		$	99,234		$	94,364
Expenses:
Cost of revenue (excluding depreciation and amortization)		32,748			43,381			38,165
Selling and marketing		4,357			4,977			5,298
Depreciation and amortization		23,013			28,572			27,166
Loss (gain) on disposal of equipment		(184	)		1,032			(124	)
Loss on business transferred		-			-			1013
General and administrative		22,562			29,790			29,975
Goodwill impairment		-			-			65,000
Total operating expenses		82,496			107,752			166,493
Income (loss) from operations		(2,127	)		(8,518	)		(72,129	)
Other income, net		11			-			-
Amortization of debt issuance costs		(1,750	)		(1,080	)		(973	)
Interest expense		(8,886	)		(17,009	)		(16,244	)
Interest income		1,453			4,838			4,418
Income (loss) before income taxes		(11,299	)		(21,769	)		(84,928	)
Income tax expense (benefit)		418			563			(1,013	)
Net income (loss)	$	(11,717	)	$	(22,332	)	$	(83,915	)
Basic and diluted income (loss) per share	$	(0.47	)	$	(0.91	)	$	(3.44	)

The following table sets forth, for the periods indicated, selected statements of operations data as a percentage of revenues:

	Years Ended December 31,
	2004			2005			2006
Total revenue		100.0 %			100.0 %			100.0%
Cost of revenue (excluding depreciation and amortization)		40.7 %			43.7 %			40.4 %
Operating expenses:
Selling and marketing		5.4 %			5.0 %			5.6 %
Depreciation and amortization		28.6 %			28.8 %			28.8 %
Loss (gain) on disposal of equipment		(0.2%	)		1.0 %			(0.1%	)
Loss on business transferred		-%			-%			1.1%
General and administrative		28.1 %			30.0 %			31.8 %
Goodwill impairment charge		- %			- %			68.9 %
Total operating expenses		102.6 %			108.6 %			176.4 %
Income (loss) from operations		(2.6%	)		(8.6%	)		(76.4%	)
Other income, net		0.0 %			- %			- %
Amortization of debt issuance costs		(2.2%	)		(1.1%	)		(1.0%	)
Interest expense		(11.1%	)		(17.1%	)		(17.2%	)
Interest income		1.8 %			4.9 %			4.7 %
Income (loss) before benefit from income taxes		(14.1%	)		(21.9%	)		(90.0%	)
Income tax expense (benefit)		0.5 %			0.6 5%			(1.1%	)
Net income (loss)		(14.6%	)		(22.5%	)		(88.9%	)

24

Results of operations

2006 Compared to 2005

Consolidated. Year Ended December 31, 2006 Compared to the Year Ended December 31, 2005.

The following chart and discussion reflects the impact of the elimination of inter-segment revenue and cost of revenue:  

	For the Year Ended December 31,						Dollar			Percent
	2005			2006			Variance			Variance
		(in thousands)
Total revenue	$	99,234		$	94,364		$	(4,870	)		(4.9	%)
Expenses:
Cost of revenue (excluding depreciation
and amortization)		43,381			38,165			(5,216	)		(12.0	%)
Selling and marketing		4,977			5,298			321			6.4	%
Depreciation and amortization		28,572			27,166			(1,406	)		(4.9	%)
Loss on sale or disposal of assets		1,032			(124	)		(1,156	)		(112.0	%)
Loss on business transferred		-			1,013			1,013			NA
General and administrative		29,790			29,975			185			0.6	%
Goodwill impairment		-			65,000			65,000			N/A
Total expenses		107,752			166,493			58,741			54.5	%
Income (loss) from operations		(8,518	)		(72,129	)		(63,611	)		746.8	%
Other income (expense):
Amortization of debt issuance costs		(1,080	)		(973	)		107			(9.9	%)
Interest expense		(17,009	)		(16,244	)		765			(4.5	%)
Interest income		4,838			4,418			(420	)		(8.7	%)
Income (loss) before income taxes		(21,769	)		(84,928	)		(63,159	)		290.1	%
Income tax expense (benefit)		563			(1,013	)		(1,576	)		(279.9	%)
Net income (loss)	$	(22,332	)	$	(83,915	)	$	(61,583	)		275.8	%

Revenue

Total consolidated revenue decreased approximately $4,870,000. This decrease was due to decreases of approximately $4,730,000 and $483,000 in the residential and commercial segments, respectively, offset, in part, by an increase in revenue in wholesale segment of approximately $300,000 addressed in the individual segment discussions below.

Cost of Revenue (excluding Depreciation and Amortization)

Total consolidated cost of revenue decreased approximately $5,216,000. This decrease was primarily due to decreases of approximately $3,157,000, $1,281,000 and $821,000 in the wholesale, commercial and residential segments, respectively.

Selling and Marketing Expense

Total consolidated selling and marketing expense increased approximately $321,000. This increase was primarily due to increases of approximately $235,000, $64,000 and $22,000 in the commercial, residential and wholesale segments, respectively.

Depreciation and Amortization Expense

Total consolidated depreciation and amortization expense decreased approximately $1,406,000. This decrease was primarily due to decreases of approximately $941,000 and $598,000 in the commercial and residential segments, offset, in part, by increases of approximately $116,000 and $17,000 in the wholesale segment and corporate expenses, respectively.

Gain/Loss on Sale or Disposal of Assets

Loss on sale or disposal of assets in 2005 of approximately $1,032,000 compared to a loss in 2006 of approximately $889,000. Most of the loss in 2005 was attributable to the closure of certain dealer care centers and a monitoring station in the wholesale segment whereas the 2006 loss was primarily attributable to the sale of certain monitoring contracts. 

General and Administrative Expense

Total consolidated general and administrative expenses increased by approximately $185,000 The segments experienced decreases of approximately $1,079,000, $314,000 and $221,000 in the wholesale, commercial and residential segments, respectively, offset by an increase of approximately $1,799,000 in corporate expenses.

25

Goodwill Impairment

A non-cash goodwill impairment charge of approximately $65,000,000 was recorded in the quarter ended September 30, 2006 based upon the annual impairment test conducted during the third quarter of each year. This impairment charge affected the residential and commercial segments by approximately $47,430,000 and $17,570,000, respectively.

Amortization of Debt Issuance Costs

The decrease in amortization of debt issuance costs of approximately $107,000 was due primarily to the decrease in amortization of certain debt issuance costs that became fully amortized by late 2005.

Interest Expense

The decrease in interest expense of approximately $765,000 was due primarily to retirement of debt during 2005.

Interest Income

Total consolidated interest income decreased by approximately $420,000. This decrease was primarily due to a decrease in the residential segment of approximately $571,000, offset, in part, by an increase of approximately $151,000 at corporate related to the increase in average excess funds and interest rates.

Taxes

The decrease in income tax expense is primarily due to the adjustment to deferred tax liabilities as a result of the goodwill impairment charge offset by an increase in current state income tax expense due to an increase of state taxes in separate taxing jurisdictions.

Results of Operations by Segment

The comparable financial results for the Company’s three segments: Wholesale Services, Residential Services and Commercial Services, as well as Corporate related income and expenses for the year ended December 31, 2006 compared with the year ended December 31, 2005 are discussed below.

The following charts and discussions include inter-segment revenue and cost of revenue that are eliminated in the consolidated financial statements. These amounts for the year ended December 31, 2006 and 2005 are approximately $4,753,000 and $4,796,000, respectively. The residential and commercial segments incurs expense for the monitoring services provided by the wholesale segment. The inclusion of inter-segment activity provides a more realistic presentation of how these segments would operate on a stand alone basis.

Wholesale Segment. Year Ended December 31, 2006 Compared to the Year Ended December 31, 2005.

	For the Year Ended December 31,							Dollar			Percent
		2005			2006			Variance			Variance
		(in thousands)
Total revenue		$	36,406		$	36,706		$	300			0.8	%
Expenses:
Cost of revenue (excluding depreciation
and amortization)			24,920			21,763			(3,157	)		(12.7	%)
Selling and marketing			1,574			1,596			22			1.4	%
Depreciation and amortization			5,708			5,824			116			2.0	%
(Gain) loss on sale or disposal of assets			682			(12	)		(694	)		(101.8	%)
General and administrative			2,070			991			(1,079	)		(52.1	%)
Total expenses			34,954			30,162			(4,792	)		(13.7	%)
Income from operations			1,452			6,544			5,092			350.7	%
Other income (expense):
Interest expense			(20	)		(1	)		19			(95.0	%)
Income before income taxes		$	1,432		$	6,543		$	5,111			356.9	%

Revenue from the wholesale segment increased approximately $300,000. This increase was primarily due to an increase in revenue associated with end-user accounts obtained as part of the FSS acquisition of approximately $2,806,000. This increase was offset, in part, by a decrease in average number of end-user accounts of approximately 32,060 which resulted in a decrease in revenue of approximately $1,773,000; a decrease in the average revenue per end-user account per month of approximately $0.10 which resulted in a decrease in revenue of approximately $642,000; a decrease in inter-segment revenue of approximately $43,000; and, a decrease in other revenue of approximately $48,000.

26

Cost of Revenue

Cost of revenue for the wholesale segment decreased by approximately $3,157,000. This decrease was primarily due to reductions in salaries, benefits and payroll taxes of approximately $1,069,000, rent expense of approximately $824,000, telephone expense of approximately $672,000 and other direct expenses of approximately $592,000 as a result of facility closures made during 2005.

Selling and Marketing Expense

Selling and marketing expense for the wholesale segment remained reasonably consistent with the prior year.

Depreciation and Amortization Expense

Depreciation and amortization expense for the wholesale segment increased by approximately $116,000. This increase is primarily due to an increase in depreciation expense of approximately $260,000, offset, by a decrease in amortization expense of approximately $144,000.

Loss on Sale or Disposal of Assets

Loss on sale or disposal of assets for the wholesale segment decreased by approximately $694,000. This decrease is primarily due to a decrease from equipment disposals associated with facility closures which were completed during 2005.

General and Administrative Expense

General and administrative expense for the wholesale segment decreased by approximately $1,079,000. This decrease is primarily due to decreases in salaries, benefits and payroll taxes of approximately $581,000, bank service charges of approximately $127,000, bad debt expense of approximately $96,000 and professional fees of approximately $89,000.

Interest Expense

Interest expense for the wholesale segment decreased by approximately $19,000. This decrease is primarily due to the termination of capital leases related to equipment utilized in facilities that were closed in 2005.

Residential Segment. Year Ended December 31, 2006 Compared to the Year Ended December 31, 2005.

	For the Year Ended December 31,						Dollar			Percent
	2005			2006			Variance			Variance
		(in thousands)
Total revenue	$	49,323		$	44,593		$	(4,730	)		(9.6	%)
Expenses:
Cost of revenue (excluding depreciation
and amortization)		12,692			11,871			(821	)		(6.5	%)
Selling and marketing		895			959			64			7.2	%
Depreciation and amortization		18,959			18,361			(598	)		(3.2	%)
Loss on sale or disposal of assets		142			969			827			582.4	%
General and administrative		13,539			13,318			(221	)		(1.6	%)
Goodwill impairment		-			47,430			47,430			N/A
Total expenses		46,227			92,908			46,681			101.0	%
Income from operations		3,096			(48,315	)		(51,411	)		(1,660.6	%)
Other income (expense):
Interest expense		(3	)		(37	)		(34	)		1,133.3	%
Interest income		4,353			3,782			(571	)		(13.1	%)
Income (loss) before income taxes	$	7,446		$	(44,570	)	$	(52,016	)		(698.6	%)

Revenue

Revenue from the residential segment decreased approximately $4,730,000.   This decrease was primarily due to a decrease in revenue from customer accounts of approximately $4,174,000.  A portion of this decrease in revenue from customer accounts was due to a reduction to the average number of accounts per month of 14,870, which resulted in a revenue decrease of approximately $5,404,000.  This decrease was offset, in part, by an increase of approximately $1,230,000 due to an increase in the average revenue per account per month of approximately $.96.  This decrease was further enhanced by a decrease in service, installation and other revenue of approximately $556,000.   Revenue associated with the FSS acquisition for 2006 was approximately $1,380,000 and is reflected in the amounts above.

27

Cost of Revenue

Cost of revenue for the residential segment decreased approximately $821,000. This decrease was primarily due to decreases in capitalized installation cost amortization and cost of parts of approximately $968,000 and $119,000, respectively, offset, in part, by an increase in salaries, benefits and payroll taxes of approximately $233,000.

Selling and Marketing Expense

Selling and marketing expense for the residential segment increased approximately $64,000. This increase was primarily due to a reduction in capitalized costs of approximately $225,000 and an increase in advertising expense of approximately $132,000, offset, in part, by a decrease in salaries, benefits and payroll taxes of approximately $289,000.

Depreciation and Amortization Expense

Depreciation and amortization expense for the residential segment decreased approximately $598,000. This decrease was primarily due to a reduction in amortization expense of approximately $920,000, offset, by an increase in depreciation expense of approximately $322,000.

Loss on Sale or Disposal of Assets

Loss on sale or disposal of assets for the residential segment increased approximately $827,000. This increase is primarily attributable to the 2006 sale of certain alarm monitoring contracts.

General and Administrative Expense

General and administrative expense for the residential segment decreased approximately $221,000. This decrease was primarily due to a reduction in bad debt expense of approximately $703,000 as a result of system conversions in 2005, a decrease in billing fees of approximately $413,000 and a decrease in third party services of approximately $351,000, offset, in part, by an increases in salaries, benefits and payroll taxes of approximately $552,000, professional fees of approximately $359,000, bank service charges of approximately $213,000 and rent and utilities of approximately $142,000.

Goodwill Impairment

The residential segment recorded a non-cash goodwill impairment charge of approximately $47,430,000 during the quarter ended September 30, 2006 based upon the annual impairment test conducted during the third quarter of each year.

Interest Expense

Interest expense for the residential segment remained reasonable consistent with the prior year.

Interest Income

Interest income for the residential segment decreased approximately $571,000. This decrease was primarily attributable to a significant reduction in the loan portfolio from notes receivable of approximately $19,357,000 at the end of 2005 to a balance of approximately $12,267,000 at the end of 2006.

Commercial Segment. Year Ended December 31, 2006 Compared to the Year Ended December 31, 2005.

	For the Year Ended December 31,						Dollar			Percent
		2005			2006			Variance			Variance
	(in thousands)
Total revenue	$	18,301		$	17,818		$	(483	)		(2.6)%
Expenses:
Cost of revenue (excluding depreciation
and amortization)		10,565			9,284			(1,281	)		(12.1)%
Selling and marketing		2,508			2,743			235			9.4%
Depreciation and amortization		3,905			2,964			(941	)		(24.1)%
(Gain) loss on sale or disposal of assets		208			(68	)		(276	)		(132.7)%
General and administrative		3,435			3,121			(314	)		(9.1)%
Goodwill impairment		-			17,570			17,570			N/A
Total expenses		20,621			35,614			14,993			72.7%
Income from operations		(2,320	)		(17,796	)		(15,476	)		667.1%
Other income (expense):
Interest expense		(51	)		(51	)		-			0.0%
Income (loss) before income taxes	$	(2,371	)	$	(17,847	)	$	(15,476	)		652.7%

28

Revenue 

Revenue from the commercial segment operations decreased approximately $483,000.   This decrease was primarily due to a decrease in revenue from customer accounts of approximately $573,000.  Revenue from customer accounts decreased by approximately $749,000 due to a reduction in the average number of accounts per month of approximately 1,000 accounts.  This decrease was offset, in part, by approximately $176,000 in revenue from an increase in the average revenue per account per month of approximately $.99 and an increase in service, installation and other revenue of approximately $90,000.

Cost of Revenue

Cost of revenue for the commercial segment decreased approximately $1,281,000. This decrease was primarily due to decreases in salaries, benefits and payroll taxes of approximately $1,355,000.

Selling and Marketing Expense

Selling and marketing expense for the commercial segment increased approximately $235,000. This increase was primarily due to an increase in salaries, benefits and payroll taxes of approximately $190,000.

Depreciation and Amortization Expense

Depreciation and amortization expense for the commercial segment decreased approximately $941,000. This decrease was primarily due to decreases in depreciation expense of approximately $500,000 and amortization expense of approximately $441,000.

Gain/Loss on Sale or Disposal of Assets

The loss on sale or disposal of assets was approximately $208,000 in 2005 compared to a gain of approximately $68,000 in 2006. The loss in 2005 was due primarily to the write-off of obsolete equipment. The gain in 2006 was due, for the most part, to the sale of vehicles at amounts higher than their net book value.

General and Administrative Expense

General and administrative expense for the commercial segment decreased approximately $314,000. This decrease was primarily due to a decrease in salaries, benefits and payroll taxes of approximately $306,000.

Goodwill Impairment

The commercial segment recorded a non-cash goodwill impairment charge of approximately $17,570,000 during the quarter ended September 30, 2006 based upon the annual impairment test conducted during the third quarter of each year.

Interest Expense

Interest expense for the commercial segment remained reasonably consistent with the prior year.

Corporate. Year Ended December 31, 2006 Compared to the Year Ended December 31, 2005.

	For the Year Ended December 31,						Dollar			Percent
	2005			2006			Variance			Variance
	(in thousands)
Expenses:
Depreciation	$	-		$	17		$	17			N/A
General and administrative		10,746			12,545			1,799			16.7%
Total expenses		10,746			12,562			1,816
Income (loss) from operations		(10,746	)		(12,562	)		(1,816	)		16.9%
Other income (expense):
Amortization of debt issuance costs		(1,080	)		(973	)		107			(9.9)%
Interest expense		(16,935	)		(16,155	)		780			(4.6)%
Interest income		485			636			151			31.1%
Income (loss) before income taxes	$	(28,276	)	$	(29,054	)	$	(778	)		2.8%

Depreciation Expense

Depreciation expense at the corporate level remained reasonably consistent with the prior year.

General and Administrative Expense

General and administrative expense at the corporate level increased approximately $1,799,000. This increase was primarily due to the increases in salaries, benefits and payroll taxes of approximately $908,000, the expense associated with the settlement of certain legal proceedings of approximately $717,000, stock based compensation of approximately $386,000, payroll processing fees of approximately $241,000 and bank service charges of approximately $205,000, offset, in part, by a decrease in professional fees of approximately $729,000.

29

Amortization of Debt Issuance Costs

Amortization of debt issuance costs at the corporate level decreased approximately $107,000. This decrease was primarily due to the retirement of certain debt obligations in 2005.

Interest Expense

Interest expense at the corporate level decreased approximately $780,000. This decrease was primarily due to the retirement of certain debt obligations in 2005.

Interest Income

Interest income at the corporate level increased approximately $151,000. This increase was primarily due to an increase in daily average excess funds available as well as an increase in interest rates.

2005 COMPARED TO 2004

Effective in 2006, our segment reporting was expanded such that the segment formerly referred to as retail was divided into the residential and commercial segments.  We have assessed our ability to report information for 2004 in conformity with this expanded segment structure and found it to be impractical.  The branch operational structure in place prior to 2005 did not capture revenue or costs by the residential and commercial classifications. As such, the comparison of the information for 2005 and 2004 will be presented based on the segment structure in existence during 2004.

Consolidated. Year ended December 31, 2005 compared to the year ended December 31, 2004.

	For the Year Ended December 31,						Dollar			Percent
	2004			2005			Variance			Variance
	(in thousands)
Total revenue	$	80,369		$	99,234		$	18,865			23.5%
Expenses:
Cost of revenue (excluding depreciation
and amortization)		32,748			43,381			10,633			32.5%
Selling and marketing		4,357			4,977			620			14.2%
Depreciation and amortization		23,013			28,572			5,559			24.2%
(Gain) loss on sale or disposal of assets		(184	)		1,032			1,216			(660.9)%
General and administrative		22,562			29,790			7,228			32.0%
Total expenses		82,496			107,752			25,256			30.6%
Income (loss) from operations		(2,127	)		(8,518	)		(6,391	)		300.5%
Other income (expense):
Other income, net		11			-			(11	)		(100.0)%
Amortization of debt issuance costs		(1,750	)		(1,080	)		670			(38.3)%
Interest expense		(8,886	)		(17,009	)		(8,123	)		91.4%
Interest income		1,453			4,838			3,385			233.0%
Income (loss) before income taxes		(11,299	)		(21,769	)		(10,470	)		92.7%
Income tax expense (benefit)		418			563			145			34.7%
Net income (loss)	$	(11,717	)	$	(22,332	)	$	(10,615	)		90.6%

Revenue

The increase in total revenue was primarily a result of the incremental revenues associated with the November 2004 NACC acquisition and the October 2005 FSS acquisition of approximately $13,842,000 and $1,077,000, respectively. The remaining increase was due to an increase in the retail segment revenue of approximately $6,128,000, offset by decreases in the wholesale segment revenue of approximately $2,182,000 addressed in the individual segment discussions below.

Cost of Revenue (excluding Depreciation and Amortization)

Our cost of revenue increase for the year ended December 31, 2005 was primarily due to incremental expenses related to the November 2004 NACC acquisition and the October 2005 FSS acquisition of approximately $7,006,000 and $543,000, respectively. The remaining increase was due to an increase in the retail segment cost of revenue of approximately $3,140,000, offset by a decrease in the wholesale segment cost of revenue of approximately $56,000 addressed in the individual segment discussions below.

30

Expenses

Selling and marketing expense increased primarily due to the incremental costs associated with the November 2004 NACC acquisition of approximately $479,000, which consists primarily of increases in advertising and trade shows of approximately $411,000. The remaining increase in sales and marketing expense was primarily due to an increase in the wholesale segment sales salaries of approximately $195,000.

The depreciation and amortization expense increase was mainly caused by increases in customer contract amortization and dealer relationship amortization of approximately $4,870,000 and $653,000, respectively. The increase in the customer contract amortization, including attrition reserve offsets, was a result of both an increase in the number of customer contracts acquired and the accelerated amortization due to attrition. The increase in dealer relationship amortization was primarily due to the incremental increase related to NACC’s dealer relationships of approximately $1,371,000, offset by decreases in existing dealer relationships of approximately $796,000 from the effects of accelerated depreciation methods.

The increase in the loss on sale or disposal of assets was due to approximately $682,000 relating to fixed asset disposals and write-downs from various wholesale segment closures during 2005. The remaining increase was primarily due to write-offs of assets in our retail segment.

The increase in general and administrative expense was primarily due to increases in corporate segment expenses. The majority of corporate general and administrative expense increase was from an increase in accounting, legal and other professional fees of approximately $3,760,000, of which approximately $2,505,000 relates to Sarbanes-Oxley compliance. An increase in corporate salaries, benefits and other compensation accounted for approximately an additional $1,067,000 of the increase and approximately $560,000 in litigation settlement expense.  The increase in corporate salaries reflects 3 finance professionals hired during 2004 (not a full year of salary in 2004) and 6 finance and management professionals hired during 2005.  Incremental expenses associated with NACC and FSS acquisitions accounted for approximately $701,000 and $447,000 of the total general and administrative increase. Excluding NACC and FSS, the remaining increase primarily consists of approximately $676,000 in retail, offset by a decrease in the wholesale segment of approximately $141,000.

Amortization of Debt Issuance Costs

The decrease in amortization of debt issuance costs was primarily due to the amortization acceleration in 2004 on early pay-offs of debt using the proceeds from the issuance of the $125,000,000 Senior Secured Notes in the fourth quarter of 2004, offset in part, by the amortization of the issuance costs related to the Senior Secured Notes.

Interest Expense

The increase in interest expense was primarily due to the expense associated with the issuance of the $125,000,000 Senior Secured Notes in the fourth quarter of 2004, offset in part by the decrease in interest associated with the retirement of certain debt in the later half of 2004.

Interest Income

Incremental interest income relating to NACC of approximately $2,653,000 and FSS of approximately $697,000 contributed to the majority of the total interest income increase in 2005. The interest income from these two acquisitions was primarily attributable to interest earned from their notes receivable portfolios, including interest income as a result of the amortization of the discount on notes receivable.

Taxes

Income tax expense totaled approximately $563,000 for the year ended December 31, 2005 compared with an expense of approximately $418,000 for the year ended December 31, 2004. The expense recorded in 2004 and 2005 represents state taxes attributable to subsidiaries of the Company which conduct business in separate taxing jurisdictions and deferred taxes related to business acquisitions.

Results of Operations by Segment

The comparable financial results for the Company’s operating segments; Alarm-Monitoring, Wholesale Services and Alarm-Monitoring, Retail Services for the year ended December 31, 2004 compared with the year ended December 31, 2005 are discussed below.

The following charts and discussions include intersegment revenue and cost of revenue that are eliminated in the consolidated financial statements. Those amounts for the year ended December 31, 2004 and 2005 are approximately $3,416,000 and $4,796,000, respectively. The Retail segment incurs expense for the monitoring services provided by the Wholesale segment. The inclusion of the intersegment activity provides a more realistic presentation of how these segments would operate on a stand alone basis.

31

Wholesale Segment. Year ended December 31, 2005 compared to the year ended December 31, 2004.

		For the Year Ended December 31,						Dollar		Percent
		2004			2005			Variance		Variance
	(in thousands)
Total revenue	$	27,690		$	36,406		$	8,716		31.5%
Expenses:
Cost of revenue (excluding depreciation
and amortization)		17,629			24,920			7,291		41.4%
Selling and marketing		798			1,574			776		97.2%
Depreciation and amortization		4,896			5,708			812		16.6%
Loss on sale or disposal of assets		-			682			682		N/A
General and administrative		1,986			2,070			84		4.2%
Total expenses		25,309			34,954			9,645		38.1%
Income from operations		2,381			1,452			(929	)	(39.0)%
Other income (expense):
Other income, net		12			-			(12	)
Interest expense		(34	)		(20	)		14		(41.2)%
Income before income taxes	$	2,359		$	1,432		$	(927	)	(39.3)%

The increase in Alarm Monitoring, Wholesale segment total revenue in 2005 was primarily due to the incremental revenue of approximately $8,898,000 associated with NACC (including approximately $514,000 of intersegment revenue), which was purchased in November 2004 and approximately $620,000 from the FSS acquisition in October 2005. Additionally, approximately $866,000 was due to an increase in intersegment revenue (incremental to the NACC intersegment revenue). The offsetting decrease was due primarily to a decrease in the aggregate number of accounts (not owned by the Company, or “external”) monitored during 2005. This decrease in external accounts monitored, of approximately 26,000 resulted in a decrease in revenue of approximately $1,668,000.

The decrease in wholesale segment income from operations was primarily due to the increases in cost of revenue and other operating expenses offset by the revenue increase described above. Cost of revenue increased approximately $6,904,000 due to the incremental costs associated with the November 2004 NACC acquisition. An additional $443,000 was due to the October 2005 acquisition of FSS. The sales and marketing expense increase was primarily due to increases in advertising and trade show expenses of approximately $491,000, of which approximately $411,000 related to the incremental costs of NACC. Additionally, approximately $195,000 of the increase was due to increases in salaries, benefits and other compensation. The increase in depreciation and amortization was primarily due to NACC’s incremental increase in depreciation expense of approximately $235,000 and dealer relationship amortization related to NACC of approximately $1,371,000, offset by decreases in existing dealer relationships of approximately $796,000 from the effects of accelerated depreciation methods. The $682,000 increase in loss on sale or disposal of fixed assets was caused by disposals and write-downs of fixed assets as a result of the closure of various wholesale facilities during 2005.

The decrease in the income before income taxes was primarily due to the decrease in the income from operations discussed above.

32

Retail Segment. Year ended December 31, 2005 compared to the year ended December 31, 2004.

	For the Year Ended December 31,							Dollar		Percent
		2004			2005			Variance		Variance
	(in thousands)
Total revenue	$	56,095		$	67,624		$	11,529		20.6	%
Expenses:
Cost of revenue (excluding depreciation
and amortization)		18,535			23,257			4,722		25.5	%
Selling and marketing		3,559			3,403			(156	)	(4.4	%)
Depreciation and amortization		18,117			22,864			4,747		26.2	%
(Gain) loss on sale or disposal of assets		(184	)		350			534		(290.2	%)
General and administrative		15,376			16,974			1,598		10.4	%
Total expenses		55,403			66,848			11,445		20.7	%
Income from operations		692			776			84		12.1	%
Other income (expense):
Other income, net		(1	)		-			1		(100.0	%)
Amortization of debt issuance costs		(1,471	)		-			1,471		(100.0	%)
Interest expense		(6,484	)		(54	)		6,430		(99.2	%)
Interest income		1,362			4,353			2,991		219.6	%
Income (loss) before income taxes	$	(5,902	)	$	5,075		$	10,977		(186.0	%)

Alarm Monitoring, Retail segment total revenue increased approximately $4,944,000 due to incremental revenues relating to the November 2004 NACC acquisition while an additional $457,000 of the increase was due to the October 2005 FSS acquisition. Additional revenue of approximately $3,243,000 was generated due to an increase of approximately 7,000 in the average number of retail contracts owned per month along with an increase of approximately $157,000 which was due to an increase in the average revenue per contract of $0.11 per month. Additionally, installation revenue increased approximately $2,753,000.

For the year ended December 31, 2005, the increase in the income from operations was primarily due to the above mentioned increase in revenue, offset by increases in cost of revenue, depreciation and amortization and general and administrative expenses. The increase in cost of revenue was attributable to the costs associated with the increases in revenue. Cost of revenue as a percentage of revenue for the year ended December 31, 2004 and 2005 was consistent at 33.0% and 34.4%, respectively. The increase in depreciation and amortization was primarily a result of an increase in customer contract amortization of approximately $4,870,000, including attrition reserve offsets, as a result of both an increase in the number of customer contracts acquired and the accelerated amortization due to attrition. The increase in general and administrative expenses was due, in part, to approximately $454,000 relating to NACC and approximately $469,000 from FSS. The remaining increase in general and administrative expenses in the retail segment are primarily due to increases in salaries, benefits and other compensation of approximately $1,328,000, postage and shipping of approximately $295,000, collections expense of approximately $228,000, offset in part by decreases in telephone expense of approximately $498,000, accounting, legal and other professional fees of approximately $344,000 and bad debt expense of approximately $465,000.

The increase in income before income taxes from a loss before income taxes in the prior year was partially due to a decrease in interest expense. Certain subsidiaries have entered into debt agreements with the parent. The interest income and offsetting interest expense related to these arrangements is not recognized in the above tables. Debt issued by IASI (Retail Services) was retired in 2004 using funds obtained by the parent. As a result, debt and interest expense were reallocated from IASI to corporate in late 2004, which was the primary cause of the decrease in retail segment interest expense. The amortization of debt issuance costs associated with the debt agreements reclassed to corporate are also now recorded in corporate, accounting for the approximate $1,471,000 decrease. Additionally, the increase in income before income taxes was caused by increases in NACC and FSS interest income of approximately $2,653,000 and $697,000, respectively, resulting primarily from interest earned on notes receivable, including interest income as a result of the amortization of the discount on notes receivable.

33

Corporate. Year ended December 31, 2005 compared to the year ended December 31, 2004.

	For the Year Ended December 31,						Dollar			Percent
		2004			2005			Variance			Variance
	(in thousands)
Expenses:
General and administrative	$	5,200		$	10,746		$	5,546			106.7	%
Total expenses		5,200			10,746			5,546			106.7	%
Income (loss) from operations		(5,200	)		(10,746	)		(5,546	)		106.7	%
Other income (expense):
Amortization of debt issuance costs		(279	)		(1,080	)		(801	)		287.1	%
Interest expense		(2,368	)		(16,935	)		(14,567	)		615.2	%
Interest income		91			485			394			433.0	%
Income (loss) before income taxes	$	(7,756	)	$	(28,276	)	$	(20,520	)		264.6	%

The increase in the loss from operations was due to an increase in general and administrative expenses. This increase was primarily due to an increase of approximately $3,760,000 in accounting, legal and other professional fees, of which $2,505,000 was related to Sarbanes-Oxley compliance and approximately $1,067,000 in salaries, benefits and other compensation.

Certain subsidiaries have entered into debt agreements with the parent. The interest income and offsetting interest expense related to these arrangements was not recognized in the above tables. Debt issued by IASI (Retail Services) was retired in 2004 using funds obtained by the parent. As a result, debt and interest expense were reallocated from IASI to corporate in late 2004.

Loss before income taxes increased primarily as a result of the above mentioned allocation of debt and interest expense to corporate. Additionally, the November 2004 $125,000,000 debt offering increased amortization of debt issuance costs and interest expense in 2005, offset in part, by an increase in interest income as a result of an increase in invested funds with the proceeds from the debt offering.

Liquidity and Capital Resources

(bracketed amounts represent uses of funds)

Net cash provided by operating activities was approximately $6,367,000 for year ended December 31, 2006 compared to approximately $8,099,000 provided by operating activities for the year ended December 31, 2005, a decrease of approximately ($1,732,000). The decrease is primarily the result of a decrease in accounts payable and accrued expenses of approximately ($1,902,000) and an increase in accounts receivable of approximately ($1,070,000). These cash flows used by operations were offset, in part, by a reduction to incremental deferred customer acquisition costs of approximately $864,000 and a decrease in other assets of approximately $465,000. Net cash provided by operating activities was approximately $8,099,000 for the year ended December 31, 2005 compared to net cash provided by operating activities of $14,149,000 for the year ended December 31, 2004, a decrease of approximately ($6,050,000). The decrease in cash provided by operations was primarily the result an increase in the net loss of approximately ($10,615,000) offset, in part, by an increase in depreciation and amortization of approximately $5,559,000; and a decrease in accounts payable of approximately ($1,414,000).

Net cash used in investing activities was approximately ($8,613,000) for the year ended December 31, 2006 compared to approximately ($16,348,000) for the same period of 2005, a decrease in net cash used of approximately $7,735,000. The decrease in net cash used in investing activities was primarily due to a reduction in business acquisitions, net of cash acquired, of approximately $22,473,000 and the absence of a reimbursement of the remaining attrition guarantees withheld as part of the final settlement of the PSI acquisition of approximately $1,427,000 made in 2005. These decreases in net cash used were partially offset by a decrease in repayment on dealer loans of approximately ($15,691,000). Net cash used in investing activities was approximately ($16,348,000) for the year ended December 31, 2005 compared to approximately ($76,766,000) for the year ended December 31, 2004, a decrease of approximately $60,418,000. The significant reduction in cash used in investing activities was primarily due to a reduction to business acquisitions, net of cash acquired, of approximately $42,402,000 and an increase in the repayment of loans to dealers of approximately $24,021,000 which was offset, in part, by a decrease in the proceeds from sale of customer contracts and accounts receivable of approximately ($4,123,000) and the reimbursement of the remaining attrition guarantees withheld as part of the final settlement of the PSI acquisition of approximately ($1,427,000).

Net cash used in financing activities was approximately ($329,000) for the year ended December 31, 2006 compared to the year ended December 31, 2005 of approximately ($7,067,000), a change of approximately $6,738,000. The decrease in cash used in financing activities was due primarily to the absence of any repayment of long-term debt and the purchase of treasury stock which resulted in a use of funds in 2005 of approximately $5,225,000 and approximately $1,000,000, respectively. Net cash used by financing activities was approximately ($7,067,000) for the year ended December 31, 2005 compared to cash provided by financing activities of approximately $58,736,000 for the year ending December 31, 2004, or a change of approximately ($65,803,000). The increased use of funds in financing activities was primarily due to a decrease in proceeds from long-term debt issuance of ($125,000,000) and the purchase of treasury stock of approximately ($1,000,000) offset, in part, by a reduction in repayments on long-term debt and capital lease obligations of approximately $55,247,000 and a decrease in debt issuance costs of approximately $4,950,000.

34

The balance sheet at December 31, 2006 reflects net working capital of approximately $7,525,000. As of December 31, 2006, we had recurring monthly revenue (“RMR”) of approximately $3,354,000 in our residential monitoring segment, approximately $993,000 in our commercial monitoring segment and approximately $3,079,000 (including inter-company recurring monthly revenue of approximately $452,000) in our wholesale monitoring segment. Total debt was $125,000,000 as of December 31, 2006. The balance sheet at December 31, 2005 reflects net working capital of approximately $9,066,000. As of December 31, 2005, we had recurring monthly revenue (“RMR”) of approximately $3,750,000 in our residential monitoring segment, approximately $1,025,000 in our commercial monitoring segment and approximately $2,968,000 (including inter-company recurring monthly revenue of approximately $399,000) in our wholesale monitoring segment. Total debt was $125,000,000 as of December 31, 2005.

On November 16, 2004, we completed a private offering of $125 million aggregate principal amount of 12% Senior Secured Notes due November 15, 2011. The proceeds of this offering, net of issuance costs, were approximately $120.1 million.

On November 16, 2004, we entered into the LaSalle Credit Facility with LaSalle Bank. The maximum amount available of $30 million is limited to 10.0x RMR of eligible retail alarm contracts. The interest rate initially is LIBOR plus 3.50%. The minimum fixed charge coverage ratio is 2.0:1. There was no outstanding balance as of December 31, 2006.

Our capital expenditures anticipated over the next twelve months include equipment and software of approximately $5,836,000. In addition, our strategy calls for us to purchase monitoring contracts at an aggregate cost of approximately $10,000,000.

As part of the NACC and FSS Acquisitions, we agreed to assume obligations to provide open lines of credit to Dealers, subject to the terms of the agreements with the Dealers as of the date of purchase. We intend to fund these commitments with available funds and available capacity under the $30.0 million LaSalle Credit Facility. At December 31, 2006, open lines of credit to these Dealers were approximately $5.0 million.

If IASG’s Board of Directors withdraws or modifies the Merger Agreement in a manner adverse to Protection One or its recommendation of the merger, the Company may be subject to a $7.5 million payment to Protection One consisting of a termination fee and reimbursement of expenses.

We believe that our existing cash, cash equivalents, LaSalle Credit Facility and RMR are adequate to fund our operations for at least the next twelve months.

Recent Accounting Pronouncements

In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities.” This statement permits entities to choose to measure many financial instruments and certain other items at fair value. The Company will be required to apply the guidance contained in FAS No. 159 beginning with financial statements for the year ended December 31, 2008 and has not yet determined the effect that adoption will have on the financial statements.

In September 2006, the SEC staff issued Staff Accounting Bulletin No. 108, “Considering the Effects of Prior year Misstatements when Quantifying Misstatements in Current year Financial Statements.” SAB 108 was issued in order to eliminate the diversity of practice surrounding how public companies quantify financial statement misstatements. The Company was required to apply the guidance contained in SAB 108 beginning with financial statements for the year ending December 31, 2006. We adopted SAB 108 for fiscal 2006 and it did not have any effect on our financial statements.

In September, 2006, the FASB issued Statement of Financial Accounting Standards No. 157 Fair Value Measurements. This statement defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (GAAP) and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements. The Company will be required to apply the guidance contained in FAS No. 157 beginning with financial statements for the year ended December 31, 2008 and has not yet determined the effect that adoption will have on the financial statements.

In June 2006, the FASB issued Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109,”which seeks to reduce the diversity in practice associated with the accounting and reporting for uncertainty in income tax provisions. This interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. FIN 48 is effective for fiscal years beginning after December 31, 2006 and the Company will adopt the new requirements in the first quarter of 2007. The Company is currently assessing the impact of FIN 48 but does not expect that the adoption of the standard will have any significant or material impact on its financial statements.

35

In March 2006, the FASB issued Statement of Financial Accounting Standards No. 156, Accounting for Servicing of Financial Assets, an amendment of FASB Statement No. 140 (“FAS No. 156”). This Standard amends FASB Statement No. 140, Accounting for Transfers and Servicing Assets and Extinguishment of Liabilities, with respect to the accounting for separately recognized servicing assets and servicing liabilities. This Standard requires an entity to recognize a servicing asset or servicing liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract when there is a related sale of financial assets, certain transfers, or assumption of an obligation to service a financial asset that does not relate to the financial assets of the servicer. We adopted this Statement on January 1, 2007 and it did not have any effect on our financial statements.

In February 2006, the FASB issued Statement of Financial Accounting Standards No. 155, Accounting for Certain Hybrid Financial Instruments, an amendment of FASB statements No. 133 and 140 (“FAS No. 155”). This Standard resolves and clarifies the accounting and reporting for certain financial instruments including, hybrid financial instruments with embedded derivatives, interest-only strips, and securitized financial instruments. FAS No. 155 is effective for all financial instruments acquired or issued after the beginning of an entity’s first fiscal year that begins after September 15, 2006. The Company will be required to adopt this Standard on January 1, 2007 and it has not determined the effect that adopting FAS No. 155 will have on the financial statements.

Disclosures About Market Risk

Our exposure to market risk is limited to interest income and expense sensitivity, which is affected by changes in the general level of interest rates. The primary objective of our investment activities is to preserve principal while at the same time maximizing the income we receive without significantly increasing risk. To minimize risk, we maintain our portfolio of cash, cash equivalents and short-term and restricted investments in a variety of interest-bearing instruments, including United States government and agency securities, high-grade United States corporate bonds, municipal bonds, mortgage-backed securities, commercial paper and money market accounts at established financial institutions. Due to the nature of our short-term and restricted investments, we believe that we are not subject to any material market risk exposure. We do not have any foreign currency risk. At December 31, 2006, we have no short-term investments and our cash and cash equivalents are invested in money market accounts.

Off Balance Sheet Arrangements

The Company is not a party to any off-balance sheet arrangements with the exception of commercial letters of credit totaling approximately $150,000. These letters of credit are collateralized with cash deposits which are included in restricted cash on our consolidated balance sheet.

Contractual Obligations and Commercial Commitments

The Company’s significant contractual obligations as of December 31, 2006 are approximately $205,991,000. Debt by year of maturity and future payments under operating and capital lease agreements and estimated interest expense are presented below.

Contractual Obligations	Payments due by Period
	Total		less than 1 year		1-3 years		4-5 years		After 5 years
	(in thousands)
Long-term debt	$	125,000	$	-	$	-	$	125,000	$	-
Capital leases		836		321		392		123		-
Operating leases		4,340		1,573		1,688		641		438
Interest expense (estimated)*		75,815		15,689		30,096		30,030		-
	$	205,991	$	17,583	$	32,176	$	155,794	$	438

*Consists primarily of annual interest payments of approximately $15,000,000 on $125,000,000 million of senior secured notes bearing interest at 12.0%.

In August of 2006, the Company engaged Houlihan Lokey Howard & Zukin (“Houlihan Lokey”) as the financial advisor. Houlihan Lockey has been assisting the Company in negotiating the merger with Protection One, which is more fully disclosed in footnote 13 to the financial statements listed at Item 15 of this Form 10-K. The aggregate fees payable to Houlihan Lokey are estimated to be approximately $2.4 million excluding out-of-pocket expenses reimbursable by the Company, of which $450,000 has been paid and the balance of which is payable contingent upon the consummation of the merger. The Company incurred approximately $470,000 during 2006 for Houlihan’s service.

Item 7A.Quantitative and Qualitative Disclosures about Market Risk

See item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation, Market Risk.

36

Item 8.Financial Statements and Supplementary Data

Our consolidated financial statements and supplementary data, together with the report of PricewaterhouseCoopers LLP, independent registered public accounting firm, are included elsewhere herein. See “Index to Financial Statements” on page F-1.

Item 9.Changes in and Disagreements with Accountants on Accounting and Financial Disclosures

None.

Item 9A.Controls and Procedures

Disclosure Controls and Procedures

The Company's management, including its Chief Executive Officer ,and its Chief Financial Officer, evaluated the effectiveness of the Company's disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 “Exchange Act” Rules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this Annual Report on Form 10-K. Based upon that evaluation, the Company’s management has concluded that as of December 31, 2006, the Company's disclosure controls and procedures were effective in ensuring that all material information required to be disclosed in reports that the Company files with or submits to the Securities and Exchange Commission ("SEC") is recorded, processed, summarized and reported within the time periods specified in the rules and the forms of the SEC, and that such information is accumulated and communicated to the Company’s management, as appropriate, to allow timely decisions regarding required financial disclosure.

Management’s Annual Report on Internal Control over Financial Reporting

Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) under the Exchange Act. The Company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles ("GAAP"). The Company’s internal control over financial reporting includes those policies and procedures that:

·   Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company;

·   Provide reasonable assurance that the transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and

·   Provide reasonable assurance regarding the prevention or timely detection of unauthorized acquisitions, use, or disposition of the Company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.

The Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006. In making its assessment of the effectiveness of the Company’s internal control over financial reporting, management used the criteria set forth in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on that assessment, management concluded that, as of December 31, 2006, the Company's internal control over financial reporting is effective based on those criteria.

The Company's independent registered public accounting firm has audited management's assessment of the effectiveness of the Company's internal control over financial reporting as of December 31, 2006 as stated in their report herein.

Changes in Internal Control over Financial Reporting

As of December 31, 2005, we disclosed the following material weakness (noted below) in our internal control over financial reporting. A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. We disclosed this material weakness in the first three quarters of fiscal 2006 and took steps to remediate it throughout fiscal 2006. As of December 31, 2006, we completed our testing of the design and operating effectiveness of the remediated controls and concluded that the following previously reported material weakness was remediated such that it no longer constituted a material weakness as of December 31, 2006 as described below:

The Company did not maintain effective controls over accounts receivable, revenue and deferred revenue accounts. Specifically, the Company’s controls were not designed and in place to ensure the completeness and accuracy of revenues recorded under standard or multiple billing arrangements. This control deficiency resulted in an audit adjustment to the 2005 annual consolidated financial statements. Additionally, this control deficiency could result in a misstatement of the aforementioned accounts that would result in a material misstatement of the annual or interim financial statements that would not be prevented or detected. Accordingly, management has determined that this control deficiency constitutes a material weakness.

37

The Company implemented and completed the following remediation steps during fiscal year 2006:

·   The Company instituted new edit reports to facilitate the effective review of the completeness of customer monitoring contract set up in its retail revenue system.

·   The Company instituted a formal review process for all customer contract packages to ensure accuracy of data input into the retail revenue system.

·   The Company instituted a formal review of customer contract cancellations to ensure the cancellation is executed properly.

·   The Company instituted cut-off procedures to ensure revenues and deferred revenues are recorded in the proper period.

·   Various business performance reviews are performed by the Company to reduce exposures to material adjustments going undetected.

·   The Company converted one of the remaining three stand-alone revenue systems over to the corporate platform during fiscal year 2006.

During the fourth quarter of 2006, we completed our testing and concluded that these newly implemented controls were effective. There were no changes to our internal controls over financial reporting during the fourth quarter of 2006, that materially affected, or are reasonable likely to materially affect, our internal control over financial reporting.

Item 9B.Other Information

None.

38

PART III

Item 10.Directors and Executive Officers of the Registrant

The information contained under the caption “Election of Directors” to appear in the Company’s definitive proxy statement relating to the Company’s 2006 Annual Meeting of Stockholders, which definitive proxy statement will be filed with the Securities and Exchange Commission not later than 120 days after the end of the Company’s fiscal year covered by this report on Form 10-K (hereinafter referred to as the “Annual Meeting Proxy Statement”), is incorporated herein by reference.

The names of our executive officers and directors, together with a brief description of their employment histories, are provided below:

Name	Age	Position
Charles T. May	62	Acting President and Chief Executive Officer
Bruce E. Quay	49	Chief Operating Officer
Brian E. Shea	48	Executive Vice President
Robert B. Heintz	51	Executive Vice President-Monitoring COO
Michael T. Moscinski	55	Chief Financial Officer
Raymond C. Kubacki	62	Director
John W. Mabry	69	Non-Executive Chairman of the Board
Ralph S. Michael III	52	Director
Jason B. Mudrick	32	Director
Timothy J. Tully	43	Director
Arlene M. Yocum	49	Director

Mr. May is our Acting President and Chief Executive Officer. He joined the Company in April 2006. He started his career in the alarm industry in 1961 at Federal Alarm Systems in Washington D.C. In 1967, Mr. May joined Wells Fargo Alarm Services as one of its earliest employees. He participated in or led over 30 acquisitions and held several titles including Manager of Government Sales and Services and Vice President of Engineering, Manufacturing and Product Sales. In 1980 Mr. May was a co-founder of National Guardian and served as Executive Vice President of Electronic Security. Over the next four years, Mr. May worked on the acquisitions of more than 45 companies in 9 major cities and eventually took the company public. From 1984-1994, Mr. May, as President, led Guardian Security in Detroit in acquiring 22 companies while increasing revenues to in excess of $50 million. In 1995, Mr. May purchased Smith Alarm Systems in Texas and served as CEO growing the business from 12,000 customers to over 75,000 customers and the 10^th largest security company in the U.S. with approximately $3 million in Monthly Recurring Revenue, up from $550,000 in RMR before it was sold to Ameritech/SBC. Mr. May currently serves on the Board of Directors of Ackerman Security in Atlanta Georgia and the Board of Directors of IASG.

Mr. Quay is our Chief Operating Officer. He joined the Company in April 2005. Prior to serving in his current role, Mr. Quay was Executive Vice President and Principal of Aquatic Development Group (“ADG”), a privately held company servicing the aquatics industry through its project services and equipment systems divisions from 2003 to 2005. Prior to ADG, from 1990 to 2002, Mr. Quay held various senior level positions at Cookson Plastic Molding Group where he served as President and Chief Executive Officer from 1998 to 2002. Cookson Plastic Molding Group is a wholly owned subsidiary of Cookson Group, PLC, which is a global leader in the supply of plastic products to the material handling, pool construction, office equipment and lawn and garden markets. Prior to Cookson Plastic Molding Group, Mr. Quay held various senior level management positions with Heldor Industries, a leading national manufacturer and distributor of swimming pool products.

Mr. Shea has served as an Executive Vice President since March 2003. In this role, he heads our retail account acquisition and loan division, including portfolio management, due diligence, performance monitoring and collections. Additionally Mr. Shea serves as our Corporate Secretary and Insider Trading Compliance Officer. Prior to serving in his current role, he was our Chief Financial Officer and had served as the Chief Financial Officer of IASI and its predecessor companies since 1992. Prior thereto, he was Vice President of Finance/Controller of Hiland Park, a real estate development company. Prior to joining Hiland Park, he was an Analyst at Galesi Group and a Financial Manager for General Electric Corporation, where he graduated from GE's Financial Management Training Program.

Mr. Heintz has served as our Executive Vice President-Monitoring Services since February 2005. Prior to serving in his current role, he was our Vice President, Finance and Administration—Monitoring Services since January 2003. He was previously our Chief Financial Officer, a position he held since April 2000. Prior to joining IASG, he was Vice President and Chief Financial Officer of Monital Signal Corporation, from January 1997 to April 2000, which we acquired in April 2000. Before working for Monital, he was Vice President Finance & Information Services for Brownstone Studio, Inc., a garment cataloger and manufacturer, where he worked from 1994 to 1996. Before Brownstone, he spent 14 years with the Dun & Bradstreet Corporation where he held several finance and accounting positions.

39

Mr. Moscinski has served as our Chief Financial Officer since March 2003. Prior to serving in his current role, Mr. Moscinski served IASG and its predecessor companies in various financial positions since April 2002. Prior to joining IASG, he served as Vice President, Corporate Controller and Interim Chief Financial Officer for United Road Services, Inc., a public company based in Albany, New York, where he worked from 1998 through 2001. From 1987 to 1998, Mr. Moscinski was the Director of Corporate Accounting for National Micronetics, Inc. From 1976 to 1987, Mr. Moscinski was with KPMG International and its predecessor firms, where he was a Senior Manager in audit. Mr. Moscinski is a Certified Public Accountant and a member of the American Institute of Certified Public Accountants and the New York State Society of Certified Public Accountants.

Mr. Kubacki has served as a director since June 2004. Mr. Kubacki has been President and Chief Executive Officer of Psychemedics Corporation, a biotechnology company with a proprietary drug test product, since July 1991. He has also served as Chairman of the Board since November 2003. Prior to joining Psychemedics, he held senior management positions in marketing and operations with Reliance Electric Company and ACME Cleveland Corporation; and as an investment officer for Massachusetts Financial Services, a major mutual fund and investment management firm.He is also a trustee for the Center for Excellence in Education based in Washington, D.C.

Mr. Mabry has served as a director of IASG since March 2003 and as Chairman of the Board since April 2006. Mr. Mabry has approximately 35 years of experience in the alarm industry. In 1969 he founded and began building the American Alarm Company that was purchased by Honeywell in 1983. He remained with Honeywell through 1993 with responsibilities for operations, sales and business development. From 1993 to 2000, Mr. Mabry was President of Security Network of America. Mr. Mabry serves on numerous alarm industry associations' boards and was President of the National Burglary and Fire Alarm Association.

Mr. Michael has served as a director of IASG since January 2003. He has been President and Chief Operating Officer of the Ohio Casualty Insurance Company since July 2005. From 2003 to 2005, Mr. Michael served as Executive Vice President of U.S. Bank, N.A. and President of U.S. Bank-Oregon. From 1979 to 2002, Mr. Michael held management and executive positions with PNC Financial Services Group. He also currently serves as a board member of Key Energy Services Inc., Cincinnati Bengals Inc., Xavier University (OH) and Friedman, Billings, Ramsay Group, Inc. Mr. Michael is Chairman of the IASG Audit Committee.

Mr. Mudrick has served as a director of IASG since 2005.  Mr. Mudrick was suggested as a board candidate by Contrarian Capital Management, LLC, an investment firm based in Greenwich, CT, which as of December 31, 2006 owned approximately 13.21% of the Company’s stock.  Mr. Mudrick is a Portfolio Manager at Contrarian.  Prior to joining Contrarian in 2001, Mr. Mudrick was an associate in the Mergers & Acquisitions Investment Banking Group at Merrill Lynch & Co from 2000 to 2001.  Mr. Mudrick is admitted to the New York State Bar.  Mr. Mudrick is a member of the Board of Directors of Safety-Kleen Holdco., Inc., a private company in the industrial waste services industry, and Salton Inc., a designer and marketer of a broad range of kitchen and home appliances that trades on the NYSE. 

Mr. Tully has served as a director of IASG since January 2003. Mr. Tully is the managing member of Tully Capital Partners, LLC, a diversified private investment firm that he co-founded in 1997.  Prior to Tully Capital Partners, Mr. Tully was President of Pioneer Investment Properties, which engaged in commercial real estate acquisitions/operations.  He is a former Floor Official on the New York Options Exchange, where he traded equity and index options as an independent market maker.  Mr. Tully serves as a board member on various charitable foundations and community based organizations.  Mr. Tully is Chairman of the IASG Compensation Committee.

Ms. Yocum has served as a director of IASG since October 2005. Ms. Yocum has been Executive Vice President, Managing Executive of PNC Wealth Management and Institutional Investment Groups since 2003. From 2000 to 2003 Ms. Yocum was an Executive Vice President of the Institutional Investment Group of PNC Advisors. From 1993 to 2000 Ms. Yocum held management and executive positions with PNC Advisors. Ms Yocum is a Trustee and Vice President of the Philadelphia Community College Foundation and a member of American Bankers Association Wealth Management and Trust Conference Board. Ms. Yocum is Chairperson of the IASG Independent Committee and the Governance and Nominating Committee.

Committees of the Board

The Audit Committee appoints and provides for the compensation of the Company’s independent auditors; oversees and evaluates the work and performance of the independent auditors; reviews the scope of the audit; examines the results of audits and quarterly reviews; considers comments made by the independent auditors with respect to accounting procedures and internal controls and the consideration given thereto by the Company’s management; approves all professional services to be provided to the Company by its independent auditors; reviews internal accounting procedures and controls with the Company’s financial and accounting staff; oversees a procedure that provides for the receipt, retention and treatment of complaints received by the Company and of confidential and anonymous submissions by employees regarding questionable accounting or auditing matters; and performs related duties as set forth in applicable securities laws, NASDAQ corporate governance guidelines, and the Audit Committee charter. The Board functions pursuant to the Audit Committee charter adopted by the Board in August 2003.  

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The members of the Company’s Audit Committee are Messrs. Michael, Mabry, Tully and Kubacki. Mr. Ralph S. Michael III is the Audit Committee Chairman. The Audit Committee met eight (8) times during the fiscal year ended December 31, 2006. Each of Messrs. Michael, Mabry, Kubacki and Tully are independent Directors under the rules of the NASDAQ Stock Market. Each of the members of the Audit Committee are able to read and understand fundamental financial statements. While more than one member of the Company’s Audit Committee qualifies as an “audit committee financial expert” under Item 401(h) of Regulation S-K, Mr. Michael is the designated audit committee financial expert.

The Compensation Committee has such powers as may be assigned to it by the Board of Directors from time to time and is currently charged with, among other things, reviewing and recommending compensation packages for our officers, administering our Stock Option Plan and establishing and reviewing general policies relating to compensation and benefits of the Company’s employees. The Compensation Committee met ten (10) times during fiscal 2006.The Committee members during fiscal 2006 were Messrs. Tully, Mabry and Kubacki.

The Company has established a Governance and Nominating Committee that has the authority to identify individuals qualified to become board members and provide recommendations to the Board regarding potential new directors. This Committee also has the authority to develop and recommend to the board a set of corporate governance principles applicable to the Company and to oversee the evaluation of the Board and management. The Governance and Nominating Committee meet four (4) times during fiscal 2006. The Committee members during fiscal 2006 were Ms. Yocum and Messrs. Michael and Kubacki.

The Board of Directors also has an Independent Committee which held ten (10) meetings during fiscal 2006. The function of the Independent Committee is to assist the Board in reviewing and assessing strategic alternatives for the Company. The Independent Committee is chaired by Arlene M. Yocum, and its members include Raymond C. Kubacki, John W. Mabry, Ralph S. Michael III, Jason B. Mudrick and Timothy J. Tully.

All Directors attended in excess of 75% of the Board of Directors meetings and their assigned Committee meetings during fiscal 2006.

We have adopted a Code of Ethics for our officers, including our principal executive officer, principal financial officer, principal accounting officer, persons performing similar functions and directors.

Shareholders may request a free copy of the Code of Ethics and/or Annual Report from:

Integrated Alarm Services Group, Inc.

Attn: Investor Relations

99 Pine Street, 3rd floor

Albany, NY 12207

(518) 426-1515

Any amendment of our Code of Ethics or waiver thereof applicable to any of our principal executive officer, principal financial officer, principal accounting officer or persons performing similar functions will be disclosed on our website within 5 days of the date of such amendment or waiver. In the case of a waiver, the nature of the waiver, the name of the person to whom the waiver was granted and the date of the waiver will also be disclosed. A copy of our Code of Ethics is also available at our website at www.iasg.us.

Item 11.Executive Compensation

The individuals who served as Integrated Alarm Services Group, Inc (the Company)’s Chief Executive Officer and Chief Financial Officer during 2006, as well as the Company’s three other most highly compensated executive officers during such year, are referred to as the “named executive officers.” These individuals are listed in the Summary Compensation Table. The following compensation discussion and analysis, executive compensation tables and related narrative describe the compensation awarded to, earned by or paid to the named executive officers for services provided to the Company in 2006, their outstanding equity awards at the end of 2006 and their compensatory arrangements with the Company.

Compensation Discussion and Analysis

Overview, Philosophy and Objectives of Executive Compensation

The Compensation Committee of the Company’s board of directors has authority to establish the salaries, bonuses and equity plan participation levels for the named executive officers. The Compensation Committee also has the authority to review and approve employment agreements, severance arrangements and retirement plans for the named executive officers, to oversee the design and administration of equity-based and incentive compensation plans and otherwise to review and approve the Company’s compensation plans. The compensation committee of the Board of Directors believes it is important to attract, retain, and motivate highly talented individuals at all levels of the organization through appropriately administered compensation plans and programs. These plans and programs should be consistent with industry practices, or otherwise companies representative of our size and complexity, and be tailored to align an employees performance with shareholder interests. In particular:

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·   The Compensation Committee bases compensation on the level of job responsibility, individual performance, and Company performance. As employees progress to higher levels in the organization, an increasing proportion of their pay is linked to Company performance and shareholder returns.

·   The Compensation Committee reflects in compensation the value of the job in the marketplace. To attract and retain a highly skilled work force, the Company must remain competitive with the pay of other premier employers who compete with us for talent.

Components of Executive Compensation

Base Salary

The Compensation Committee considers various measures of Company and industry performance, including sales, earnings per share, attrition rates, total market value, and total shareholder return. These data points and metrics assist the Committee in exercising judgment in establishing total compensation ranges. The Compensation Committee does not assign these performance measures relative weights. Instead, the Compensation Committee makes a subjective determination after considering all such measures collectively.

The Compensation Committee also retains as needed, an independent compensation consultant to assist us in evaluating the executive compensation programs and in setting the chief executive officer’s compensation. The consultant reports directly to the committee. The use of an independent consultant provides additional assurance that our programs are reasonable and consistent with the Company’s objectives.

The Compensation Committee further retains independent legal counsel to assist us however the committee feels necessary, including but not limited to contract negotiations, terminations, and restructurings. The independent legal counsel reports directly to the committee.

Annual Bonus

The Company rewards the named executive officers for achieving annual company financial performance objectives and for demonstrating individual leadership. The Company believes that by providing a positive incentive and annual cash rewards, it motivates and retains qualified executives. The Company also believes that the allocation of base salary and annual incentive compensation opportunity for named executive officers generally represents a reasonable combination of fixed salary compared to variable incentive pay opportunity and reflects the Company’s goal of retaining and motivating its named executive officers. The Compensation Committee approved an informal bonus plan for 2006 to the named executive officers and other individuals based on the 2006 operating budget. No bonus was issued in 2006 due to the fact that the budget was not achieved.

Equity Compensation

Equity compensation has historically been offered to employees of the Company who are in positions to affect the Company’s long-term success through the formation and execution of its business strategies.

Stock options align employee incentives with shareholders because options have value only if the stock price increases over time. Our options, granted at the market price on the date of grant, or in the case of recent (2006) grants, at a premium to market price, ensure that employees are focused on long-term growth. In addition, options help retain key employees because they typically cannot be exercised for three years and, if not exercised, are forfeited if the employee leaves the Company voluntarily. The three-year vesting also helps keep employees focused on long-term performance. In determining the size of option grants, we consider job responsibility, individual performance, and the number of options previously granted.

The Compensation Committee granted 150,000 to Mr. Charles T. May, Acting President in April 2006 under the 2004 Stock Option Plan.

2003 Stock Option Plan

The 2003 Stock Option Plan ("SOP") permits the grant of options which may either be "incentive stock options", ("ISOs"), within the meaning of Section 422 of the Code or "non-qualified stock options" ("NSOs"), which do not meet the requirements of Section 422 of the Code. The total number of shares of our common stock that may be issued under the SOP may not exceed 150,000, subject to possible adjustment in the future as described below.

Within the limits of the SOP, the Compensation Committee has exclusive authority, among other things, to select those to whom options shall be granted, to determine the number of shares of common stock to be covered by each option, and to determine the other terms of each option, including, but not limited to, the exercise price and duration. Only employees may be granted ISOs.

The number of shares of common stock authorized for issuance under the SOP may be adjusted in the event our shares of common stock are changed into, or exchanged for cash, or securities of another entity through a reorganization, merger, recapitalization, reclassification, stock split, stock dividend, stock consolidation or combination or other similar transaction. In the event of the occurrence of any of the following, the Compensation Committee may adjust the number of authorized shares under the SOP, and the options issued under the SOP, as appropriate under the circumstances.

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2004 Stock Option Plan

In June 2004 the stockholders approved the 2004 Stock Option Plan (“2004 Plan”). The adoption and approval of the 2004 Plan did not amend or modify the 2003 Plan or adversely affect rights under any outstanding stock options previously granted under the 2003 Plan.

	(a)		(b)		(c)
Plan category	Number of securities to be issued upon exercise of outstanding options, warrants and rights		Weighted-average exercise price of outstanding options, warrants and rights		Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
Equity compensation plans approved by security holders - 2003 Plan		122,500	$	7.12		27,500
Equity compensation plans approved by security holders - 2004 Plan		296,000	$	5.02		904,000

The compensation committee has the full authority to select the recipients of awards granted under the 2004 Plan, to determine the type and size of awards, and to determine and amend the terms, restrictions and conditions of awards. Eligibility for awards under the 2004 Plan is limited to our key employees (including employees who are also officers and/or directors) and consultants as selected by the committee based on, among other things, their duties and the compensation committee’s assessment of their present and potential contributions to our success.

All Other Compensation

As described in footnote 3 to the Summary Compensation Table, other compensation to the named executive officers of the Company included: commuter travel expenses and related taxes; car allowances; company contributions under the Company 401(k) Profit Sharing Plan, which are available to employees generally. These payments and other benefits, the amounts of which are not material to the Company, provide additional compensation and benefits to the applicable named executive officers and, in the case of travel expenses and car allowances, in part defray certain personal expenses related to the applicable named executive officer’s employment.

Severance Arrangement and Change in Control

The Company believes that it should provide severance benefits to the named executive officers. The Company’s severance benefits for the named executive officers reflect, among other things, the fact that it may be difficult for a named executive officer to find comparable employment within a short period of time. The Company believes that its severance arrangements are an important element in the retention of the named executive officers.

The Company believes that it is important to protect the named executive officers in the event of a change in control. The employment agreement provisions regarding payment upon termination in connection with a change in control were intended to, among other things, encourage the named executive officers to enter into the new employment agreements and focus on the Company’s performance rather than other employment alternatives.  On November 22, 2006, in anticipation of entering into a merger agreement with Protection One and to assure their continued service, the Company entered into new or amended employment agreements with several named executive officers.

Chief Executive Officer Compensation for 2006

In April of 2006, the Committee approved the hiring of Charles May as Acting President and Chief Executive Officer of the Company.  Mr. May was hired for his proven ability to build and strengthen companies in this industry and assist the Company in achieving its short term and intermediate term objectives.  Mr. May's annual compensation is $420,000 per year and is reflective of his responsibilities and experience. 

On December 20, 2006, Integrated Alarm Services Group, Inc. (the "Company") entered into an agreement with Mr. May to assure his continued service.  The Agreement will become effective upon the closing dates of certain transactions (the "Closing Date") contemplated by the merger agreement entered into on December 20, 2006 between Protection One, Inc.("P1"), the Company, and Tara Acquisition Corp. (the "Merger Agreement") pursuant to which the Company will be merged with Tara and become a wholly-owned subsidiary of P1. Under the agreement Mr. May will remain employed by the Company for a period of three months following the Closing Date, at a salary of $35,000 per month. In addition, within 30 days after the end of the three-month period, the Company will pay to Mr. May a bonus of $105,000. Additionally, Mr. May will continue to perform the functions he performed for the Company prior to the Closing Date, and such other duties as are reasonably requested by the Company in good faith. However, Mr. May will not be required to work more than two days per week.

Chief Financial Officer Compensation for 2006

On November 22, 2006, the Company entered into an amendment to an employment agreement dated March 1, 2006 with Michael T. Moscinski. Under the agreement, Mr. Moscinski will receive a base salary of $160,000 and is eligible to receive an annual bonus at the discretion of the compensation committee based on the achievement of one or more performance goals. This agreement also states that upon a change of control of the Company, all equity awards held by Mr. Moscinski will vest and become immediately exercisable.

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On December 29, 2006, the Company entered into an agreement with Mr. Moscinski to assure his continued service.  The agreement will become effective upon the closing dates of certain transactions (the "Closing Date") contemplated by the merger agreement entered into on December 20, 2006 between P1, the Company, and Tara Acquisition Corp. (the "Merger Agreement") pursuant to which the Company will be merged with Tara and become a wholly-owned subsidiary of P1. Once effective, Mr. Moscinski will remain employed by the Company for a period of six months following the Closing Date, or such lesser period as determined by the Company (the "Transition Period"). Under the agreement, Mr. Moscinski will continue to perform the functions he performed for the Company prior to the Closing Date, and such other duties as are reasonably requested by the Company in good faith.

During the Transition Period, the Company will pay Mr. Moscinski a monthly salary equal to the monthly salary payable to Mr. Moscinski by the Company immediately prior to the Closing Date. In addition, 6 months after the Closing Date, the Company will pay to Mr. Moscinski a bonus of $450,000. In the event that any payments by the Company to Mr. Moscinski would be subject to the excise tax imposed by Section 4999 of the Internal Revenue Code of 1986, as amended, then the amount payable under the agreement will be reduced to the maximum amount that could be paid to Mr. Moscinski without giving rise to such excise tax.

Chief Operating Officer Compensation for 2006

On November 22, 2006, the Company entered into an employment agreement with Mr. Quay, the Chief Operating Officer of the Company. The agreement provides for an eighteen-month term, which will extend automatically for additional eighteen-month periods unless sooner terminated in accordance with the terms of the agreement.

Under the employment agreement, Mr. Quay will receive a base salary of $360,000. In addition, he is eligible to receive an annual bonus at the discretion of the Compensation Committee based on the achievement of one or more performance goals. Upon termination without Cause, Mr. Quay will be entitled to receive his salary for the remaining portion of the employment term.

The agreement for Mr. Quay provides that upon a change in control (as defined below), the employment terms will automatically extend for an additional eighteen months. In addition, upon a termination of employment by the Company without cause within eighteen months following a change in control, (i) Mr. Quay will receive a lump sum payment $540,000; and (ii) all outstanding equity awards will automatically vest and become immediately exercisable. The payments and equity award acceleration will also be made if, within such eighteen-month period, the executive resigns as a result of (i) a change in the location of his principal place of employment of more than fifty miles, (ii) a reduction in his base salary of more than 10%, or, (iii) a failure by the successor entity to retain him in a management position. A "change in control" is generally defined as the acquisition of securities representing 30% or more of the Company's outstanding securities by a single shareholder, a change in the majority of the members of the Board over a twelve-month period, the occurrence of a corporate transaction after which the majority stockholders of the Company immediately prior to such transaction do not, immediately after the transaction, own more than 50% of the combined voting power of the Company, or the sale, liquidation or distribution of all or substantially all of the assets of the Company.

Summary Compensation Table
Name and Principal Position		Year	Salary ($)	Bonus ($)	Stock Awards ($)	Option Awards ($) (2)	Non Equity Incentive Plan Compensation ($)	Other Compensation ($) (3)	Total ($)
Charles T. May	(1)
Acting President and Chief Executive Officer		2006	420,000	-	-	206,500	-	-	626,500
Michael T. Moscinski		2006	160,000	-	-	-	-	2,730	162,730
Chief Financial Officer
Bruce E. Quay		2006	360,000	-	-	-	-	2,730	362,730
Chief Operating Officer
Brian E. Shea		2006	170,000	-	-	-	-	2,730	172,730
Executive Vice President
Robert B. Heintz		2006	170,000	-	-	-	-	14,730	184,730
Executive VP & COO, Criticom Int'l Corp.

(1)Mr. May was employed effective April 24, 2006. His actual gross pay for 2006 was $274,615.

(2) The amount in Option Awards is the FAS 123R value of such awards. See footnote 7 of the form 10-K financial statements for the relevant assumptions used in the calculating the FAS 123R value.

(3)Other Compensation for 2006 includes the following items:

a) Company contribution under the Company’s 401(k) plan in the amount of $2,730 for Messers. Moscinski, Quay, Shea and Heintz;

b)Car allowance in the amount $12,000 for Mr. Heintz.

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Grants of Plan-Based Awards
Name and Principal Position	Grant Date			All other stock awards: Number of shares of Stock or Units (#)		Closing Market Price on Date of Grant ($/Sh)
Charles T. May		5/1/2006 (1	)		50,000	$	4.25
Acting President and Chief Executive Officer		5/1/2006 (1	)		100,000		5.25
Michael T. Moscinski					-
Chief Financial Officer
Bruce E. Quay					-
Chief Operating Officer
Brian E. Shea					-
Executive Vice President
Robert B. Heintz					-
Executive VP & COO, Criticom Int'l Corp.

(1) Mr. May was awarded 150,000 shares of options on May 1, 2006 under the 2004 Stock Option Plan.  The options are non-forfeitable and are exercisable as follows: (i) 100,000 shares were immediately exercisable on November 1, 2006; (ii) remaining 50,000 were immediately exercisable on December 1, 2006.

Outstanding Equity Awards at Fiscal Year-End
Name	Number of Securities Underlying Unexercised Options (#) Unexercisable			Equity Incentive Plan Awards: Number of Securities underlying Unexercised Unearned Options (#)	Equity Incentive Plan Awards: Number of Securities Underlying Unexercised Unearned Options (#)	Weighted Average Option Exercise Price ($)	Option Expiration Date
Charles T. May		150,000	(1)	-	-	4.92	4/23/2009
Acting President and Chief Executive Officer
Michael T. Moscinski		7,999	(2)	4,001	-	5.75	6/14/2014
Chief Financial Officer
Bruce E. Quay		25,000	(3)	16,667	-	4.86	4/3/2015
Chief Operating Officer
Brian E. Shea		5,333	(2)	2,667	-	5.75	6/14/2014
Executive Vice President
Robert B. Heintz		5,333	(2)	2,667	-	5.75	6/14/2014
Executive VP & COO, Criticom Int'l Corp.

(1)   Mr. May was awarded 150,000 shares of options on May 1, 2006 under the 2004 Stock Option Plan. The options are non-forfeitable and are exercisable as follows: (i) 100,000 shares were immediately exercisable on November 1, 2006; (ii) remaining 50,000 were immediately exercisable on December 1, 2006.

(2)   These options were granted under the 2003 Stock Option Plan.

(3)   These options were granted under the 2004 Stock Option Plan upon Mr. Quay’s employment with the Company. One third for total options granted was immediately vested upon employment and one third became vested in 2006. The balance will be vested in April 2007.

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Potential Payments Upon Termination or Change in Control
	Accrued Vacation ($)		Non Qualifying Termination (1)		Qualifying Termination		Qualifying Termination with Change in Control (2) (4)
Charles T. May		-		-		-		-	(3)
Acting President and Chief Executive Officer
Michael T. Moscinski		18,462		3,077		320,000		470,000	(2), (3)
Chief Financial Officer
Bruce E. Quay		24,321		6,923		510,000		540,000	(2)
Chief Operating Officer
Brian E. Shea		16,225		3,269		170,000		170,000	(2)
Executive Vice President
Robert B. Heintz		19,615		3,269		170,000		170,000	(2)
Executive VP & COO, Criticom Int'l Corp.

(1)   These calculations assume that the named executive’s date of termination was December 23, 2006, which was the last date payroll was processed in 2006.A non-qualifying termination is any termination not qualifying as a qualifying termination, and includes a voluntary termination by the named executive without good reason, retirement, a termination by the Company for cause, or any termination on account of death or disability. The meanings of the terms “cause” and “good reason” for purposes of determining potential payments to named executive officers upon termination or a change in control are described below. "Cause" is generally defined as a material breach of the agreement, the executive's failure to perform his duties, conviction of or plea of nolo contendere to a felony or a crime involving dishonesty or moral turpitude, engaging in misconduct, negligence, dishonesty, violence or threat of violence, a breach of a written policy of the Company or its Code of Ethics or of governmental rules applicable to the Company, refusal to follow the lawful and good faith directions of the Board of Directors, competing with the Company, or any other misconduct which is injurious to the Company. Under the employment agreement for Mr. Moscinski, "Cause" is generally defined as misconduct which results in an adverse effect on the Company, disregard of instructions of the Board of Directors or neglect of duties which adversely affects the Company, competing with the Company, conviction of a felony, or the habitual abuse of alcohol or controlled substances.

(2)   The agreements for Messrs. Quay, Heintz and Shea provide that upon a change in control, the employment terms will automatically extend for an additional twelve months (or in the case of Mr. Quay, eighteen months). In addition, upon a termination of employment by the Company without cause within twelve months (or in the case or Mr. Quay, eighteen months) following a change in control, (i) the executives will receive a lump sum payment equal to one years' salary (or in the case of Mr. Quay, $540,000); and (ii) all outstanding equity awards will automatically vest and become immediately exercisable. The payments and equity award acceleration will also be made if, within such twelve or in the case of Mr. Quay, eighteen-month period, the executive resigns as a result of (i) a change in the location of his principal place of employment of more than fifty miles, (ii) a reduction in his base salary of more than 10%, or, (iii) in the case of Mr. Quay, a failure by the successor entity to retain him in a management position. A "change in control" is generally defined as the acquisition of securities representing 30% or more of the Company 's outstanding securities by a single shareholder, a change in the majority of the members of the Board over a twelve-month period, the occurrence of a corporate transaction after which the majority stockholders of the Company immediately prior to such transaction do not, immediately after the transaction, own more than 50% of the combined voting power of the Company, or the sale, liquidation or distribution of all or substantially all of the assets of the Company.

The agreement for Mr. Moscinski provides that upon the occurrence of certain events, he will have the right to terminate his employment and receive a payment equal to two years' salary. The events generally include a failure by the Company to retain Mr. Moscinski as CFO, a material reduction in his duties and responsibilities, a change in the principal place of employment of more than thirty miles, a reduction in his base pay or benefits of greater than 10%, a failure by the Company to have a successor assume the agreement or a material breach of the agreement by the Company which is not cured within thirty days of written notice. In the event of a change of control of the Company, Mr. Moscinski shall be eligible to receive a one time cash bonus, equal on an after tax basis to two times his average compensation for the three previous fiscal years.

The agreements for Messrs. Heintz and Shea contain one year post-termination non-competition and non-solicitation covenants. The agreements for Messrs. Quay and Moscinski contain eighteen-month and two-year post-termination non-competition and non-solicitation covenants, respectively. In addition, they are prohibited at all times from disclosing confidential information about the Company.

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(3)   On December 20, 2006, the Company entered into an agreement with Mr. May. This agreement becomes effective upon the closing dates of certain transactions (the "Closing Date") contemplated by the merger agreement entered into on December 20, 2006 between Protection One, Inc.("P1"), the Company, and Tara Acquisition Corp. (the "Merger Agreement") pursuant to which the Company will be merged with Tara and become a wholly-owned subsidiary of P1. Under the agreement Mr. May will remain employed by the Company for a period of three months following the Closing Date, at a salary of $35,000 per month. In addition, within 30 days after the end of the three-month period, the Company will pay to Mr. May a bonus of $105,000.

On December 29, 2006, the Company entered into an agreement with Mr. Moscinski. The agreement will become effective upon the closing date of certain transactions (the "Closing Date") contemplated by the merger agreement entered into on December 20, 2006 between P1, the Company, and Tara Acquisition Corp. (the "Merger Agreement") pursuant to which the Company will be merged with Tara and become a wholly-owned subsidiary of P1. In the event that the transactions set forth in the Merger Agreement are not consummated, the agreement with Mr. Moscinski will be void and without force or effect. Under the agreement, if it becomes effective, Mr. Moscinski waives any right of payment under his agreement with the Company dated November 22, 2006.

Once effective, under the agreement Mr. Moscinski will remain employed by the Company for a period of six months following the Closing Date, or such lesser period as determined by the Company (the "Transition Period"). Under the agreement, Mr. Moscinski will continue to perform the functions he performed for the Company prior to the Closing Date, and such other duties as are reasonably requested by the Company in good faith.

During the Transition Period, the Company will pay Mr. Moscinski a monthly salary equal to the monthly salary payable to Mr. Moscinski by the Company immediately prior to the Closing Date. In addition, 6 months after the Closing Date, the Company will pay to Mr. Moscinski a bonus of $450,000. In the event that any payments by the Company to Mr. Moscinski would be subject to the excise tax imposed by Section 4999 of the Internal Revenue Code of 1986, as amended, then the amount payable under the agreement will be reduced to the maximum amount that could be paid to Mr. Moscinski without giving rise to such excise tax.

The agreement contains a non-competition and non-solicitation covenant that applies, once the agreement is effective, during the Transition Period and for two years thereafter.

All of the agreements also state that upon a change of control of the Company, all equity awards will vest and become immediately exercisable. Under the Company’s stock option plans, an employee has 30 days upon termination of employment to exercise vested options. Since the Company’s stock has been trading significantly under the option grant price and due to the short time frame a former employee has to exercise the option, we assume a limited number of the options will be exercised.

Tax Treatment under Section 280G and 409A of the Code

Section 280G of the Code

Under the employment agreements with the named executive officers of the Company, in the event that any amounts or benefits paid to a named executive officer pursuant to his current employment agreement are subject to the excise tax imposed under Section 4999 of the Code, the Company will pay the named executive officer an additional amount to compensate him for that tax liability. In general, if the total amount of payments to an individual that are contingent upon a “change in control” (as defined in Section 280G of the Code) of the Company equals or exceeds three times the individual’s “base amount” (generally, the individual’s average annual compensation for the five (5) calendar years preceding the change in control), the payments may be treated as “parachute payments” under the Code. The portion of such payments that exceeds the individual’s “base amount” is non-deductible to the Company under Section 280G of the Code, and the individual is subject to a 20% excise tax on such amount under Section 4999 of the Code. Under existing employment agreements, the Company is obligated to make additional cash payments to the named executive officers to compensate them for the 20% excise tax so that they receive the same benefit from their awards as if such excise tax did not apply. These additional payments are nondeductible by the Company and constitute income to the executives, which requires further payment under the employment agreements to compensate the executives for the income tax incurred with respect to such payments. Non-deductible parachute payments generally reduce the $1 million deduction limitation under Section 162(m) of the Code, discussed above.

Each named executive officer’s employment agreement provides that he agrees to reduce the aggregate amount of any payments or benefits that constitute “parachute payments” under Section 280G of the Code to the extent necessary so that such payments and benefits do not equal or exceed three times the named executive officer’s “base amount” (and therefore are not subject to the excise tax imposed by Section 4999); provided, however, that a named executive officer is not required to make any such reduction if the reduction necessary to cause such payments and benefits not to equal or exceed three times his “base amount” is more than $100,000.

47

Section 409A of the Code

Section 409A of the Code sets forth specific requirements relating to the payment of deferred compensation to employees and other service providers. Deferred compensation payments that do not meet these requirements are generally taxed to the employee or service provider when they vest, and may also be subject to a 20% penalty tax, payable by the employee or service provider. The Company has structured payments under its executive compensation programs in a manner that is intended to meet the requirements of Code Section 409A.

Compensation of Directors
Name	Fees Earned or Paid in Cash ($)	Stock Awards ($	)	Option Awards ($) (1)	Non-Equity Incentive Plan Compensation	All Other Compensations	Total ($	)
John W. Mabry	155,167	-		103,250	-	-	258,417
Raymond C. Kubacki	78,125	-		-	-	-	78,125
Ralph S. Michael III	75,625	-		-	-	-	75,625
Jason B. Mudrick	-	-		-	-	-	-
Timothy J. Tully	75,000	-		-	-	-	75,000
Arlene M. Yocum	53,750	-		-	-	-	53,750

(1) Stock Option represents the amortization under FAS 123R awarded in April 23, 2006. Mr. John W. Mabry was appointed as the non-executive Chairman of the Board. In connection with his appointment, the Board granted Mr. Mabry option to purchase (i) 25,000 shares of the Company at an exercise price of $4.25 per share and (ii) 50,000 shares of the Company at an exercise price of $5.25 per share. This stock option vested and become non-forfeitable on December 1, 2006 and shall become exercisable on April 23, 2007, the first anniversary of the date on which it was granted. The stock option shall automatically vest, to the extent not then vested, if his position as interim non-executive Chairman of the Board is terminated other than for just cause. The stock option will become fully exercisable, to the extent not exercisable, upon a "Change of Control" of the Company, as such term is defined in the Company's 2004 Stock Incentive Plan. His stock option, once vested, shall remain exercisable until April 23, 2009, the third anniversary of the date on which it was granted, except that it will be forfeited immediately, whether or not it is vested, if his position as interim non-executive Chairman of the Board is terminated for just cause. The stock option shall otherwise be subject to the terms of the 2004 Stock Incentive Plan and the Company's form of option agreement.

Director Fee Structure

Annual Retainer	$	25,000
Annual Retainer-Non Executive Chairman		140,000	(1)
Annual Retainer for Audit Committee Chair		15,000
Annual Retainer for Compensation Committee Chair		5,000
Annual Retainer for Govern/Nomination Committee Chair		5,000
Annual Retainer for Audit Committee Members		5,000
Annual Retainer for Compensation Committee Members		3,500
Annual Retainer for Govern/Nomination Committee Members		3,500
Attendance fee for each meeting		1,000

(1) Amount paid in addition to base retainer

Compensation Committee Report

The compensation committee has reviewed and discussed the CD&A with management and, based on this review and discussion, recommended its inclusion in the annual report on Form 10-K.

Item 12.Security Ownership of Certain Beneficial Owners and Management

The following table sets forth certain information, as of the date hereof, with respect to the beneficial ownership of the common stock by each director, each nominee to become a director and each executive named in the Summary Compensation Table and by all executive officers, directors and nominees to become our directors as of July 28, 2006, by each beneficial owner of more than 5% of the outstanding shares thereof as of March 16, 2007. As of the date hereof, we had 24,368,836 shares of our common stock outstanding. Pursuant to the rules and regulations of the Securities and Exchange Commission, shares of common stock that an individual or group has a right to acquire within 60 days pursuant to the exercise of options or warrants are deemed to be outstanding for the purposes of computing the percentage ownership of such individual or group, but are not deemed to be outstanding for the purposes of computing the percentage ownership of any other person shown in the table.

48

Name and Address of Beneficial Owner (1)	Number of Shares of Common Stock Beneficially Owned		Percentage of Outstanding Common Stock Beneficially Owned
Charles T. May (9)		150,000		*
Timothy M. McGinn (10)		739,618		3.04%
John W. Mabry (4) (8)		98,500		*
Robert B. Heintz (5)		6,333		*
Michael T. Moscinski (6)		9,000		*
Brian E. Shea (5)		8,333		*
Bruce E. Quay (2)		50,000		*
Raymond C. Kubacki (3)		7,000		*
Jason Mudrick (7)		-		*
Ralph S. Michael, III (4)		23,000		*
Timothy J. Tully (4)		46,000		*
Arlene Yocum		5,000		*
All Executive Officers and Directors as a
Group, 11 persons		1,142,784		4.69%
5% Stockholders
Contrarian Capital Management, LLC 411 West Putnam Avenue, Suite 225 Greenwich, CT 06830		3,217,970		13.21%
State Teachers Retirement System of Ohio 275 East Broad Street Columbus, OH 43215		3,000,000		12.31%
Franklin Mutual Advisers LLC 51 John F. Kennedy Parkway Short Hills, NJ 07078		2,619,600		10.75%
Greywolf Capital Management LP 4 Manhattanville Rd. Purchase, NY 10577		2,443,465		10.03%
Mariner Investment Group, Inc. 100 Federal Street, 29th Floor Boston, MA 02110		1,758,255		7.22%

____________________

* represents persons who beneficially own less than 1% of our common stock.

(1)  Other than 5% stockholder the address of each of such individuals is c/o Integrated Alarm Services Group, Inc., One Capital Center, 99 Pine Street, 3rd Floor, Albany, New York, 12207.

(2)   Includes 7,900 shares of common stock owned by his spouse. Includes 25,000 shares issuable upon the exercise of options.

(3)   Includes 5,000 shares of common stock issuable upon the exercise of currently exercisable options.

(4)Includes 13,000 shares of common stock issuable upon the exercise of currently exercisable stock options.

(5) Includes 5,333 shares issuable upon the exercise of options out of a total of 8,000 options granted.

(6) Includes 8,000 shares issuable upon the exercise of options out of a total of 12,000 options granted.

49

(7)    Jason Mudrick is with the Portfolio Manager of Contrarian Capital Management, LLC which beneficially owns 3,217,970 shares as of December 31, 2006.

(8)    Includes 75,000 shares of common stock issuable upon the exercise of currently exercisable stock options.

(9)    Includes 150,000 shares of common stock issuable upon the exercise of currently exercisable stock options.

(10)  As of Form 4 filed on June 14, 2006.

Stock Performance Graph

The graph below provides an indicator of cumulative total return on the Company's common stock as compared with the Nasdaq Index and the S&P SmallCap 600 during the period from July 23, 2003 through the end of fiscal 2006. The graph shows the value, at the end of each fiscal quarter, of $100 invested in the Company's common stock or the indices on July 23, 2003 and assumes reinvestment of all dividends. The graph depicts the change in the value of the Company's common stock relative to the noted indices as of the end of each fiscal quarter and not for any interim period. Historical stock price performance is not necessarily indicative of future stock performance.

IASG cumulative total Return Versus Selected Equity Indices

			7/23/2003		09/2003		12/2003		03/2004		06/2004		09/2004		12/2004		03/2005		06/2005		09/2005		12/2005
IASG	Return	%				-11.41		1.75		12.35		-43.46		-23.52		32.93		-7.29		-13.75		-14.58		-23.47
	Cum $			100.00		88.59		90.14		101.27		57.26		43.80		58.22		53.98		46.55		39.77		30.43
NASDAQ Composite	Return	%				10.22		12.29		-0.35		2.80		-7.24		14.87		-7.95		3.07		4.78		2.73
	Cum $			100.00		110.22		123.77		123.33		126.78		117.61		135.09		124.35		128.17		134.30		137.96
Russell 2000 Index	Return	%				9.07		14.53		6.27		0.47		-2.86		14.09		-5.34		4.32		4.69		1.13
	Cum $			100.00		109.07		124.92		132.74		133.37		129.56		147.82		139.93		145.97		152.82		154.55
S&P 600 Index	Return	%				7.08		14.77		6.22		3.60		-1.37		13.00		-2.07		3.94		5.38		0.39
	Cum $			100.00		107.08		122.90		130.54		135.25		133.39		150.73		147.62		153.44		161.69		162.31

50

Item 13.Certain Relationships and Related Transactions

IASG provides alarm monitoring services to related parties which are owned by former management of the Company who are also stockholders. Revenue earned from these alarm monitoring services was approximately $171,000, $122,000 and $100,000 for the years ended December 31, 2004, 2005 and 2006.

During November 2005, the Company borrowed approximately $2,500,000 from and entity controlled by stockholders of the Company for a seven day period at a 7.6%  interest rate. This was done as the bank credit line was temporarily unavailable during a bank due diligence review. The total interest expense was approximately $4,000. The transaction was approved by the independent directors of the Company.

Suzanne Sweeney, the daughter of Mr. Few, Sr. (former Vice Chairman and President), is Director of Legal Affairs, and has received aggregate compensation of approximately $130,000, $136,000 and $130,000 for fiscal years 2004, 2005 and 2006, respectively.

Jeffrey Few, the son of Mr. Few, Sr. was Vice President of Sales and has received aggregate compensation of approximately $135,000, $133,000 and $98,000 for fiscal years 2004, 2005 and 2006, respectively. His employment with the Company was terminated during 2006.

Thomas Few, Jr., the son of Mr. Few, is Vice President of Sales and Marketing and has received aggregate compensation of approximately $127,000, $154,000 and $176,000 for fiscal years 2004, 2005 and 2006, respectively.

Robert W. Few, the son of Mr. Few, Sr. is Vice President of Operations—Criticom International Corp. and has received aggregate compensation of approximately $80,000, $96,000, and $96,000 for fiscal years, 2004, 2005 and 2006, respectively.

Kathleen Few, the daughter of Mr. Few, Sr. was National Manager of Dealer Care Centers and has received aggregate compensation of approximately $53,000, $70,000 and $52,000 for fiscal years 2004, 2005 and 2006, respectively. Her employment with the Company was terminated during 2006.

Mary Ann McGinn, the former wife of Mr. McGinn (Chairman of the Board and Chief Executive Officer), was Senior Vice President—Legal Affairs and remained a consultant to our Company through 2005. She has received aggregate compensation of approximately $132,000, $145,000 for fiscal years 2004 and 2005, respectively.

Policy Regarding Transactions with Affiliates

Although we believe the foregoing transactions were fair and in our best interests we did not have any formal policy in place. Our Board of Directors adopted a policy in May 2003, that any future transactions with affiliates, including without limitation, our officers, Directors, and principal stockholders, will be on terms no less favorable to us than we could have obtained from unaffiliated third parties. Any such transactions will be approved by a majority of our Board of Directors, including a majority of the independent and disinterested members, or, if required by law, a majority of our disinterested stockholders.

Item 14.Principal Accountant Fees and Services

The Board of Directors appointed PricewaterhouseCoopers LLP as independent auditors to audit the financial statements of the Company for the fiscal year ending December 31, 2006.

Fiscal 2006 was the eighth year that PricewaterhouseCoopers LLP audited the Company's financial statements.

Independent Auditor Fee Information

The information presented below discloses the aggregated fees billed to us for each of the last two fiscal years by PricewaterhouseCoopers LLP.

Audit Fees

Fiscal 2006—$1,976,013.Fiscal 2005—$1,816,405.

This category includes fees for professional services rendered for the audit of our annual financial statements, the review of financial statements included in our Form 10-Q, the audit of our internal control over financial reporting as of December 31, 2006 and 2005, and services that are normally provided by the accountant in connection with statutory and regulatory filings or engagements.

Audit Related Fees

The Company was also billed by PricewaterhouseCoopers LLP $215,582 during 2006 for due diligence services rendered related to the merger more fully disclosed in footnote 13 to the financial statements listed at Item 13 of this Form 10-K.

51

Tax Fees

Fiscal 2006—$227,325. Fiscal 2005—$203,120.

This category includes fees for professional services that are rendered for tax compliance, tax advice, and tax planning. The nature of the services comprising the fees disclosed in this category are tax return preparation.

All Other Fees

There were no other fees for products and services that are not disclosed in the other categories of this section.

52

PART IV

Item 15.Exhibits and Financial Statement Schedules

    (a)The following documents are filed as a part of this report:

1. The financial statements listed on the accompanying Index to Financial Statements on page F-1.

2.  Financial statement schedules

Schedules have been omitted since they are either not required, are not applicable or the required information is shown in the consolidated financial statements or related notes.

3.  The following Exhibits:

Exhibit Description

Exhibit No.

2.1	(1)	Merger Agreement by and between KC Alarm Services Group (Delaware Corporation) and the registrant
2.2		Stock Purchase Agreement dated as of December 15, 2003 between Integrated Alarm Services Group, Inc. and Lane Industries, Inc. (incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K filed by IASG dated December 22, 2003)
2.3		Purchase Agreement with Wells Fargo Bank, N.A., as trustee for the initial purchasers dated November 16, 2004 (incorporated by reference to Exhibit 2.11 to our annual report on Form 10-K for the year ended December 31, 2004 filed on June 13, 2005)
2.4		Agreement and Plan of Merger among Protection One, Inc., Tara Acquisition Corp. and Integrated Alarm Services Group, Inc. dated as of December 20, 2006 (Incorporated by reference to Exhibit 2.1 on Form 8-K filed by Protection One Inc. on December 21, 2006 (SEC File No. 1-2181))
3.1	(1)	Certificate of Incorporation of registrant
3.1(a)	(1)	Certificate of Amendment to the Certificate of Incorporation
3.2	(1)	Amendment to Certificate of Incorporation of registrant
3.3(a)	(1)	Amended and Restated By-Laws of registrant
4.1	(3)	Indenture dated as of November 16, 2004 among Registrant, Additional Registrants and the Trustee relating to the 12% Senior Secured Notes due 2011
4.2	(3)	Registration Rights Agreement among Additional Registrants, Registrant and certain Initial Purchasers named therein, dated as of November 16, 2004
4.3	(3)	Security Agreement among LaSalle National Bank Association, Registrant and certain Additional Registrants dated as of November 16, 2004 (without schedules or exhibits)
4.4	(3)	Security Agreement among the Trustee, Registrant and the Additional Registrants dated as of November 16, 2004 (without schedules or exhibits)

53

Exhibit No.

4.5	(3)	Intercreditor Agreement among the Trustee, LaSalle National Bank Association and Registrant, dated as of November 16, 2004
4.6	(3)	Form of Senior Secured Note due 2011
4.7	(3)	Pledge Agreement by and among the Registrant, Madison Protection Inc. and LaSalle Bank National Association, dated November 16, 2004 (without schedule).
4.8	(3)	Pledge Agreement by and among the Registrant, Madison Protection Inc. and Wells Fargo Bank, N.A., dated November 16, 2004 (without schedule)
10.1**	(1)	2003 Stock Option Plan
10.2**	(1)	Amended and Restated Employment Agreement by and between the registrant and Timothy M. McGinn
10.3**	(1)	Employment Agreement by and between the registrant and Thomas J. Few, Sr.
10.4**		Amended and Restated Employment Agreement by and between registrant and Michael T. Moscinski (incorporated by reference to Exhibit of the same number to the Current Report on Form 8-K filed by IASG dated as of November 27, 2006)
10.5**		Employment Agreement by and between the registrant and Brian E. Shea (incorporated by reference to Exhibit 10.3 to the Current Report on Form 8-K filed by IASG dated as of November 27, 2006)
10.6**		Employment Agreement by and between the registrant and Robert B. Heintz (incorporated by reference to Exhibit 10.2 to the Current Report on Form 8-K filed by IASG dated as of November 27, 2006)
10.7**		Employment Agreement by and between the registrant and Bruce E. Quay (incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K filed by IASG dated as of November 27, 2006)
10.8	(1)	Lease Agreement between the registrant and Pine Street Associates, LLC for the Albany, New York Office space
10.9		Lease Agreement between the registrant and National Electronic Alloys Inc. for the Oakland, New Jersey Office space
10.10		Lease Agreement between the registrant and CRP-2 Holdings Cypress, LLC for the California Monitoring Facility
10.11**		Transitional Service Agreement dated December 20, 2006 between the company and Charles T. May (incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K filed by IASG dated as of December 20, 2006)
10.12**		Transitional Service Agreement dated December 29, 2006 between the company and Michael T. Moscinski (incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K filed by IASG dated as of December 29, 2006)
10.13 to 10.17		Not Used
10.18	(1)	Installing company Monitoring Receivable Financing Agreement by and between the registrant and M&S Partners
10.19	(1)	Receivable Financing Purchase Agreement between McGinn, Smith Acceptance Corp., Pointe Bank, and King Trust 01
10.20**	(1)	Form of Indemnification Agreement between registrant and member of the Board of Directors
10.21 to 10.22		Not Used
10.23**		2004 Stock Incentive Plan (incorporated by reference to Appendix A to the Definitive Proxy Statement filed by IASG dated April 29, 2004)
10.24	(3)	Mortgage in favor of LaSalle National Bank Association dated as of November 16, 2004
10.25	(3)	Second Mortgage in favor of Trustee dated as of November 16, 2004

54

Exhibit No.

10.26	(3)	Revolving Credit Facility Credit Agreement by and among Integrated Alarms Services Group, Inc., Criticom International Corporation, Monital Signal Corporation, Integrated Alarm Services, Inc., Payne Security Group, LLC, American Home Security, Inc. and the Guarantors Party Hereto and The Banks Party Hereto and LaSalle Bank National Association, as Agent dated November 16, 2004
11.1		Statement of computation of earning per share
14		Code of Ethics
21		List of Subsidiaries
31		Rule 13a-14 (a)/15d-14(a) Certifications
32(a)		Certification by the Chief Executive Officer relating to a periodic report containing financial statements
32(b)		Certification by the Chief Financial Officer relating to a periodic report containing financial statements

(1) Incorporated by reference to Exhibit of same number to the Registration Statement on Form S-1 (Registration Number 333-101159)

(2)  Incorporated by reference to Exhibit of the same number to our annual report filed on Form 10-K for the year ended

December 31, 2003 filed on March 30, 2004

(3)   Incorporated by reference to Exhibit of the same number to our annual report or Form 10-K for the year ended December 31, 2004 filed on June 13, 2005

**Constitutes a management contract or compensatory plan or arrangement required to be filed or incorporated by reference as an Exhibit to this report pursuant to item 15(c) of Form 10-K

55

INTEGRATED ALARM SERVICES GROUP, INC.

INDEX

	Page (s)
Report of Independent Registered Public Accounting Firm	F-2
Financial Statements
Balance sheets	F-3
Statements of operations	F-4
Statements of stockholders’ equity	F-5
Statements of cash flows	F-6
Notes to financial statements	F-7

Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of

Integrated Alarm Services Group, Inc.:

We have completed integrated audits of Integrated Alarm Services Group, Inc.’s consolidated financial statements and of its internal control over financial reporting as of December 31, 2006, in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below.

Consolidated financial statements

In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) present fairly, in all material respects, the financial position of Integrated Alarm Services Group, Inc. and its subsidiariesat December 31, 2006 and 2005, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2006in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

As discussed in Note 7 to the consolidated financial statements, the Company changed the manner in which it accounts for share-based compensation in 2006.

Internal control over financial reporting

Also, in our opinion, management's assessment, included in Management’s Annual Report on Internal Control over Financial Reporting appearing under Item 9A, that Integrated Alarm Services Group, Inc. maintained effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated, in all material respects, based on those criteria. Furthermore, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006, based on the criteria established in Internal Control-Integrated Framework issued by COSO. The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express opinions on management's assessment and on the effectiveness of the Company's internal control over financial reporting based on our audit. We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

PricewaterhouseCoopers LLP

Albany, New York

March 16, 2007

F-2

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

	As of December 31,
	2005			2006
	(in thousands, except for share data)
Assets
Current assets:
Cash and cash equivalents	$	16,239		$	13,664
Current portion of notes receivable		6,108			4,154
Accounts receivable less allowance for doubtful
accounts of $847 in 2005 and $483 in 2006		5,158			5,673
Inventories		1,477			1,378
Prepaid expenses		1,084			1,533
Due from related parties		87			159
Total current assets		30,153			26,561
Property and equipment, net		7,843			8,094
Notes receivable net of current portion and allowance
for doubtful accounts of $246 in 2005 and $302 in 2006		10,085			6,333
Dealer relationships, net		33,000			28,475
Customer contracts, net		80,532			70,003
Deferred customer acquisition costs, net		7,874			8,314
Goodwill		94,919			26,233
Debt issuance costs, net		4,596			3,630
Assets of business transferred		-			7,687
Other identifiable intangibles, net		2,790			2,154
Restricted cash		758			1,063
Other assets		524			169
Total assets	$	273,074		$	188,716
Liabilities and Stockholders' Equity
Current liabilities:
Current portion of capital lease obligations	$	350		$	321
Accounts payable		2,306			1,190
Accrued expenses		9,256			9,223
Current portion of deferred revenue		7,693			6,399
Current portion of deferred revenue - bundled arrangments		1,031			1,200
Other liabilities		390			593
Due to related parties		61			110
Total current liabilities		21,087			19,036
Long-term debt		125,000			125,000
Capital lease obligations, net of current portion		461			515
Deferred revenue, net of current portion		84			37
Deferred revenue - bundled arrangments, net of current portion		4,746			5,312
Liabilities of business transferred		-			1,043
Advance payment		-			762
Deferred income taxes		1,582			426
Total liabilities		152,960			152,131
Commitments and Contingencies (note 10)
Stockholders' equity:
Preferred stock, $0.001 par value, authorized
3,000,000 shares, none issued and outstanding		-			-
Common stock, $0.001 par value, authorized
100,000,000 shares, 24,681,462 shares issued		25			25
Paid-in capital		207,162			207,548
Accumulated deficit		(86,073	)		(169,988	)
Treasury stock - common, at cost, 312,626 shares
in 2005 and 2006		(1,000	)		(1,000	)
Total stockholders' equity		120,114			36,585
Total liabilities and stockholders' equity	$	273,074		$	188,716

The accompanying notes are an integral part of the consolidated financial statements.

F-3

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

	Years ended December 31,
	2004			2005			2006
	(in thousands, except share and per share data)
Revenue:
Monitoring fees	$	24,103		$	31,441		$	31,854
Revenue from customer accounts		50,759			56,843			52,096
Related party monitoring fees		171			122			100
Service, installation and other revenue		5,336			10,828			10,314
Total revenue		80,369			99,234			94,364
Expenses:
Cost of revenue (excluding depreciation
and amortization)		32,748			43,381			38,165
Selling and marketing		4,357			4,977			5,298
Depreciation and amortization		23,013			28,572			27,166
(Gain) loss on sale or disposal of assets		(184	)		1,032			(124	)
Loss on business transferred		-			-			1,013
General and administrative		22,562			29,790			29,975
Impairment of goodwill		-			-			65,000
Total expenses		82,496			107,752			166,493
Income (loss) from operations		(2,127	)		(8,518	)		(72,129	)
Other income (expense):
Other expense, net		11			-			-
Amortization of debt issuance costs		(1,750	)		(1,080	)		(973	)
Interest expense		(8,886	)		(17,009	)		(16,244	)
Interest income		1,453			4,838			4,418
Income (loss) before income taxes		(11,299	)		(21,769	)		(84,928	)
Income tax expense (benefit)		418			563			(1,013	)
Net income (loss)	$	(11,717	)	$	(22,332	)	$	(83,915	)
Basic and diluted income (loss) per share	$	(0.47	)	$	(0.91	)	$	(3.44	)
Weighted average number of common shares outstanding		24,667,960			24,662,198			24,368,836

The accompanying notes are an integral part of the consolidated financial statements.

F-4

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

	Common Stock				Common Stock				Paid-in		Accumulated		Treasury Stock					Total Stockholders'
		Shares		Amount		Subscribed			Capital		Deficit		Shares		Amount			Equity
		(in thousands, except for share data)
Balance, December 31, 2003		24,607,731	$	25	$	315		$	205,087	$	(52,024	)	-	$	-		$	153,403
Net income (loss)		-		-		-			-		(11,717	)	-		-			(11,717	)
Issuance of contingent shares for Criticom
purchase		34,091		-		(315	)		315		-		-		-			-
Conversion of debt to stock		39,640		-		-			275		-		-		-			275
Issuance of stock options to consultant		-		-		-			13		-		-		-			13
Imputed interest expense associated with
conversion feature of debt		-		-		-			876		-				-			876
Balance, December 31, 2004		24,681,462		25		-			206,566		(63,741	)	-		-			142,850
Net income (loss)		-		-		-			-		(22,332	)	-		-			(22,332	)
Issuance of shareholder options		-		-		-			27		-		-		-			27
Puchase of treasury stock		-		-		-			-		-		312,626		(1,000	)		(1,000	)
Imputed interest expense associated with
conversion feature of debt		-		-		-			569		-		-		-			569
Balance, December 31, 2005		24,681,462		25		-			207,162		(86,073	)	312,626		(1,000	)		120,114
Net income (loss)		-		-		-			-		(83,915	)						(83,915	)
Stock-based compensation		-		-		-			386									386
Balance, December 31, 2006		24,681,462	$	25	$	-		$	207,548	$	(169,988	)	312,626	$	(1,000	)	$	36,585

The accompanying notes are an integral part of the consolidated financial statements.

F-5

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

	Years ended December 31,
		2004			2005			2006
	(in thousands)
Cash flows from operating activities:
Net income (loss)	$	(11,717	)	$	(22,332	)	$	(83,915	)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization		23,013			28,572			27,166
Amortization of deferred customer acquisition costs , net		197			589			784
Amortization of debt issuance costs		1,750			1,080			973
Interest expense - non-cash, notes		876			569			-
Stock options issued to consultant		13			-			-
Stock-based compensation		-			-			386
Provision for bad debts		1,390			1,191			393
Deferred income taxes		353			470			(1,156	)
Earned discount on notes receivable		(151	)		(1,350	)		(924	)
Loss on business transferred		-			-			1,013
(Gain) loss on sale of customer contracts and accounts receivable		-			132			(50	)
(Gain) loss on sale or disposal of assets		(135	)		900			(68	)
Gain on settlement of notes receivable		(49	)		-			-
Goodwill impairment		-			-			65,000
Changes in assets and liabilities, net of effects of
acquisitions and non-cash transactions:
Accounts receivable		(1,158	)		171			(899	)
Inventories		(57	)		(243	)		49
Prepaid expenses		465			44			(449	)
Other assets		(193	)		(254	)		211
Deferred customer acquistion costs		(6,351	)		(3,631	)		(2,767	)
Due from/to related parties		12			41			(23	)
Accounts payable and accrued expenses		2,252			1,098			(804	)
Deferred revenue		(1,006	)		(1,404	)		(1,024	)
Deferred revenue-bundled arrangements		4,997			2,226			2,268
Other liabilities		(352	)		230			203
Net cash provided by operating activities		14,149			8,099			6,367
Cash flows from investing activities:
Purchase of property and equipment		(3,150	)		(2,873	)		(2,704	)
Proceeds from sale of property and equipment		177			57			84
Purchase of customer contracts and dealer relationships		(14,713	)		(13,635	)		(13,303	)
Proceeds from sale of customer contracts and accounts receivable		4,596			473			370
Financing of dealer loans		(4,670	)		(6,016	)		(6,996	)
Repayment of dealer loans		5,559			29,580			13,889
Decrease (increase) in restricted cash		343			(1	)		(305	)
Proceeds from net assets of business transferred		-			-			385
Reimbursement of attrition guarantee withhold related to PSI acquisition		-			(1,427	)		-
Business acquisitions, net of cash acquired		(64,908	)		(22,506	)		(33	)
Net cash used in investing activities		(76,766	)		(16,348	)		(8,613	)
Cash flows from financing activities:
Proceeds of borrowing on line of credit		-			3,000			-
Proceeds of long-term debt		125,000			-			-
Proceeds of borrowing from related party		-			2,500			-
Repayment of borrowing on line of credit		-			(3,000	)		-
Repayment of long-term debt		(60,242	)		(5,225	)		-
Repayment of borrowing from related party		-			(2,500	)		-
Payments of obligations under capital leases		(718	)		(488	)		(329	)
Debt issuance costs		(5,304	)		(354	)		-
Purchase of treasury stock		-			(1,000	)		-
Net cash provided by (used in) financing activities		58,736			(7,067	)		(329	)
Net increase (decrease) in cash and cash equivalents for the year		(3,881	)		(15,316	)		(2,575	)
Cash and cash equivalents at beginning of year		35,436			31,555			16,239
Cash and cash equivalents at end of year	$	31,555		$	16,239		$	13,664
Supplemental disclosure of cash flow information:
Interest paid	$	5,486		$	15,991		$	16,492
Income taxes paid	$	417		$	12		$	145
Supplemental disclosure of non-cash items:
Net assets of business transferred	$	-		$	-		$	6,267
Debt converted to common stock	$	275		$	-		$	-
Notes receivable converted to customer contracts	$	2,441		$	3,511		$	725
Equipment financed under capital lease obligations	$	868		$	264		$	519

The accompanying notes are an integral part of the consolidated financial statements.

F-6

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.Description of Business

Integrated Alarm Services Group, Inc. and Subsidiaries (“IASG” or the “Company”) is the successor to KC Acquisition Corporation (“KC Acquisition”). In January 2003, KC Acquisition was re-incorporated by merging into IASG (Note 11). IASG provides alarm-monitoring services to independent alarm dealers and other telemetry customers on a contract basis. IASG operates three Underwriters Laboratories listed call centers that provide alarm receiving, processing, notification and related services for the monitoring of various types of alarm systems. In addition to its call centers, IASG maintains three regional dealer care locations designed to provide customized services to independent alarm dealers. Alarm monitoring services for subscribers of independent alarm dealers are outsourced to IASG. Subscribers contract with alarm dealers for services like alarm installation, maintenance and monitoring. The Company also performs installations and provides maintenance services to some of its customers.

Morlyn Financial Group (“Morlyn”), a limited liability company, was formed in May 2000 to assist independent alarm dealers in selling their retail portfolios to Integrated Alarm Services, Inc. (“IASI”), a related party of Morlyn. Morlyn provides due diligence and other related services for IASI and also earns fees from independent alarm dealers by providing billing services. In January 2003, Morlyn (formerly under common ownership) was acquired by IASG and became a wholly owned subsidiary.

Criticom-IDC (“Criticom”) is a wholly owned subsidiary of IASG. Criticom provides alarm-monitoring services to independent alarm dealers and other telemetry customers as well as Global Positioning Systems (“GPS”) technology that customers use to track various types of moveable assets. Criticom operates two Underwriters Laboratories listed call centers that provide alarm receiving, processing, notification and related services for the monitoring of various types of alarm systems.

Integrated Alarm Services, Inc. which was acquired on January 31, 2003 provides financing and capital to independent security alarm dealers throughout the United States. IASI provides working capital to the independent dealers necessary for the growth of the dealers’ business and financing for acquisitions. IASI has built a vertically integrated infrastructure, capable of handling all aspects of financing for independent alarm dealers including due diligence, billing and collections and the securitizing of alarm contracts assumed upon the foreclosure of loans to dealers for which it provides monitoring services (through IASG and other non-affiliated entities) to its customers.

Madison Security, Inc. (“Lane”) was acquired in December 2003. Its primary operating entity, Protection Service Industries, L.P. (“PSI”), installs, services and monitors commercial and residential alarm systems in Arizona, California and New Mexico.

2. Summary of Significant Accounting Policies

Principles of consolidated financial statements

The consolidated financial statements include the accounts of IASG and its subsidiaries from the date of their acquisition. All inter-company balances and transactions have been eliminated.

Use of estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Comprehensive income

No statement of comprehensive income has been included in the accompanying financial statements since the Company does not have any other comprehensive income to report.

Revenue recognition

IASI provides monitoring services to customers under contracts (including contracts acquired from dealers, other third parties or in business acquisitions or under foreclosure) with typical initial terms ranging from one to five years in duration. Such contracts are cancelable with a typical notice sixty days prior to the contract expiration date and contain no upfront fees or set up service. Most contracts automatically renew for a stated term if no customer action is taken. Revenue from customer contracts is recognized as services are provided over the related monitoring contract period when a written contract is in place and collection is probable. Services may be billed in advance on a monthly, quarterly or annual basis and amounts billed but not earned are recorded as deferred revenues. Revenues deferred are recognized on a straight line basis over the term of the service agreement as the alarm monitoring services are provided.

F-7

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

The Company provides monitoring and billing services for a monthly fee for the subscribers of independent alarm dealers. The majority of the contracts are annual and contain no upfront fees or setup service. Monitoring and billing revenue is recognized as the monitoring and billing services are provided. Deferred revenue represents amounts billed and or collected in advance of services being provided. Revenues deferred are recognized over the term of the service agreement as the alarm monitoring and billing services are provided. Certain owned customer contacts are being monitored by third party monitoring service providers. The Company recognizes revenue from these contracts as the monitoring service is being provided.

Revenue from sales of installed equipment without monitoring is recognized upon the completed installation of the equipment.

The Company sells bundled arrangements to its commercial and residential customers which consist of equipment, installation services and ongoing monitoring service generally under three to five year contracted terms. These bundled arrangements generally require an upfront payment and recurring monthly revenue (RMR) payments over the term of the contract. Amounts assigned to each component are based on the component’s objectively determined fair value. If fair value can not be determined for a sale involving multiple elements, upfront non-refundable deposits are deferred and recognized over the expected life of the customer relationship. The RMR is recognized monthly over the term of the contract.

Interest income from dealer notes receivable is recognized using the interest method. Accrual of interest income on notes receivable is suspended when a dealer is contractually delinquent for one hundred twenty days or more. The accrual is resumed when the dealer becomes contractually current, and past due interest income is recognized at that time. Generally, IASI forecloses on delinquent accounts and takes ownership of the related contracts which collateralize the notes. Refunds are granted only upon request from the customer when a payment is made on a closed account or a payment was processed where the funds were not payable to IASI.

Cash and cash equivalents

Cash and cash equivalents include cash, certificates of deposit, and money market funds with original maturities of three months or less at the time of purchase. The carrying amount of cash and cash equivalents approximates fair value.

The Company maintains cash and cash equivalents in accounts with financial institutions, which at times may be in excess of the amount insured by the Federal Deposit Insurance Corporation.

Restricted cash and cash equivalents

Cash and cash equivalents restricted under the terms of the Company's debt obligations and letters of credit are classified to correspond with the classification of the related obligations.

Notes receivable

IASI which was acquired on January 31, 2003, makes loans to dealers, which are collateralized by the dealers’ portfolio of customer monitoring contracts. Loans to dealers are carried at the lower of the principal amount outstanding or the net realizable value of the portfolio underlying the loan. Loans are generally considered nonperforming if they are 120 days in arrears of contractual terms. Interest income stops accruing on non-performing loans. Management periodically evaluates the loan portfolio to assess the collectibility of dealer notes and adequacy of the allowance for loan losses. Management reviews certain criteria in assessing the adequacy of the allowance for loan losses including IASI’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral and current economic conditions. Loan impairment is identified when a portfolio’s cash flow is materially below the minimum necessary to service the loan. In most cases, loans will be foreclosed and valued at the lower of cost (loan carrying value) or fair value of customer contracts using recent transaction prices and industry benchmarks. When a dealer becomes delinquent, the Company generally forecloses on and takes ownership of the portfolio of customer monitoring contracts resulting in an increase in customer contracts and a decrease in notes receivable.

F-8

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

The Company’s notes receivable consisted of the following at December 31:

	2005			2006
	(in thousands)
Performing loans	$	17,693		$	11,024
Non-performing loans		1,664			1,243
Total Loans		19,357			12,267
Less: Reserves		(246	)		(302	)
Purchase Discount		(2,918	)		(1,478	)
Net loans	$	16,193		$	10,487

At December 31, 2005 and 2006, we had non-performing loans aggregating approximately $1,664,000 and $1,243,000, respectively. During the year ended December 31, 2005, the Company negotiated the purchase of certain contracts from dealers resulting in a conversion of approximately $3,511,000 of notes to customer contracts. Additionally during 2005, a dealer repaid a note of approximately $17,890,000 prior to its maturity date. The collateral supported the carrying value and therefore no impairment charge was recorded. Currently the cash flows from the underlying collateral support the carrying value of the loans. However, if the cash flow from the underlying collateral deteriorates, it may result in a future charge to earnings.

As part of the acquisitions of Financial Security Services, Inc. (“FSS”) in 2005, the Company agreed to assume FSS’s obligations to provide open lines of credit to Dealers, subject to the terms of the agreements with the Dealers. At December 31, 2005 and 2006, amounts available to Dealers under these lines of credit were $6.2 million and $5.0 million, respectively. The Company intends to fund these commitments with available funds and available capacity under the $30.0 million LaSalle Credit Facility.

The purchase discount resulted from the acquisitions of Financial Security Services (Note 11). Purchase discount on acquired notes that are prepaid within the first year of acquisition is offset to goodwill

Allowance for doubtful accounts—Notes Receivable

Changes in the allowance for doubtful accounts were as follows:

	2004		2005		2006
	(in thousands)
January 1,	$	131	$	246	$	246
Provisions		115		-		56
December 31,	$	246	$	246	$	302

F-9

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

Contractual maturities of notes receivable as of December 31, 2006 are as follows:

	(in thousands)
2007	$	4,154
2008		3,205
2009		2,238
2010		1,613
2011		232
2012 and thereafter		825
	$	12,267

At December 31, 2006 notes receivable from dealers was collateralized by customer monitoring contracts with recurring monthly revenue of approximately $818,000. Interest income on notes receivable was approximately $682,000, $2,897,000 and $2,828,000 for the years ended December 31, 2004, 2005 and 2006, respectively, and is included in interest income in the statement of operations. Also included in interest income in 2004, 2005 and 2006 were approximately $151,000, $1,350,000 and $924,000, respectively, which represented the amortization of the discount on notes receivable.

Deferred revenue-notes receivable

Deferred revenue on notes receivable represents amounts paid by the dealers for services the Company will render in the future. In connection with the loans to dealers, the Company withholds a portion of the amount loaned to cover services for the remaining term of the contract. The deferred fees are recognized as revenues as the billing and collection services are provided to the dealers. Amounts withheld are nonrefundable. Amounts recognized as revenue in 2004, 2005 and 2006 were approximately $108,000, $92,000 and $101,000 respectively.

Accounts receivable and allowance for doubtful accounts

Accounts receivable are recorded at the invoiced amount and do not bear interest. Credit is extended based upon an evaluation of the customer’s financial condition and history. The allowance for doubtful accounts is the Company’s best estimate of the amount of probable credit losses in its existing accounts receivable. The Company reviews its allowance for doubtful accounts monthly. Customer accounts including accounts with balances over 90 days from the invoice date are reserved based upon historical trends. Account balances are charged-off against the allowance when the Company believes it is probable the receivable will not be recovered. The Company does not have any off-balance-sheet credit exposure related to its customers.

Changes in the allowance for doubtful accounts were as follows:

	(in thousands)
January 1, 2004	$	750
Provisions		1,275
Write-offs		(2,070	)
Recoveries		1,031
December 31, 2004		986
Provisions		1,191
Write-offs		(2,916	)
Recoveries		1,586
December 31, 2005		847
Provisions		337
Write-offs		(1,148	)
Recoveries		447
December 31, 2006	$	483

F-10

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

Inventories

Inventories are stated at the lower of cost or market. Inventories include commercial and residential alarm system components, parts and supplies. Cost is determined using the first-in, first-out method. Provision for potentially obsolete or slow moving inventory is made based on analysis of inventory levels and forecasts.

Changes in the allowance for obsolescence for inventories were as follows:

	(in thousands)
Balance at January 1, 2004	$	-
Reserve recorded		401
Balance at December 31, 2004		401
Write-offs		(260	)
Reserve recorded		5
Balance at December 31, 2005		146
Write-offs		(20	)
Balance at December 31, 2006	$	126

Deferred customer acquisition costs, net

The direct incremental costs associated with obtaining a new customer including the installation of the monitoring systems, to the extent of deferred revenue (upfront non-refundable deposits), are capitalized and amortized over the expected life of the customer relationship. Excess direct incremental costs over deferred revenue (upfront non-refundable deposits) are being amortized over the term of the contract.

Customer contracts

Customer monitoring contracts are acquired from the dealers’ pre-existing portfolios of contracts or assumed upon the foreclosure on dealers’ loans. These acquired customer contracts are recorded at cost which management believes approximates fair value. Customer contracts assumed as a result of foreclosure on dealer loans are recorded at the lower of cost (loan carrying value) or the fair value of customer contracts using recent transaction prices and industry benchmarks at the time of foreclosure.

Customer contracts are amortized over the term that such contracts are expected to remain a customer of the Company. The Company on an ongoing basis conducts comprehensive reviews of its attrition experience and adjusts its estimated lives of customer contracts. As a result of the Company’s comprehensive review, no adjustment to estimated lives was required.

The Company’s amortization methods below consider the average estimated life and historical and projected attrition rates determined from actual experience and consists of the following portfolios:

Acquired as a result of the IASI merger:

Existing at January 31, 2003	Accelerated method	Period
Existing portfolio accounts (bulk)	150% Declining balance	8 years
Dealer acquired new accounts (flow)	160% Declining balance	8 years
Contracts assumed from dealers	160% Declining balance	4 years

Acquired subsequent to the IASI merger:

Acquired after January 31, 2003	Accelerated method	Period
Existing portfolio accounts (bulk)	Straight-line plus attrition	18 years
Dealer acquired new accounts (flow)	200% Declining balance	12 years
Contracts assumed from dealers	200% Declining balance	8 years

F-11

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

Debt issuance costs

Debt issuance costs represent direct costs incurred in connection with obtaining financing with related parties and banks and other lenders. Debt issuance costs are being amortized over the term of the related obligations using the effective interest method.

Other identifiable intangibles

Other identifiable intangibles, which include trade names and partnering (marketing) relationships and non-compete agreements, are being amortized over their estimated lives of 5 to 10 years.

Property and equipment

Property and equipment are reported at cost less accumulated depreciation. Repairs and maintenance are charged to expense as incurred. Renewals and betterments are capitalized. When assets are sold, retired or otherwise disposed of, the related costs and accumulated depreciation are removed from the respective accounts, and any resulting gain or loss is recognized.

Property and equipment are depreciated using the straight-line method over the following estimated useful lives:

Furniture, leaseholds and equipment	3-10 years
Vehicles	3-5 years
Building and building improvements	10-39 years
Computer software	3-5 years

Leasehold improvements are being amortized over the shorter of the estimated useful life of the asset or lease term. Equipment under capital lease is being amortized over the lease term.

Dealer relationships

Alarm monitoring services for subscribers of independent alarm dealers are outsourced to the Company. The Company acquires such dealer relationships from other monitoring companies. The Company amortizes the cost of dealer relationships using declining balance accelerated methods. The Company primarily utilizes the 150% declining balance method over 15 years.

Goodwill

The Company accounts for its goodwill under Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets.” Under SFAS No. 142, goodwill is not amortized, but it is tested for impairment at least annually. Each year the Company tests for impairment of goodwill according to a two-step approach. In the first step, the Company tests for impairment of goodwill by estimating the fair values of its reporting units using the present value of future cash flows approach, subject to a comparison for reasonableness to its market capitalization at the date of valuation. If the carrying amount exceeds the fair value, the second step of the goodwill impairment test is performed to measure the amount of the impairment loss, if any. In the second step the implied fair value of the goodwill is estimated as the fair value of the reporting unit used in the first step less the fair values of all other net tangible and intangible assets of the reporting unit. If the carrying amount of the goodwill exceeds its implied fair market value, an impairment loss is recognized in an amount equal to that excess, not to exceed the carrying amount of the goodwill. In addition, goodwill of a reporting unit is tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. The Company performs its annual impairment test in the third quarter of each year and previously has not been required to record an impairment charge. During the second quarter of 2004 and continuing through the third quarter of 2006, the common stock of the Company traded below its book value. During the third quarter of 2006, the Company’s Residential and Commercial segments continued to incur operating losses and failed to achieve their respective nine months operating plan. As a result, the Company revised its future operating forecasts and determined that goodwill was impaired at September 30, 2006. A non-cash goodwill impairment charge of $65,000,000 has been recorded in the third quarter of 2006. The impairment reduces the goodwill associated with the Residential segment by $47,430,000 and the Commercial segment by $17,570,000.Our goodwill balance at December 31, 2006 is approximately $26,233,000.

F-12

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

Accrued Expenses

Accrued expenses consist of the following:

	December 31,
	2005		2006
	(in thousands)
Compensation & employee benefits	$	2,082	$	1,854
Interest		2,326		2,078
Litigation reserves		685		188
Facility closures		697		401
Vendor accruals and sales tax		1,597		2,853
Other		1,869		1,849
	$	9,256	$	9,223

In 2005, the Company closed three dealer care centers, along with a monitoring center in order to streamline operations. These costs are accounted for in accordance with Statement of Financial Accounting Standards No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” (“FAS 146”), whereby the liability is recognized when the exit costs are incurred. During 2005 and 2006, the Company recorded charges relating to the location closures in the amount of approximately $1,312,000 and ($8,000), respectively. The equipment of the locations that were closed were either transferred to other locations or adjusted to the estimated net realizable value, resulting in a non-cash write-down of approximately $373,000 charged to loss on sale or disposal of assets during 2005. Lease commitments, severance and benefits of approximately $860,000 were charged to cost of revenue during 2005. The remaining severance costs of approximately $79,000 were charged to general and administrative expense in 2005. Lease commitments represent the present value of the remaining lease obligation, net of any estimated sublease rentals in accordance with FAS 146.

The following table provides additional details regarding the costs:

	Write-down of Equipment			Severance and Benefits			Lease Commitments			Total
	(in thousands)
Reserve for closing and related costs	$	373		$	283		$	656		$	1,312
Write-down of equipment		(373	)		-			-			(373	)
Payments		-			(186	)		(56	)		(242	)
Balance at December 31, 2005		-			97			600			697
Payments		-			(97	)		(191	)		(288	)
Adjustment to reserve		-			-			(8	)		(8	)
Balance at December 31, 2006	$	-		$	-		$	401		$	401

Stock based compensation

Prior to January 1, 2006, we accounted for activity under the employee stock plans using the intrinsic value method prescribed by Accounting Principles Board Opinion (“APB”) No. 25, Accounting for Stock Issued to Employees, and had adopted the disclosure-only provisions of SFAS No. 123, Accounting for Stock-Based Compensation as amended by SFAS No. 148, (Accounting for Stock-Based Compensation-Transition and Disclosure). Under APB No. 25, we generally recognized no compensation expense with respect to options granted to employees and directors as the option exercise price is generally equal to or greater than the fair value of the our common stock on the date of the grant. The value of stock options granted to non-employees were expensed.

F-13

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

Effective January 1, 2006, we adopted Statement of Financial Accounting Standard No. 123 (revised), Share-Based Payment (“FAS 123R”), an amendment of FAS No. 123, Accounting for Stock-Based Compensation. FAS 123R eliminates the ability to account for share-based payments using Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees and instead requires companies to recognize compensation expense using a fair-value based method for costs related to share-based payments including stock options and employee stock purchase plans. The expense will be measured as the fair value of the award at its grant date based on the estimated number of awards that are expected to vest, and recorded over the applicable service period. In the absence of an observable market price for a share-based award, the fair value would be based upon a valuation methodology that takes into consideration various factors, including the exercise price of the award, the expected term of the award, the current price of the underlying shares, the expected volatility of the underlying share price, the expected dividends on the underlying shares and the risk-free interest rate. The standard also provides for different transition methods for past award grants, including the retrospective adjustment of prior period results. We have elected to apply the modified prospective transition method to all past awards outstanding and unvested as of the effective date of January 1, 2006 and are recognizing the associated expense over the remaining vesting period based on the fair values previously determined and disclosed as part of our pro-forma disclosures. We will not retrospectively adjust the results of prior periods. Prior to the effective date of FAS 123R, we provided the pro-forma disclosures for past award grants as required under FAS 123. As such, we have recognized expense for unvested options during 2006 of approximately $386,000.

The Company used the Black-Scholes option-pricing model (“Black-Scholes”) as its method of valuation under FAS 123R in fiscal year 2006 and a single option award approach. This fair value is then amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period. Black-Scholes was previously used for our proforma information required under FAS 123 for periods prior to fiscal year 2006. The fair value of share-based payment awards on the date of grant as determined by the Black-Scholes model is affected by our stock price as well as other assumption, including, but not limited to the expected volatility over the term of the awards and risk-free interest rate.

The fair value of each option plan option grant was estimated at the date of grant using the Black-Scholes option valuation model with the following weighted average assumptions:

	2004			2005			2006
Risk-free interest rate		4.58	%		4.07	%		4.56	%
Volatility		29	%		63	%		63	%
Expected term (in years)		10			5			3
Dividend yield		0	%		0	%		0	%

Income taxes

For federal and state income tax purposes, IASG became a C corporation effective January 31, 2003 which results in recording current and deferred income taxes from its earnings and losses and recognizing the tax consequences of "temporary differences" between financial statement and tax basis of existing assets and liabilities.

Advertising costs

The Company's policy is to expense advertising costs in the period in which the expense is incurred. Advertising expense was approximately $167,000, $437,000 and $245,000 for the years ended December 31, 2004, 2005 and 2006, respectively.

Net income (loss) per share

The Company computes net income (loss) per common share in accordance with Statement of Financial Accounting Standards No. 128, "Earnings per Share" (SFAS 128) and SEC Staff Accounting Bulletin No. 98 (SAB 98). Under the provisions of SFAS 128 and SAB 98, basic and diluted net income (loss) per common share is computed by dividing the net income (loss) available to common stockholders for the period by the weighted average number of shares of common stock outstanding during the period. Because the Company is in a net loss position, there are no potentially dilutive securities outstanding. Accordingly, the number of weighted average shares outstanding as well as the amount of net income (loss) per share are the same for basic and diluted per share calculations for the periods reflected in the accompanying financial statements.

F-14

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

Risks and uncertainties

The Company operates in one industry and three segments. A principal element of the Company's business strategy is to acquire wholesale security system alarm monitoring businesses and related security alarm monitoring contracts or businesses. Acquisitions of monitoring call centers involve a number of special risks, including the possibility of unanticipated problems not discovered prior to the acquisition, account attrition (i.e. cancellation) and the diversion of management's attention from other business activities in order to focus on the assimilation of such acquisitions.

The Company is subject to operational and regulatory risk. Liabilities may arise due to system failures and false alarms. New technologies may cause existing technologies to become obsolete. Future government or other organizational regulations and standards could have an adverse effect on the Company's financial position, results of operations or cash flow.

Impairment or disposal of long-lived assets

SFAS No. 144 “Accounting for the Impairment or Disposal of Long Lived Assets” requires that long-lived assets be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of the assets to be held and used is measured by a comparison of the carrying amount of the assets with the future net cash flows expected to be generated. Cash flows of dealer relationships and retail customer contracts are analyzed at the same group level (acquisition by acquisition and portfolio grouping, respectively) that they are identified for amortization, the lowest level for which independent cash flows are identifiable. All other long-lived assets are evaluated for impairment at the Company level, using one asset grouping. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. The Company has identified no impairment losses for any of the periods presented.

Recent accounting pronouncements

In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities.” This statement permits entities to choose to measure many financial instruments and certain other items at fair value. The Company will be required to apply the guidance contained in FAS No. 159 beginning with financial statements for the year ended December 31, 2008 and has not yet determined the effect that adoption will have on the financial statements.

In September 2006, the SEC staff issued Staff Accounting Bulletin No. 108, “Considering the Effects of Prior year Misstatements when Quantifying Misstatements in Current year Financial Statements.” SAB 108 was issued in order to eliminate the diversity of practice surrounding how public companies quantify financial statement misstatements. The Company was required to apply the guidance contained in SAB 108 beginning with financial statements for the year ending December 31, 2006. The Company adopted SAB 108 during fiscal 2006 and it did not have any effect on our financial statements.

In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, “Fair Value Measurements.” This statement defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (GAAP) and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements. The Company will be required to apply the guidance contained in FAS No. 157 beginning with financial statements for the year ended December 31, 2008 and has not yet determined the effect that adoption will have on the financial statements.

In June 2006, the FASB issued Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes”, an interpretation of FASB Statement No. 109, which seeks to reduce the diversity in practice associated with the accounting and reporting for uncertainty in income tax provisions. This interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. FIN 48 is effective for fiscal years beginning after December 31, 2006 and the Company will adopt the new requirements in the first quarter of 2007. The Company is currently assessing the impact of FIN 48 but does not expect that the adoption of the standard will have any significant or material impact on its financial statements.

In March 2006, the FASB issued Statement of Financial Accounting Standards No. 156, “Accounting for Servicing of Financial Assets”, an amendment of FASB Statement No. 140 (“FAS No. 156”). This Standard amends FASB Statement No. 140, Accounting for Transfers and Servicing Assets and Extinguishment of Liabilities, with respect to the accounting for separately recognized servicing assets and servicing liabilities. This Standard requires an entity to recognize a servicing asset or servicing liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract when there is a related sale of financial assets, certain transfers, or assumption of an obligation to service a financial asset that does not relate to the financial assets of the servicer. We adopted this Statement on January 1, 2007 and it did not have any effect on our financial statements.

F-15

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

2. Summary of Significant Accounting Policies (cont.)

In February 2006, the FASB issued Statement of Financial Accounting Standards No. 155, “Accounting for Certain Hybrid Financial Instruments”, an amendment of FASB statements No. 133 and 140 (“FAS No. 155”). This Standard resolves and clarifies the accounting and reporting for certain financial instruments including, hybrid financial instruments with embedded derivatives, interest-only strips, and securitized financial instruments. FAS No. 155 is effective for all financial instruments acquired or issued after the beginning of an entity’s first fiscal year that begins after September 15, 2006. The Company will be required to adopt this Standard on January 1, 2007 and has not determined the effect that adopting FAS No. 155 will have on the financial statements.

3. Property and Equipment

 Property and equipment consist of the following at:

	December 31,
	2005			2006
	(in thousands)
Furniture, leaseholds and equipment	$	9,830		$	11,450
Vehicles		1,836			1,589
Building and building improvements		529			529
Computer software		2,011			2,960
Land		124			124
		14,330			16,652
Less accumulated depreciation and amortization		(6,487	)		(8,558	)
	$	7,843		$	8,094

Depreciation expense was approximately $2,768,000, $2,634,000 and $2,733,000 for the years ended December 31, 2004, 2005 and 2006, respectively.

Unamortized computer software costs totaled approximately, $1,344,000 and $1,806,000 respectively, at December 31, 2005 and 2006. Amortization expense related to computer software was approximately $348,000, $539,000 and $493,000 for the years ended December 31, 2004, 2005 and 2006, respectively. The cost basis of equipment under capital leases approximated $2,257,000 and $2,068,000 at December 31, 2005 and 2006, respectively. Accumulated amortization for equipment under capital lease approximated $1,400,000 and $1,104,000 at December 31, 2005 and 2006, respectively.

4. Debt Issuance Costs

Debt issuance costs consist of the following at:

	December 31,
	2005			2006
	(in thousands)
Debt issuance costs	$	6,161		$	6,161
Accumulated amortization		(1,565	)		(2,531	)
	$	4,596		$	3,630

Amortization expense of debt issuance costs for the years ended December 31, 2004, 2005 and 2006 was approximately $1,750,000, $1,080,000 and $973,000 respectively. Included in amortization expense for the year ended December 31, 2004 is approximately $674,000 of debt issuance costs charged to earnings due to the prepayment of certain debt from the proceeds of the issuance of $125,000,000 million of senior secured notes in November 2004.

F-16

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

5. Goodwill and Intangibles

During the years ended December 31, 2005 and 2006, goodwill balance change by approximately $3,484,000 and ($68,686,000) respectively (see Note 11) as a result of the following:

	(in thousands)
Balance at January 1, 2005	$	91,435
Acquisition of FSS		4,015
Unamortized discount recapture on early repayment of notes receivable		(1,541	)
AHS contingent consideration		482
Lane purchase accounting adjustments		(115	)
Other acquisitions adjustments and costs		643
Balance at December 31, 2005	$	94,919
Purchase price reallocation - prepaid loans		(282	)
Purchase price adjustment		(807	)
Goodwill of business transferred (Note 12)		(2,659	)
Impairment charge		(65,000	)
Direct acquisition costs		62
Balance at December 31, 2006	$	26,233

The amount of goodwill that is expected to be deductible for income tax purposes is approximately $22,200,000.

Customer contracts consists of the following:  

		Existing Portfolio			Dealer Acquired			Contracts assumed from Dealers		Total
	(in thousands)
Customer contracts January 1, 2005		$	75,385		$	26,401		$	8,059	$	109,845
Purchases 2005			14,706			3,636			-		18,342
Sales and reclassifications 2005			(1,307	)		-			-		(1,307	)
Customer contracts December 31, 2005			88,784			30,037			8,059		126,880
Purchases 2006			7,843			6,185			16		14,044
Sales and reclassifications 2006			(8,601	)		(164	)		-		(8,765	)
Customer contracts December 31, 2006			88,026			36,058			8,075		132,159
Accumulated amortization January 1, 2005			12,982			7,620			4,074		24,676
Amortization 2005			15,785			4,261			1,736		21,782
Sales and reclassifications 2005			(110	)		-			-		(110	)
Accumulated amortization December 31, 2005			28,657			11,881			5,810		46,348
Amortization 2006			13,662			4,603			1,112		19,377
Sales and reclassifications 2006			(3,528	)		(41	)		-		(3,569	)
Accumulated amortization December 31, 2006			38,791			16,443			6,922		62,156
Customer contracts, net December 31, 2005		$	60,127		$	18,156		$	2,249	$	80,532
Customer contracts, net December 31, 2006		$	49,235		$	19,615		$	1,153	$	70,003

Customer contract amortization expenses (including attrition and net of use of dealer holdbacks) for the years ended December 31, 2004, 2005 and 2006 were approximately $15,805,000, $20,675,000 and $19,272,000 respectively. Customer contracts with a cost of approximately $8,438,000 and accumulated amortization of $3,569,000 were sold during 2006 as a result of the sale of alarm contracts in Colorado, Idaho and Utah. This disposal of assets is more fully described in footnote 12.

F-17

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

5. Goodwill and Intangibles (cont.)

Dealer relationships consist of the following:

	(in thousands)
Dealer Relationship at January 1, 2005	$	55,390
2005 Additions		3,139
Dealer Relationship at December 31, 2005		58,529
2006 Additions		-
Dealer Relationship at December 31, 2006	$	58,529
Accumulated amortization at January 1, 2005	$	20,860
2005 Amortization		4,669
Accumulated amortization at December 31, 2005		25,529
2006 Amortization		4,525
Accumulated amortization at December 31, 2006	$	30,054
Dealer Relationship, net at December 31, 2005	$	33,000
Dealer Relationship, net at December 31, 2006	$	28,475

The 2005 dealer relationship addition is primarily due to the FSS acquisition (Note 11).

Dealer relationship amortization expense was approximately $4,016,000, $4,669,000 and $4,525,000 for 2004, 2005 and 2006, respectively.

Other identifiable intangibles consist of the following:

	December 31,
	2005			2006
	(in thousands)
Trade name	$	1,757		$	1,757
Partnering relationships		874			874
Non-compete agreements		1,209			1,209
Accumulated amortization		(1,050	)		(1,686	)
	$	2,790		$	2,154

Other identifiable intangible asset amortization expense was approximately $423,000, $594,000 and $636,000 for the years ended December 31, 2004, 2005 and 2006, respectively.

Estimated amortization expense of customer contracts, dealer relationships, other identifiable intangible assets and deferred customer acquisition costs for the years ending December 31, 2007 through 2011 is as follows:

Year	Customer Contracts		Dealer Relationships		Other Identifiable Intangible Assets		Deferred Installation Costs		Total
	(in thousands)
2007	$	8,844	$	4,060	$	615	$	1,977	$	15,496
2008		7,662		3,802		599		1,684		13,747
2009		6,883		3,542		554		1,328		12,307
2010		5,956		3,277		119		924		10,276
2011		4,870		2,988		89		715		8,662

F-18

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

5. Goodwill and Intangibles (cont.)

Customer contract amortization for existing portfolios acquired subsequent to January 31, 2003 is calculated using an 18 year straight-line

rate. No attrition has been recognized in the customer contract amortization projected for future years. The actual amortization expense in future periods will be higher due to the impact of attrition. Amortization expense related to attrition in 2004, 2005 and 2006 approximated $7,527,000, $10,615,000 and $9,528,000, respectively. The net unamortized cost of portfolios subject to variable amortization based upon attrition was approximately $55,919,000 and $46,391,000 as of December 31, 2005 and 2006.

6. Long-Term Debt

Long-term debt consists of the following at:

	December 31,
	2005		2006
	(in thousands)
$125,000,000 senior secured notes payable to investors maturing on November 15, 2011. Interest payments are made on May 15 and November 15 of each year, beginning on May 15, 2005. Fixed interest rate of 12%. The Notes and related guarantees are collateralized by a second priority lien on substantially all of our tangible and intangible property. The interest rate on the Notes has been increased by .25% per year for every 90 day period up to the maximum of 1.00% as the Notes are not registered with the SEC and as of December 31, 2006, the Notes have an interest rate of the maximum of 13%. When the Notes are registered with the SEC, the interest rate will revert back to the original rate of 12%. If reported retail attrition exceeds 18% for three succeeding quarters, the Note covenants require the Company to offer to purchase 10% of the Notes at par value.	$	125,000	$	125,000
Less: current portion of long-term debt		-		-
	$	125,000	$	125,000

In September 2002, one of the Company’s subsidiaries borrowed $5,500,000 from investors in a private offering. The promissory notes were convertible into IASG's common stock at seventy-five percent of the initial public offering price. During 2004, $275,000 of principal was converted into 39,640 shares of common stock. There were no conversions into shares of common stock during 2005. As a result of the initial public offering, the benefit of the conversion to the note holders was approximately $1,833,000, which was charged to earnings as interest expense, over the remaining life of the debt (twenty-six months at time of IPO). The expense (including changes for conversions) for the years ended December 31, 2004, 2005 and 2006 were approximately $876,000, $569,000 and $0, respectively. Upon conversion, any remaining unamortized benefit was charged to earnings. The notes matured during 2005.

On November 16, 2004, the Company entered into a $30.0 million senior secured credit facility with LaSalle Bank N.A. The facility will bear interest at a floating rate equal to the London Interbank Offered Rate (“LIBOR”) plus 3.5%. The facility is collateralized by a first priority perfected security interest in substantially all of our tangible and intangible property. Covenants include a minimum fixed charge coverage ratio of 2.0 times and a maximum senior secured debt to eligible recurring monthly revenue of 10.0 times. The Company did not have any outstanding balances owed under this facility as of December 31, 2006. At December 31, 2005, the Company was not in compliance with certain administrative covenants of the LaSalle Credit Facility. On March 14, 2006, LaSalle permanently waived the administrative covenants which the Company was not in compliance with through March 13, 2006, at which time the $30 million became available to the Company. 

F-19

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

7.Stockholders’ Equity

On August 16, 2005, 140,000 shares of Shareholder Options were issued at $9.25. The options are non-forfeitable and are exercisable as follows: (i) 30% will be immediately exercisable on the first anniversary of the issuance; (ii) 30% will be immediately exercisable on the second anniversary of the issuance; (iii) 40% will become immediately exercisable on the third anniversary of the issuance. These additional options were issued in connection with the terms of the American Home Securities, Inc (“AHS”) purchase agreement. The fair value of these shareholder options was approximately $27,000, as determined under the Black-Scholes option valuation model, has been charged to goodwill with a corresponding credit to paid-in capital.

During 2005, the Company’s Board of Directors approved an initial plan to repurchase up to $2.5 million of the Company’s common stock, the maximum permitted under the Senior Secured Note covenants. By December 31, 2005, the Company had purchased 312,626 shares of treasury stock at an aggregate cost of approximately $1.0 million. The repurchase plan was discontinued by the Board of Directors in 2006.

On April 16, 2006, an additional 225,000 shares of Shareholder Options were issued, 150,000 of which were issued at $5.25 and 75,000 at $4.25. The options are non-forfeitable and are exercisable as follows: (i) 150,000 shares were immediately exercisable on November 1, 2006; (ii) remaining 75,000 were immediately exercisable on December 1, 2006. These additional options were issued in connection with the change of senior management that occurred during the second quarter of 2006.

Stock-Based Compensation

The Company’s 2003 Stock Option Plan and 2004 Stock Option Plan, collectively (“SOP”) permit the grant of options which may

either be “incentive stock options” (“ISOs”) or “non-qualified stock options: (“NSOs”). The total number of shares of our common stock that may be issued under the SOP may not exceed 1,350,000, subject to possible adjustment in the future as described below. All employees, officers, directors, consultants and independent contractors of the Company, or of any parent, subsidiary or affiliate are eligible to be granted options.

The exercise price of an option granted under the SOP may not be less than 100% of the fair market value of the Company’s common stock on the date of grant (110% of such fair market value in the case of an ISO granted to an optionee who owns or is deemed to own stock possessing more than 10% of the combined voting power of all classes of our stock).

The number of shares of common stock authorized for issuance under the SOP may be adjusted in the event our shares of common stock are changed into, or exchanged for cash, or securities of another entity through a reorganization, merger, recapitalization, reclassification, stock split, stock dividend, stock consolidation or combination or other similar transaction.

In the event of the occurrence of any of the foregoing, the compensation committee may adjust the number of authorized shares under the SOP, and the options issued under the SOP, as appropriate under the circumstances.

Prior to January 1, 2006, the Company accounted for activity under the employee stock plans using the intrinsic value method prescribed by Accounting Principles Board Opinion (“APB”) No. 25, Accounting for Stock Issued to Employees, and had adopted the disclosure-only provisions of SFAS No. 123, Accounting for Stock-Based Compensation as amended by SFAS No. 148, (Accounting for Stock-Based Compensation-Transition and Disclosure).

Effective January 1, 2006, the Company adopted Statement of Financial Accounting Standard No. 123 (revised), Share-Based Payment (“FAS 123R”), an amendment of FAS No. 123 (“FAS 123”), Accounting for Stock-Based Compensation. FAS 123R eliminates the ability to account for share-based payments using Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. See Note 2.

F-20

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

7.Stockholders’ Equity (cont.)

The following table reflects the pro forma information of the Company for the years ended December 31, 2004 and 2005 as if the compensation cost had been determined in accordance with the fair value-based method prescribed by FAS 123. 

	Year ended December 31,
	2004			2005
	(in thousands, except per share data)
Net loss, as reported	$	(11,717	)	$	(22,332	)
Less: Stock-based compensation expense determined under fair value method for all awards, net of related tax effects.		(194	)		(174	)
Pro forma net loss	$	(11,911	)	$	(22,506	)
Net loss per share, as reported - basic and diluted	$	(0.47	)	$	(0.91	)
Pro forma net loss per share - basic and diluted	$	(0.48	)	$	(0.91	)

There were no options exercised during 2006.

The options disclosed in the table above had no aggregate intrinsic value associated with them at December 31, 2006. Total stock option compensation expense for the year ended December 31, 2006 was approximately $386,000. At December 31, 2006, unrecognized costs related to stock options totaled approximately $14,000 and are expected to be recognized over a weighted average period of .41 years.

Company stock options outstanding become exercisable as follows:

Period Ending	Option Plan Option Shares		Weighted Average Exercise Price		Shareholder Option Shares		Weighted Average Exercise Price
Currently exercisable		392,396	$	5.63		1,942,000	$	9.25
December 31, 2007		26,104		5.68		42,000		9.25
December 31, 2008		-		-		56,000		9.25
		418,500		5.63		2,040,000		9.25

Options exercisable at December 31, 2005 and 2006 were 1,275,500 and 2,334,396 respectively.

Changes in options outstanding are as follows: 

	Options			Weighted Average Exercise Price
Options outstanding at January 1, 2004		1,948,000		$	9.25
Options issued during 2004		150,000			5.75
Options forfeited during 2004		(11,834	)		5.75
Options outstanding at December 31, 2004		2,086,166			9.01
Options issued during 2005		182,500			8.27
Options forfeited during 2005		(10,250	)		5.75
Options outstanding at December 31, 2005		2,258,416			8.97
Options issued during 2006		225,000			4.92
Options forfeited during 2006		(24,916	)		5.70
Options outstanding at December 31, 2006		2,458,500			8.64

F-21

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

7.Stockholders’ Equity (cont.)

The weighted average estimated fair value of option plan option shares granted during the years ended December 31, 2004, 2005 and 2006 was $2.89, $2.32 and $1.77 per share, respectively.

For various price ranges, weighted average characteristics of outstanding stock options a December 31, 2006 were as follows:

				Options Outstanding					Options Exercisable
	Range of				Outstanding	Remaining		Weighted Average		Exercisable		Weighted Average
	Exercise Prices				at 12/31/06	Contractual Life		Exercise Price		at 12/31/06		Exercise Price
$	3.75	-	5.58		252,500	9.20	$	4.90		251,666	$	4.90
	5.59	-	7.42		118,000	7.47		5.75		92,730		5.75
	7.43	-	9.25		2,088,000	6.69		9.25		1,990,000		9.25
					2,458,500	6.99		8.64		2,334,396		8.64

8.Income Taxes

The components of the provision (benefit) for income taxes are as follows:

	For the Years Ended December 31,
	2004		2005		2006
	(in thousands)
Current expense
Federal	$	-	$	-	$	-
State		65		243		143
Total current expense		65		243		143
Deferred tax expense		353		320		(1,156	)
Income tax expense	$	418	$	563	$	(1,013	)

The significant components of deferred income tax (benefit) expense are as follows:

	For the Years Ended December 31,
	2004			2005			2006
	(in thousands)
Deferred tax (benefit) expense	$	(4,299	)	$	(5,127	)	$	(8,556	)
Net operating loss carryforward		56			(3,257	)		(5,172	)
Valuation allowance		4,596			8,704			12,572
Deferred income tax expense	$	353		$	320		$	(1,156	)

As part of the acquisition of FSS, a net deferred tax liability was recorded, all of which except the state portion of approximately $149,000 will be offset by existing deferred tax assets. The state deferred tax liability is related to states that tax in separate jurisdictions. The opening balance of approximately $149,000 was recorded to goodwill.

F-22

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

8. Income Taxes (cont.)

The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 2005 and 2006 are as follows:

	December 31,
	2005			2006
	(in thousands)
Current deferred tax assets (liabilities):
Allowance for bad debts	$	616		$	234
Accrued expenses and reserves		981			897
Current deferred tax assets		1,597			1,131
Valuation allowance		(1,597	)		(1,131	)
Net current deferred tax assets		-			-
Long term deferred tax assets (liabilities):
Charitable contributions carryforward		8			9
Customer contracts		32,676			35,678
Non-compete agreements		(52	)		146
Dealer relationships		(4,726	)		(3,454	)
Depreciation		(229	)		(617	)
Net operating loss carryforward		10,302			15,474
Other intangibles- tax goodwill		(200	)		4,737
Net long term deferred tax assets		37,779			51,973
Valuation allowance		(39,361	)		(52,399	)
Net deferred tax assets (liabilities)	$	(1,582	)	$	(426	)

The deferred tax liability of approximately $1,582,000 and $426,000 as of December 31, 2005 and 2006, respectively, represents the state deferred tax liability of IASG which cannot be offset by the state deferred tax asset of its subsidiaries due to the companies being subject to state taxes in different state tax jurisdictions and for 2005 only, deferred tax liabilities relating to tax goodwill basis differences associated with acquisitions.

The details of the deferred tax valuation allowance are as follows:

	(in thousands)
Balance at January 1, 2004	$	29,392
Valuation allowance established as a result of operations		4,596
Balance at December 31, 2004		33,988
Valuation allowance established as a result of operations		8,704
Reduction to allowance relating to acquisition deferred tax liabilities		(1,734	)
Balance at December 31, 2005		40,958
Valuation allowance established as a result of operations		12,572
Balance at December 31, 2006	$	53,530

F-23

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

8.Income Taxes (cont.)

The provision for income taxes differs from the amount computed by applying the federal statutory income tax rate of 34% as follows:

	December 31,
	2004		2005			2006
Pretax (loss) at statutory tax rate		(34.00)%		(34.00)%			(34.00)%
Effect of state taxes, net of federal benefit		0.38 %		0.74 %			0.11 %
Effect of net deferred state taxes, net of federal benefit		(0.34)%		(2.92)%	)		(1.33)%
Valuation allowance		40.67 %		39.98 %			14.80 %
Goodwill impairment		- %		- %			19.56 %
Effect of changes in state tax rates and tax return true-up		(11.33)%		(2.98)%			- %
Effect of permanent differences		8.26 %		1.90%			0.05 %
Other, net		0.06 %		(0.13)%			(0.38)%
Provision for income tax		3.70 %		2.59 %			(1.19)%

The goodwill impairment charge was allocated between non-deductible goodwill and the goodwill that is eligible for amortization for tax purposes over a fifteen year period and included in the detail of temporary differences. An amount of $16,200,000 was allocated to goodwill eligible for tax deductible amortization and the remaining amount of $48,800,000 was allocated to goodwill for which there is no tax deductible basis that gives rise to the above permanent difference.

December 31, 2006, the Company has approximately $50,852,000 of net operating loss carryforwards, which begin to expire in 2020. As the result of ownership changes caused by the IPO and related to the acquisition of Lane, approximately $23,565,000 of these net operating losses are subject to Internal Revenue Code (“IRC”) Section 382 limitations, which significantly limits the Company’s ability to utilize these net operating losses on an annual basis. As a result of IRC Section 382 limitations approximately $9,268,000 of the net operating loss can not be utilized.   Approximately $28,872,000 of these net operating losses are currently available and approximately $12,712,000 of the carryforwards, subject to certain limitations, will become available in future years.  Additionally, as a result of the acquisition of Lane, the Company acquired customer contracts that have a tax basis that is approximately $28,539,000 in excess of book basis. A portion of this excess tax basis is considered to be a built-in loss pursuant to IRC Section 382 and is also subject to an IRC Section 382 limitation, which significantly limits the Company’s ability to utilize the tax amortization deduction from these contracts on an annual basis. The Company reduced the gross carrying value of its deferred tax assets to reflect the amount that will not be utilized due to section 382 in the amount of approximately $4,009,000 and $3,427,000 in 2005 and 2006, respectively.

In assessing whether deferred tax assets are realizable, management considers whether or not it is more likely than not that some portion or all deferred tax assets will be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the projected future taxable income and tax planning strategies in making this assessment.

If the portion of the valuation allowance associated with the acquisitions is reversed in the future, the benefit of any reversal would (a) first be applied to reduce to zero any goodwill related to the acquisitions (b) second to reduce to zero other non-current intangible assets related to the acquisitions and (c) third to reduce income tax expenses.

F-24

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

9. Loss Per Common Share

Loss per common share is as follows:

	December 31,
	2004			2005			2006
	(in thousands, except per share data)
Numerator:
Net income (loss)	$	(11,717	)	$	(22,332	)	$	(83,915	)
Denominator:
Weighted average shares outstanding		24,667,960			24,662,198			24,368,836
Basic and diluted income (loss) per share	$	(0.47	)	$	(0.91	)	$	(3.44	)

The shares represented by options and convertible promissory notes below have not been included as common stock equivalents, as they would be anti-dilutive.

	As of December 31,
	2004		Weighted Average Option Price		2005		Weighted Average Option Price		2006		Weighted Average Option Price
Stock options and convertible promissory notes outstanding are as follows:
Convertible promissory notes		753,153	$	6.94		-	$	-		-	$	-
Stock option plans		186,166		6.65		218,416		6.37		418,500		5.63
Shareholder options		1,900,000		9.25		2,040,000		9.25		2,040,000		9.25
Total		2,839,319				2,258,416				2,458,500

10. Commitments and Contingencies

Leases

The Company is obligated under operating leases for facility, property and equipment expiring at various dates through 2011. Rent expense amounted to approximately $1,601,000, $2,043,000 and $2,009,000 for the years ended December 31, 2004, 2005 and 2006, respectively.

In addition, the Company leases vehicles, telephone systems and computer equipment under capital leases.  

Minimum future annual rental commitments under non-cancelable capital and operating leases at December 31, 2006 are as follows:

Year	Capital		Operating
	(in thousands)
2007	$	385	$	1,573
2008		289		1,027
2009		199		661
2010		130		359
2011 and thereafter		23		720
Total minimum lease payments		1,026	$	4,340
Less: amounts representing interest		190
Present value of minimum lease payments		836
Less: current portion		321
Long-term portion	$	515

F-25

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

10. Commitments and Contingencies (cont.)

In April 2003, the Company entered into a three-year contract with a committed two-year term with AT&T, Inc. for communications services. The minimum annual commitments and billing rates were renegotiated effective November 11, 2004. The terms of the agreement require the Company to use $1,360,000 in services in the first year and $1,250,000 per year in years two through four. Expense incurred under agreements with AT&T in 2004, 2005 and 2006 was approximately $1,684,000, $1,614,000 and $1,739,000 respectively.

Letters of Credit

The Company has outstanding commercial letters of credit totaling approximately $150,000. These letters of credit are collateralized with cash deposits which are included in restricted cash on our consolidated balance sheet.

Litigation

In March 2003, Protection One, a company engaged in the business of providing security and other alarm monitoring services to residential and commercial customers, brought an action against the Company in the Superior Court of New Jersey, Camden County for $1.4 million unspecified damages in connection with the Company’s purchase of certain alarm monitoring contracts from B&D Advertising Corp. B&D

had previously sold alarm monitoring contracts to Protection One. As part of such sales, B&D agreed not to solicit any customers whose contracts had been purchased and to keep certain information confidential. Protection One claims that the Company’s subsequent purchase of contracts from B&D constitutes tortious interference, that the Company utilized confidential information belonging to Protection One and that Protection One had an interest in some of the contracts that the Company purchased from B&D. The Company plans to vigorously defend this claim. The Company believes the resolution of this matter will not have a material adverse effect on our financial condition, results of operations or cash flows. This matter has been stayed pending the completion of the merger between Protection One and the Company, at which time it is expected that the matter will be dismissed by agreement of the parties, without costs or recovery by any party.

In December of 2005, Ira R. Beer, former president of the Company’s American Home Security, Inc (“AHS”) subsidiary in Las Vegas, brought an action against AHS and the Company in District Court for Clark County, Nevada. Mr. Beer sought monies allegedly due under a certain Employment Agreement dated November 21, 2003. Mr. Beer’s employment was terminated, for cause, on December 8, 2005. Mr. Beer’s lawsuit alleged that his termination was not for cause and that he was owed unpaid salary through the end of 2006 of some $440,000 and a certain “bonus buy-out” which he asserted to be approximately $2,192,000. The Company filed a counterclaim against Mr. Beer for derogation of his management duties. This matter was settled in it entirety in early December 2006 for approximately $1.76 million.

On June 26, 2006, the Company’s former president Thomas J. Few, Sr. initiated litigation against the Company in connection with his employment, seeking a monetary award for amounts allegedly due to him under an employment agreement. The claim was filed in the Superior Court of New Jersey, in the Bergen County Law Division. The principal parties to the suit are Thomas J. Few, Sr. and the Company. Mr. Few alleges that he is owed up to 36 months of pay as well as an amount representing accrued but unused vacation as a result of his resignation following the Company’s alleged breach of the employment agreement.  Settlement negotiations have been unsuccessful and discovery proceedings are underway as ordered by the Bergen county Law Division.

The Company is involved in litigation and various legal matters that have arisen in the ordinary course of business. The Company does not believe that the outcome of these matters will have a material adverse effect on the Company’s financial position, results of operations or cash flows in a particular quarter or fiscal year.

Professional Fees

In August of 2006, the Company engaged Houlihan Lokey Howard & Zukin (“Houlihan Lokey”) as the financial advisor. Houlihan Lokey has been assisting the Company in negotiating the merger with Protection One, which is more fully disclosed in footnote 13. The aggregate fees payable to Houlihan Lokey are estimated to be approximately $2.4 million excluding out-of-pocket expenses reimbursable by the Company, of which $450,000 has been paid and the balance of which is payable contingent upon the consummation of the merger. The Company incurred approximately $470,000 during 2006 for Houlihan Lokey’s service.

11.Acquisitions

All goodwill on acquisitions completed in 2004 and 2005 was recorded in the alarm monitoring residential services segment except $1.2 million that was allocated to the wholesale services segment as a result of dealer relationships acquired with the NACC and FSS acquisitions.

On October 1, 2005, the Company purchased substantially all of the assets and assumed certain liabilities of Financial Security Services, Inc. (“FSS”) for an adjusted purchase price of approximately $23,062,000. The purchase price allocation was based on an independent valuation obtained by the Company.

F-26

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

11.Acquisitions (cont’d)

The purchase price has been allocated to the fair value of assets acquired and liabilities assumed on the date of acquisition as follows:

	October 1, 2005
	(in thousands)
Assets:
Accounts receivable	$	373
Property and equipment		370
Notes receivable		14,411
Dealer relationships		3,100
Customer contracts		563
Other identifiable intangibles		330
Goodwill		4,015
Total assets		23,162
Liabilities:
Accrued expenses		92
Deferred revenue		8
Total liabilities		100
Net purchase price	$	23,062

This acquisition brought to the Company an established market of alarm dealers who required financing. FSS also owned a portfolio of residential customer contracts, provided monitoring to dealers on a wholesale basis and had an assembled workforce. The major intangible asset classes acquired were Dealer relationships and customer contracts which have a weighted average amortization period of 15.0 years and 3.9 years, respectively. The remaining intangible assets have a weighted average amortization period of 6.3 years. The weighted average life of the total intangible assets acquired is 12.7 years.

Tax deductible goodwill associated with this acquisition is approximately $2,366,000 at December 31, 2006.

The following unaudited pro forma combined results of operations have been prepared as if the FSS acquisition had occurred as of the beginning of the periods presented:

	Year Ended December 31,
	2004			2005
	(in thousands, except per share data)
Revenue:
Monitoring fees	$	28,501		$	34,160
Customer accounts		51,440			58,752
Related party monitoring fees		171			122
Service and installation		5,336			8,303
Total Revenue		85,448			101,337
Income (loss) from operations		(3,364	)		(9,733	)
Income (loss) before income taxes		(10,692	)		(22,267	)
Net income (loss)	$	(11,261	)	$	(22,916	)
Net income (loss) per share	$	(0.46	)	$	(0.93	)

The proforma results of operations do not purport to represent what the Company’s results of operations would actually have been had the acquisitions been affected for the periods presented, or to predict the Company’s results of operations for any future periods.

 The Company purchased substantially all of the assets and assumed certain liabilities of National Alarm Computer Center, Inc. a unit of Tyco International Ltd.’s Fire and Security Segment (NYSE: TYC) and certain assets from Tyco (collectively “NACC”) on November 19,

F-27

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

11. Acquisitions (cont.)

2004 for a total purchase price of $50.6 million. The amount paid due to NACC for the purchase of the business was approximately $50,880,000. This represents the contractual purchase price of approximately $49,190,000 and a working capital adjustment (net of cash) of approximately $1,690,000. The NACC acquisition brought to the Company an established market of alarm dealers who required financing. NACC also owned a portfolio of residential customer contracts, provided monitoring to dealers on a wholesale basis and had an assembled workforce.

The following unaudited pro forma combined results of operations have been prepared as if the NACC acquisition had occurred as of the beginning of the period presented:

	December 31, 2004
	(in thousands, except per share data)
Revenue:
Monitoring fees	$	33,565
Customer accounts		55,126
Billing fees		-
Related party monitoring fees		171
Related party placement fees		-
Service and installation		5,591
Total Revenue		94,453
Income (loss) from operations		(2,871	)
Income (loss) before income taxes		(15,461	)
Net income (loss)	$	(15,919	)
Net income (loss) per share	$	(0.65	)

The pro forma results of operations do not purport to represent what the Company's results of operations would actually have been had the acquisition been effected for the periods presented, or to predict the Company's results of operations for any future period.

During May 2004, the Company acquired the alarm portfolio and certain other assets of Alliant Protection Services, Inc. for a total purchase price of $14.5 million. Alliant brought to the Company an established regional market of residential and commercial customer contracts. It also had an assembled workforce to provide service as well as to install new alarm systems and expand operations of the business.

The operating results of Alliant have been included in the Company’s consolidated results since the date of acquisition (May 21, 2004). The pro forma revenue and results of operations for this acquisition, had the acquisition occurred at the beginning of 2004 is not significant, and accordingly, have not been provided.

12. Disposal of Assets

During the second quarter of 2006, the Company sold alarm contracts in Colorado, Idaho and Utah for $7,100,000 and other assets including inventory, vehicles and deposits valued at approximately $224,000. The Company received a cash payment of approximately $762,000 (which has been classified as “Advanced payment”) and the balance of approximately $6,512,000 in the form of a promissory note due December 31, 2006. The Company incurred direct and incremental costs related to the transaction in the aggregate amount of $377,000, which is reflected in the table below as prepaid expenses.  The note bears interest of 12% per annum with interest payable monthly. If no event of default has occurred, the buyer has the option up to December 31, 2006 to pay $1 million on the note to extend its maturity date to July 1, 2007 with interest of 13% per annum. The agreement includes a sales price adjustment for an attrition guarantee for the six months ended November 30, 2006 when the contract attrition is more than 5% of the total recurring monthly revenue acquired. The total recurring monthly revenue (“RMR”) sold was $212,000. If the buyer incurs attrition in excess of $11,000 of the RMR, the Company will reimburse the buyer for the next approximately $11,000 of RMR that is lost at a rate of $34.773 per $1 of RMR lost, up to a maximum purchase price

F-28

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

12. Disposal of Assets (cont.)

adjustment of approximately $369,000. The buyer did not make a payment on the note at December 31, 2006 as required by the terms. The buyer is negotiating financing with a lender which, if successful, would result in paying all but $500,000 of the outstanding promissory note balance. Based upon the revised terms being negotiated including the impact from attrition for the six months ended November 30, 2006, the carrying value of the customer contracts was reduced by an additional $513,000 in the fourth quarter of 2006 and the remaining note balance is expected to be collateralized by alarm contracts and due in one year from signing. The Company will continue to provide the monitoring and billing services until the note is paid. The sale will be recognized when the note is paid in full, the attrition guarantee has been settled, and continuing involvement (monitoring services) has ceased.  The assets and liabilities of the business transferred have been separately segregated on the consolidated balance sheet at December 31, 2006.  The net assets of the business transferred were determined to be impaired; as a result the Company recognized a $1,013,000 charge to operations during 2006.

The following table summarizes assets and liabilities sold:

	Assets			Liabilities
	(in thousands)
Customer contract, net	$	4,869		$	-
Deferred revenue		-			639
Deferred customer acquisition, net		331			-
Misc A/R		47			-
Property and equipment, net		223			-
Inventories		50			-
Capital Lease obligations		-			164
Accrued Expenses		-			240
Other assets		144			-
Prepaid expenses		377			-
Goodwill		2,659			-
Loss on transfer of business		(1,013	)		-
	$	7,687		$	1,043

13. Merger

On December 20, 2006, Protection One, Inc. (“Protection One”), Integrated Alarm Services Group, Inc. (“IASG”) and Tara Acquisition Corp., a direct, wholly owned subsidiary of Protection One (“Tara”), entered into an Agreement and Plan of Merger (the “Merger Agreement”) pursuant to which Protection One will acquire IASG (the “Merger”). If IASG’s Board of Directors withdraws or modifies the Merger Agreement in a manner adverse to Protection One or its recommendation of the merger, the Company may be subject to a $7.5 million payment to Protection One consisting of a termination fee and reimbursement of expenses.

Subject to the terms and conditions of the Merger Agreement, which has been unanimously approved by the boards of directors of Protection One and IASG, upon the completion of the Merger, each share of IASG common stock will be converted into 0.29 shares of Protection One common stock, with cash to be paid in lieu of fractional shares. On March 27, 2007, the Shareholders of IASG will vote on adoption of the Merger Agreement. If approved by the Shareholders, the merger is scheduled to be consummated on April 2, 2007.

14. Related Party Transactions

As discussed throughout the footnotes to the combined and consolidated financial statements, the Company has had significant transactions with related parties. Whether the terms of these transactions would have been the same had they been between non-related parties cannot be determined.

IASG provides alarm monitoring services to related parties which are owned by former management of the Company who are also stockholders. Revenue earned from these alarm monitoring services was approximately $171,000, 122,000 and $100,000 for the years ended December 31, 2004, 2005 and 2006.

F-29

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

14. Related Party Transactions(cont.)

During November 2005, the Company borrowed approximately $2,500,000 from and entity controlled by stockholders of the Company for a seven day period at a 7.6%  interest rate. This was done as the bank credit line was temporarily unavailable during a bank due diligence review. The total interest expense was approximately $4,000. The transaction was approved by the independent directors of the Company.

Suzanne Sweeney, the daughter of Mr. Few, Sr. (former Vice Chairman and President), is Director of Legal Affairs, and has received aggregate compensation of approximately $130,000, $136,000 and $130,000 for fiscal years 2004, 2005 and 2006, respectively.

Jeffrey Few, the son of Mr. Few, Sr. was Vice President of Sales and has received aggregate compensation of approximately $135,000, $133,000 and $98,000 for fiscal years 2004, 2005 and 2006, respectively. His employment with the Company was terminated during 2006.

Thomas Few, Jr., the son of Mr. Few, Sr. is Vice President of Sales and Marketing and has received aggregate compensation of approximately $127,000, $154,000 and $176,000 for fiscal years 2004, 2005 and 2006, respectively.

Robert W. Few, the son of Mr. Few, Sr. is Vice President of Operations—Criticom International Corp. and has received aggregate compensation of approximately $96,000, $101,000 and $96,000 for fiscal years, 2004, 2005 and 2006, respectively.

Kathleen Few, the daughter of Mr. Few, Sr. was National Manager of Dealer Care Centers and has received aggregate compensation of approximately $53,000, $70,000 and $52,000 for fiscal years 2004, 2005 and 2006, respectively. Her employment with the Company was terminated during 2006.

Mary Ann McGinn, the former wife of Mr. McGinn (Chairman of the Board and Chief Executive Officer), was Senior Vice President—Legal Affairs and remained a consultant to our Company through 2005. She has received aggregate compensation of approximately $132,000, $145,000 for fiscal years 2004 and 2005, respectively.

Amounts due from related parties at:

	December 31,
	2005		2006
	(in thousands)
Unreimbursed disbursements:
SPT Trusts	$	36	$	93
Capital Trust		26		12
Other Trusts		25		54
	$	87	$	159

Amounts due to related parties at:

	December 31,
	2005		2006
	(in thousands)
Undistributed collections:
Other Trusts	$	61	$	110
	$	61	$	110

15. Fair Value of Financial Instruments

Fair value estimates, assumptions, and methods used to estimate the fair value of the Company’s financial instruments are made in accordance with the requirements of SFAS No. 107, “Disclosure about Fair Value of Financial Instruments”. The Company has used available information to derive its estimates. However, because these estimates are made as of a specific point in time, they are not necessarily indicative of amounts the Company could realize currently. The use of different assumptions or estimating methods may have a material effect on the estimated fair value amounts.

F-30

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

15. Fair Value of Financial Instruments (cont.)

The carrying values of the Company’s financial instruments (including cash and cash equivalents, accounts receivable, accounts payable, accrued expenses and deferred revenue) as of December 31, 2004, 2005 and 2006 are a reasonable estimate of their fair value due to the short-term nature of the instruments. The carrying value of the Company’s bank debt and notes receivable approximates fair value because substantially they are the result of recent transactions. The notes receivable acquired as a result of the acquisition of FSS were discounted to fair value as of the October 1, 2005 acquisition date. The $125,000,000 of senior secured notes payable were entered into on November 16, 2004 and are currently trading at approximately par value.

16. Benefit Plans

Effective September 1, 2004, the parent Company and its subsidiaries merged their three 401(k) plans into one plan which provides benefits to all Company employees meeting customary eligibility requirements. The Company matches 50% of employees’ contributions up to 6% of employee compensation. The Company matching contributions are discretionary and subject to management review and approval. The total expense for all 401(k) plans was approximately $168,000, $267,000 and $215,000 for the years ended December 31, 2004, 2005 and 2006, respectively.

The Company maintained various plans that provided health, dental and life insurance benefits to all eligible employees. The total cost of health, dental and life insurance benefits was approximately $1,291,000, $3,460,000 and $3,307,000 for the years ended December 31, 2004, 2005 and 2006, respectively.

17. Segment and Related Information

During the third quarter of 2006, the Company realigned its segments. Prior period segment information for the year ended December 31, 2005 has been retroactively adjusted to reflect this realignment. The Company is unable to retroactively adjust segment information for the year ended December 31 2004 as the necessary data is not available. Effective third quarter of 2006, IASG has three reportable segments: alarm-monitoring wholesale services, alarm-monitoring residential services and alarm-monitoring commercial services. The Company has determined its reportable segments based on its method of internal reporting which is used by management for making operational decisions and assessing performance.

The alarm-monitoring wholesale services segment provides monitoring services to a broad range of independent alarm-monitoring dealers. The alarm-monitoring residential services segment provides monitoring services to its end customers, working capital to independent alarm-monitoring dealers and customer service and billing and collection services to our portfolio of accounts. This is accomplished by purchasing alarm monitoring contracts from the dealer or by providing loans using the dealer’s alarm monitoring contracts as collateral. IASI provides monitoring services (through IASG and other affiliated and non-affiliated entities) to its customers through the wholesale segment. The alarm-monitoring commercial services segment is a commercial security integrator that provides installation, testing and maintenance for commercial customers as well as monitoring services to its end customers.

The accounting policies of each of the segments are the same as those described in the summary of significant accounting policies, as outlined in Note 2. Management has determined that an appropriate measure of the performance of its operating segments would be made through an evaluation of each segment's income (loss) before income taxes. The Company does not allocate corporate accounting, legal and other professional fees, corporate salaries, benefits and other compensation, director related expenses and other corporate expenses to the segments because the decision making for the majority of these expenses does not reside within the segments. Interest related changes are allocated to the segments based on inter-company agreements in place during the specific year. Accordingly, the Company's summarized financial information regarding the Company's reportable segments is presented through income (loss) before income taxes for the years ended December 31, 2004, 2005 and 2006.

F-31

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

17. Segment and Related Information (cont.)

Summarized financial information for the years ended December 31, 2004, 2005 and 2006, concerning the Company's reportable segments is shown in the following tables:   

For the Year Ended December 31, 2006:
	Wholesale		Residential			Commercial			Corporate and Eliminations			Consolidated Total
	(in thousands)
Total revenue	$	31,953	$	44,593		$	17,818		$	-		$	94,364
Intersegment revenue		4,753		-			-			(4,753	)		-
Interest income		-		3,782			-			636			4,418
Interest expense		1		37			51			16,155			16,244
Income (loss) before income taxes		6,543		(44,570	)		(17,847	)		(29,054	)		(84,928	)
Total assets		45,949		94,305			32,381			16,081			188,716
Goodwill		9,063		10,759			6,411			-			26,233
Purchase of customer contracts,
dealer relationships and businesses		-		13,352			-			-			13,352
Depreciation and amortization		5,824		18,361			2,964			17			27,166
Amortization of deferred customer
acquisition costs		-		401			1,595			-			1,996

During 2006, goodwill of approximately $1.2 million was reallocated to the wholesale segment from the residential segment based upon assets acquired in 2004 and 2005 in the NACC and FSS acquisitions.

For the Year Ended December 31, 2005:
		Wholesale		Residential		Commercial			Corporate and Eliminations			Consolidated Total
		(in thousands)
Total revenue	$	31,610	$	49,323	$	18,301		$	-		$	99,234
Intersegment revenue		4,796		-		-			(4,796	)		-
Interest income		-		4,353		-			485			4,838
Interest expense		20		3		51			16,935			17,009
Income (loss) before income taxes		1,432		7,446		(2,371	)		(28,276	)		(21,769	)
Total assets		49,525		161,901		44,922			16,726			273,074
Goodwill		7,868		76,344		10,707			-			94,919
Purchase of customer contracts,
dealer relationships and businesses		3,486		32,655		-			-			36,141
Depreciation and amortization		5,708		18,959		3,905			-			28,572
Amortization of deferred customer
acquisition costs		-		545		1,158			-			1,703

Effective in 2006, the Company's segment reporting was expanded such that the segment formerly referred to as retail was divided into the residential and commercial segments.  The Company has assessed its ability to report information for 2004 in conformity with this expanded segment structure and found it to be impractical.  The branch operational structure in place prior to 2005 did not capture revenue or costs by the residential and commercial classifications. As such, the information for 2004 will be presented based on the segment structure in existence during 2004.

F-32

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

17. Segment and Related Information (cont.)

For the Year Ended December 31, 2004:
	Wholesale		Retail			Corporate and Eliminations			Consolidated Total
	(in thousands)
Total revenue	$	24,274	$	56,095		$	-		$	80,369
Intersegment revenue		3,416		-			(3,416	)		-
Interest income		-		1,362			91			1,453
Interest expense		34		6,484			2,368			8,886
Income (loss) before income taxes		2,359		(5,902	)		(7,756	)		(11,299	)
Total assets		51,215		221,099			29,770			302,084
Goodwill		7,849		83,586			-			91,435
Purchase of customer contracts,
dealer relationships and businesses		18,730		60,891			-			79,621
Depreciation and amortization		4,896		18,117			-			23,013
Amortization of deferred customer
acquisition costs		-		629			-			629

Reconciliation of segment income (loss) before income taxes to consolidated income (loss) before income taxes:
	For the Year Ended December 31,
	2004			2005			2006
	(in thousands)
Income (loss) before income taxes:
Alarm-Monitoring - Wholesale Services	$	2,359		$	1,432		$	6,543
Alarm-Monitoring - Retail Services		(5,902	)		-			-
Alarm-Monitoring - Residential Services		-			7,446			(44,570	)
Alarm-Monitoring - Commercial Services		-			(2,371	)		(17,847	)
Unallocated Expenses:
Corporate accounting, legal and other professional services		(1,964	)		(5,724	)		(4,994	)
Corporate salaries, benefits and other compensation		(1,386	)		(2,421	)		(3,330	)
Director and officer related expenses		(1,306	)		(1,117	)		(1,168	)
Interest expense, net		(2,277	)		(16,450	)		(15,519	)
Amortization of debt issuance costs		(279	)		(1,080	)		(973	)
Litigation settlement		(64	)		(624	)		(1,341	)
Travel, lodging and meals		(77	)		(170	)		(300	)
Stock-based compensation		-			-			(386	)
Other corporate expenses		(403	)		(690	)		(1,043	)
Consolidated income (loss) before income taxes	$	(11,299	)	$	(21,769	)	$	(84,928	)

F-33

INTEGRATED ALARM SERVICES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

18. Selected Quarterly Financial data (Unaudited)

	March 31			June 30			September 30			December 31
	(amounts in thousands, except for per share amounts)
2006
Total revenue	$	24,148		$	23,070		$	23,051		$	24,095
Cost of revenue (excluding depreciation and amortization)		9,451			9,751			9,226			9,737
Total expenses		24,046			26,005			90,268			26,174
Income (loss) from operations		102			(2,935	)		(67,217	)		(2,079	)
Net income (loss)		(3,414	)		(6,447	)		(69,340	)		(4,714	)
Basic and diluted income (loss) per share	$	(0.14	)	$	(0.26	)	$	(2.85	)	$	(0.19	)
Weighted average number of shares of
common stock outstanding		24,369			24,369			24,369			24,369
2005
Total revenue	$	24,458		$	24,688		$	24,501		$	25,587
Cost of revenue (excluding depreciation and amortization)		10,319			10,429			10,781			11,852
Total expenses		23,699			27,427			26,384			30,242
Income (loss) from operations		759			(2,739	)		(1,883	)		(4,655	)
Net income (loss)		(2,586	)		(6,339	)		(5,429	)		(7,978	)
Basic and diluted income (loss) per share	$	(0.10	)	$	(0.26	)	$	(0.22	)	$	(0.32	)
Weighted average number of shares of
common stock outstanding		24,681			24,681			24,681			24,605

F-34

Signatures

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

&# 160;

Integrated Alarm Services Group, Inc.

Dated: March 16, 2007	By: /s/ Charles T. May
	Charles T. May
	Acting President and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the registrant in the capacities and on the dates indicated.

Date	Title	Signature
Dated: March 16, 2007	Acting President and Chief Executive	By: /s/ Charles T. May
	Officer and Principal Executive Officer	Charles T. May
Dated: March 16, 2007	Chief Financial Officer and	By: /s/ Michael T. Moscinski
	Principal Accounting Officer	Michael T. Moscinski
Dated: March 16, 2007	Director	By: /s/ Raymond C. Kubacki
		Raymond C. Kubacki
Dated: March 16, 2007	Non-Executive Chairman of the Board	By: /s/ John W. Mabry
		John W. Mabry
Dated: March 16, 2007	Director	By: /s/ Ralph S. Michael, III
		Ralph S. Michael, III
Dated: March 16, 2007	Director	By: /s/ Jason B. Mudrick
		Jason B. Mudrick
Dated: March 16, 2007	Director	By: /s/ Timothy J. Tully
		Timothy J. Tully
Dated: March 16, 2007	Director	By: /s/ Arlene M. Yocum
		Arlene M. Yocum

S-1

EX-10.9

Consult your lawyer before signing this lease — it has important legal consequences.

BUSINESS LEASE

The Landlord and the Tenant agree to lease the Rental Space for the Term and at the Rent stated, as follows:

(The words Landlord and Tenant include all landlords and all tenants under this lease.)

Landlord: National Electronic Alloys Inc.    Tenant Integrated Alarm Services  

 Print or type                                   Print or Type 

3 Fir Court     PO Box 321      0;

Address                    Residence address

Oakland, NJ 07436    Oakland, NJ 07436    

Rental Space South Side, 2nd  Floor         

3500 Sq. Ft.          

Phone: 201-337-9400        

in the building at 3 Fir Court          

                        Address

Date of Lease June 1, 2006

Term

Beginning June 1, 2006

Ending July 31, 2007

Security $3500.00-1 month

Broker. The Landlord and the Tenant recognize No Brokers are involved

Liability Insurance. Minimum amounts: for each person injured $500,000 for any one accident  $1,000,000 for property damage $250,000

Municipal Real Estate Taxes $ In rent

Based Year ____ Percent of Increase ____%    Rent for the Term is $

The Rent is payable in advance on the first day of each month, as follows: $3500 a month

Option: 2, 3 or 4 year, same price as above.

Use of Rental Space 10 Hour day 6 days a week  To be used as office space only

Additional agreements

a) Snow plowing by Landlord. Included are also Real Estate Taxes, electricity, gas, & water.b) 14 parking spaces allocated to tenant.c) Rubbish removal dumpster provided by Landlordd) No chemical or hazardous waste allowed.

Telephone, fax communications are the responsiblity of tenant.  Building is equiped for fibre optic connection.

Table of Contents

1.   Possession and Use

2.   Delay in Giving Possession

3.   No Assignment or Subletting

4.   Rent and Additional Rent

5.   Security

6.   Liability Insurance

7.   Unavailability of Fire Insurance, Rate Increase

8.   Water Damage

9.   Liability of Landlord and Tenant

10.   Real Estate Taxes

11.   Acceptance of Rental Space

12.   Quite Enjoyment

13.   Utilities and Services

14.   Tenant’s Repairs, Maintenance, and Compliance

15.   Landlord’s Repairs and Maintenance

16.   No Alterations

17.   Signs

18.   Access to Rental Space

19.   Fire and Other Casualty

20.   Eminent Domain

21.   Subordination to Mortgage

22.   Tenant’s Certificate

23.   Violation, Eviction, Re-entry and Damages

24.   Notices

25.   No Waiver

26.   Survival

27.   End of Term

28.   binding

1.   Possession and Use

The Landlord shall give possession of the Rental Space to the Tenant for the Term. The Tenant shall take possession of and use the Rental Space for the purpose stated above. The Tenant may not use the Rental Space for any other purpose without the written consent of the Landlord.

The Tenant shall not allow the Rental space to be used for any unlawful or hazardous purpose. The Tenant is satisfied that the Rental Space is zoned for the Use stated. The Tenant shall obtain any necessary certificate of occupancy or other certificate permitting the Tenant to use the Rental Space for that Use.

The Tenant shall not use the Rental Space in any manner that results in (1) an increase in the rate of fire or liability insurance or (2) cancellation of any fire or liability insurance policy on the Rental Space. The Tenant shall comply with all requirements of the insurance companies insuring the Rental Space. The Tenant shall not abandon the Rental Space during the Term of this Lease or permit it to become vacant for extended periods.

2.   Delay in Giving of Possession

This paragraph applies if (a) the Landlord cannot give possession of the Rental Space to the Tenant on the beginning date and (b) the reason for the delay is not the Landlord’s fault. The Landlord shall not be held liable for the delay. The Landlord shall then have 30 days in which to give possession. If possession is given within that time, the Tenant shall accept possession and pay the Rent from that date. The ending date of the Term shall not change. If possession is not given within that time this Lease may be cancelled by either party on notice to the other.

3.   No Assignment or Subletting

The Tenant may not do any of the following without the Landlord’s written consent; (a) assign this Lease (if the Tenant is a corporation, the sale of a majority of its shares shall be treated as an assignment), (b) sublet all or any part of the Rental Space or (c) permit any other person or business to use the Rental Space.

4.Rent and Additional Rent

Tenant shall pay the Rent to the Landlord at the

Landlord’s address.

If the Tenant fails to comply with any agreement in this Lease, the Landlord may do so on behalf of the Tenant. The Landlord may charge the cost to comply, including reasonable attorney’s fees, to the Tenant as “additional rent”. The additional rent shall be due and payable as Rent with the next monthly Rent payment. Non- payment of additional rent shall give the Landlord the same rights against the Tenant as if the Tenant failed to pay the Rent.

5.Security

The Tenant has given to the Landlord the Security stated above. The Security shall be held by the Landlord during the Term of this Lease. The Landlord may deduct from the Security any expenses incurred in connection with the Tenant’s violation of any agreement in this Lease. For example, if the Tenant does not leave the Rental Space in good condition at the end of the Term, the Security may be used to put it in good condition. If the amount of damage exceeds the Security, the Tenant shall pay the additional amount to the Landlord on demand.

.

If the Landlord uses the Security or any part of it during the Term, the Tenant shall on demand pay the Landlord for the amount used. The amount of the Security is to remain constant throughout the Term. The Security is not to be used by the Tenant for the payment of Rent. The Landlord shall repay to the Tenant any balance remaining within a reasonable time after the end of the Term. The Tenant shall not be entitled to interest on the Security

If the Landlord’s interest in the Rental Space is transferred, the Landlord shall turn over the Security to the new Landlord. The Landlord shall notify the Tenant of the name and address of the new Landlord. Notification must be given within 5 days after the transfer, by registered or certified mail. The Landlord shall then no longer be responsible to the Tenant for the repayment of Security. The new Landlord shall be responsible to the Tenant for the return of the Security in accordance with the terms of this Lease.

6.Liability Insurance

The Tenant shall obtain, pay for, and keep in effect for the benefit of the Landlord and the Tenant public liability insurance on the Rental Space. The insurance company and the broker must be acceptable to the Landlord. This coverage must be in at least the minimum amounts stated above.

All policies shall state that the insurance company cannot cancel or refuse to renew without at least 10 days written notice to the Landlord.

The Tenant shall deliver the original policy to the Landlord with proof of payment of the first year’s premiums. This shall be done not less than 15 days before the Beginning of the Term. The Tenant shall deliver a renewal policy to the Landlord with proof of payment not less than 15 days before the expiration date of each policy.

7.Unavailability of Fire Insurance, Rate Increases

If due to the Tenant’s use of the Rental Space the Landlord cannot obtain and maintain fire insurance on the Building in an amount and form reasonably acceptable to the Landlord, the Landlord may cancel this Lease on 30 days notice to the Tenant. If due to the Tenant’s use of the Rental Space the fire insurance rate is increased, the Tenant shall pay the increase in the premium to the Landlord on demand.

8.Water Damage

The Landlord shall not be liable for any damage or injury to any persons or property caused by the leak or flow of water from or into any part of the Building.

9.Liability of Landlord and Tenant

The Landlord shall not be liable for injury or damage to any person or property unless it is due to the Landlord’s act or neglect. The Tenant is liable for any loss, injury or damage to any person or property caused by the act or neglect of the Tenant or the Tenant’s employees. The Tenant shall defend the Landlord from and reimburse the Landlord for all liability and costs resulting from any injury or damage due to the act or neglect of the Tenant or the Tenant’s employees.

10.Real Estate Taxes

The Landlord shall pay the yearly Municipal Real Estate Taxes on the Building in the amount stated above. This is the tax assessed for the Base Year stated above. The Tenant shall pay the Percent of Increase stated above of each yearly increase in the Municipal Real Estate Taxes over the tax for the Base Year. The Tenant shall pay this amount yearly in one sum within 30 days of the Landlord’s written request accompanied by a copy of the current year’s tax bill. The Tenant’s liability for this payment shall be pro-rated for any part of the year the Tenant does not occupy the Rental Space under this Lease.

2

11.Acceptance of Rental Space

The Tenant has inspected the Rental Space and agrees that the Rental Space is in satisfactory condition. The Tenant accepts the Rental Space “as is”.

12.Quiet Enjoyment

The Landlord has the right to enter into this Lease. If the Tenant complies with this Lease, the Landlord must provide the Tenant with undisturbed possession of the Rental Space.

13.Utilities and Services

The Tenant shall arrange and pay for all utilities and services required for the Rental Space, including the following:

(a) Heat(c) Electric

(b) Hot and cold water(d) Gas

All by Landlord

The Landlord shall pay for the following utilities and services:

The Landlord is not liable for any inconvenience or harm caused by any stoppage or reduction of utilities and services beyond the control of the Landlord. This does not excuse the Tenant from paying Rent.

14.Tenant’s Repairs, Maintenance, and Compliance

The Tenant shall:

(a)Promptly comply with all laws, orders, rules and requirements of governmental authorities, insurance carriers, board of fire underwriters, or similar groups.

(b)Maintain the Rental Space and all equipment and fixtures in it in good repair and appearance.

(c)Make all necessary repairs to the Rental Space and all equipment and fixtures in it, except structural repairs.

(d)Maintain the Rental Space in a neat, clean, safe, and sanitary condition, free of all garbage.

(e)Keep the walks, driveway, parking area, yard, entrances, hallways, and stairs clean and free from trash, debris, snow and ice.

(f)Use all electric, plumbing and other facilities in the Rental Space safely.

(g)Use no more electricity than the wiring or feeders to the Rental Space can safely carry.

(h)Promptly replace all broken glass in the Rental Space.

(i)Do nothing to destroy, deface, damage, or remove any part of the Rental Space.

(j)Keep nothing in the Rental Space which is inflammable, dangerous or explosive or which might increase the danger of fire or other casualty.

(k)Promptly notify the Landlord when there are conditions which need repair.

(l)Do nothing to destroy the peace and quiet of the Landlord, other tenants, or persons in the neighborhood.

(m)Avoid littering in the building or on its grounds.

The Tenant shall pay any expenses involved in complying with the above.

3

15.Landlord’s Repairs and Maintenance

The Landlord shall:

(a)Maintain the public areas, roof and exterior walls in good condition.

(b)Make all structural repairs unless these repairs are made necessary by the act or neglect of the Tenant or the Tenant’s employees.

(c)Make necessary replacements of the plumbing, cooling, heating and electrical systems, except when made necessary by the act or neglect of the Tenant or the Tenant’s employees.

(d)Maintain the elevators in the Building, if any.

16.No Alterations

The Tenant may not make any changes or additions to the Rental Space without the Landlord’s written consent. Any changes or additions made without the Landlord’s written consent shall be removed by the Tenant on demand.

All changes or additions made with the Landlord’s written consent shall become the property of the Landlord when completed and paid for by the Tenant. They shall remain as part of the Rental Space at the end of the Term. The Landlord may demand that the Tenant remove any changes or additions at the end of the Term. The Tenant shall promptly pay for all costs of any permitted changes or additions. The Tenant shall not allow any mechanic’s lien or other claim to be filed against the Building. If any lien or claim is filed against the Building, the Tenant shall have it promptly removed.

17.Signs

The Tenant shall obtain the Landlord’s written consent before placing any sign on or about the Rental Space. Signs must conform with all applicable municipal ordinances and regulations.

18.Access to Rental Space

The Landlord shall have access to the Rental Space on reasonable notice to the Tenant to (a) inspect the Rental Space (b) make necessary repairs, alternations, or improvements, (c) supply services, and (d) show it to prospective buyers, mortgage lenders, contractors or insurers.

The Landlord may show the Rental Space to rental applicants at reasonable hours on notice to the Tenant within 6 months before the end of the Term.

The Landlord may enter the Rental Space at any time without notice to the Tenant in case of emergency.

See 18D & E on following page.

19.Fire and Other Casualty

The Tenant shall notify the Landlord at once of any fire or other casualty in the Rental Space. The Tenant is not required to pay Rent when the Rental Space is unusable. If the Tenant uses part of the Rental Space, the Tenant must pay Rent pro-rata for the usable part.

If the Rental Space is partially damaged by fire or other casualty, the Landlord shall repair it as soon as possible. This includes the damage to the Rental Space and fixtures installed by the Landlord. The Landlord need not repair or replace anything installed by the Tenant.

Either party may cancel this Lease if the Rental Space is so damaged by fire or other casualty that it cannot be repaired within 90 days. If the parties cannot agree, the opinion of a contractor chosen by the Landlord and the Tenant will be binding on both parties.

4

This Lease shall end if the Rental Space is totally destroyed. The Tenant shall pay Rent to the date of destruction.

If the fire or other casualty is caused by the act or neglect of the Tenant or the Tenant’s employees, the Tenant shall pay for all repairs and all other damage.

20.Eminent Domain

Eminent domain is the right of a government to lawfully condemn and take private property for public use. Fair value must be paid for the property. The taking occurs either by court order or by deed to the condemning party. If any part of the Rental Space is taken by eminent domain, either party may cancel this lease on 30 days notice to the other. The entire payment for the taking shall belong to the Landlord. The Tenant shall make no claim for the value of this Lease for the remaining part of the Term.

21.Subordination to Mortgage

In a foreclosure sale all mortgages which now or in the future affect the Building have priority over this Lease. This means that the holder of a mortgage may end this Lease on a foreclosure sale. The Tenant shall sign all papers needed to give any mortgage priority over this Lease. If the Tenant refuses, the Landlord may sign the papers on behalf of the Tenant.

22.Tenant’s Certificate

At the request of the Landlord, the Tenant shall sign a certificate stating that (a) this Lease has not been amended and is in effect, (b) the Landlord has fully performed all of the Landlord’s agreements in this Lease, (c) the Tenant has no rights to the Rental Space except as stated in this Lease, (d) the Tenant has paid all Rent to date, and (e) the Tenant has not paid Rent for more than one month in advance. The Certificate shall also list all the property attached to the Rental Space owned by the Tenant.

23.Violation, Eviction, Re-entry and Damages

The Landlord reserves a right of re-entry which allows the Landlord to end this Lease and re-enter the Rental Space if the Tenant violates any agreement in this Lease. This is done by eviction. Eviction is a court procedure to remove a tenant. Eviction is started by the filing of a complaint in court and the service on a tenant of the complaint and a summons to appear in court. The Landlord may also evict the Tenant for any other cause allowed by law. After obtaining a judgment for possession and compliance with the warrant of removal, the Landlord may re-enter and take back possession of the Rental Space. If the cause for eviction is non-payment of Rent, notice does not have to be given to the Tenant before the Landlord files a complaint. If there is any other cause to evict, the Landlord must give to the Tenant the notice required by law before the Landlord files a complaint for eviction.

The tenant is liable for all damages caused by the Tenant’s violation of any agreement in this Lease. This includes reasonable attorney’s fees and costs. The rights and remedies of the Landlord under this Lease are not intended to be inclusive but as additional to all other rights and remedies allowed to the Landlord by law.

After eviction the Tenant shall pay the unpaid Rent for the Term or until the Landlord re-rents the Rental Space, if sooner. If the Landlord re-rent the Rental Space for less than the Tenant’s Rent, the Tenant shall pay the difference until the end of the Term. The Tenant shall not be entitled to any excess resulting from the re-renting. The Tenant shall also pay (a) all reasonable expenses incurred by the Landlord in preparing the Rental Space for re-renting and (b) commissions paid to a broker for finding a new tenant.

24. Notices

All notices given under this Lease must be in writing. Each party must accept and claim the notices given by the other. Unless otherwise provided by law, they may be given by (a) personal delivery, or (b) certified mail, return receipt requested. Notices shall be addressed to the Landlord at the address written at the beginning of this Lease and to the Tenant at the Rental Space.

25.No Waiver

The Landlord’s failure to enforce any agreement in this Lease shall not prevent the Landlord from enforcing the agreement for any violations occurring at a later time.

5

26.Survivial

If any agreement in this Lease is contrary to law, the rest of the Lease shall remain in effect.

27.End of Term

At the end of the Term the Tenant shall (a) leave the Rental Space clean, (b) removal all of the Tenant’s property, (c) remove all signs and restore that portion of the Rental Space on which they were placed, (d) repair all damage caused by moving, and (e) return the Rental Space to the Landlord in the same conditions as it was at the beginning of the Term except for normal wear and tear.

If the Tenant leaves any property in the Rental Space, the Landlord may (a) dispose of it and charge the Tenant for the cost of disposal, or (b) keep it as abandoned property.

28.Binding

This Lease binds the Landlord and the Tenant and all parties who lawfully succeed to their rights or take their places.

29.Full Agreement

The parties have read this Lease. It contains their full agreement. It may not be changed except in writing signed by the Landlord and the Tenant.

18 D.Landlord is to have a key for emergency services.

18 E.Landlord has the right to enter space to access stairway to roof for necessary maintenance purposes.

30.Tenant may not bring any pets, dogs, cats or animals into the building at any time.

31.This is a “No Smoking” Building and those that do must do so outside the building.

32.Tenant is responsible for light bulb replacement.

33.If tenant is in good standing with Landlord, tenant will have the first option to renew lease at mutually agreed upon date.

34.Tenant is responsible for cleaning leased area.

35.Tenant is to deposit the equivalent of 1 month’s rent for security not to be interest bearing and not to be considered rent at the end of the lease.

36.Occupancy Permit and any charges or fees is the responsibility of tenant although Landlord will assist with any data necessary.

37.Tenant’s SIC # is 7382 and is responsible for it’s compliance.

SignaturesThe Landlord and the Tenant agree to the terms of this Lease by signing below. If a party is a

Corporation, this Lease is signed by its proper corporate officers and its corporate seal is affixed.

Witnessed or attested by:        National Electronic Alloys Inc.       SEAL
         Landlord

_______________________________           ___________________________________     SEAL

As to Landlord                                                 Landlord

                                                                        _______________________________     SEAL 
                                         Tenant

/s/ Bruce E. Quay 5/10/06_________________________________SEAL

As to TenantTenant

6

EX-10.10

LEASE

BETWEEN

CRP-2 HOLDINGS CYPRESS, LLC, AS LANDLORD

AND

INTEGRATED ALARM SERVICES GROUP, INC., AS TENANT

16,849 S.F. /SUITE 200

CYPRESS CORPORATE CENTER

11130 HOLDER STREET, CYPRESS, CALIFORNIA

TABLE OF CONTENTS

1	LEASE OF PREMISES.	1
2	DEFINITIONS.	1
3	EXHIBITS AND ADDENDA.	3
4	DELIVERY OF POSSESSION.	3
5	INTENDED USE OF THE PREMISES.	4
6	RENT.	4
6.1	Payment of Rent	4
6.2	Intentionally Deleted.	4
6.3	Additional Rent for Tax Costs and Operating Expenses	4
6.4	Determination and Payment of Tax Costs and Operating Expenses.	6
6.5	Definition of Rent	7
6.6	Taxes on Tenant’s Use and Occupancy	7
7	LATE CHARGES.	8
8	SECURITY DEPOSIT.	8
9	TENANT’S USE OF THE PREMISES.	9
9.1	Use	9
9.2	Observance of Law	9
9.3	Insurance	9
9.4	Nuisance and Waste	10
9.5	Load and Equipment Limits	10
9.6	Hazardous Material	10
10	SERVICES AND UTILITIES.	10
11	REPAIRS AND MAINTENANCE.	12
11.1	Landlord’s Obligations	12
11.2	Tenant’s Obligations.	12
11.3	Compliance with Law	12
11.4	Notice of Defect	12
11.5	Landlord’s Liability	12
12	CONSTRUCTION, ALTERATIONS AND ADDITIONS.	13
12.1	Landlord’s Construction Obligations	13
12.2	Tenant’s Construction Obligations	13
12.3	Tenant’s Alterations and Additions	13
12.4	Payment	13
12.5	Property of Landlord	13
13	LEASEHOLD IMPROVEMENTS; TENANT’S PROPERTY.	13
13.1	Leasehold Improvements	13
13.2	Tenant’s Property	14
14	INDEMNIFICATION.	14
14.1	Tenant Indemnification	14
14.2	Landlord Not Liable	14
15	TENANT’S INSURANCE.	15
15.1	Insurance Requirement	15
15.2	Minimum Scope of Coverage	15
15.3	Minimum Limits of Insurance	16
15.4	Deductible and Self-Insured Retention	16
15.5	Increases in Insurance Policy Limits	16
15.6	Waiver of Subrogation	16
15.7	Landlord’s Right to Obtain Insurance for Tenant	16
16	DAMAGE OR DESTRUCTION.	16
16.1	Damage	16
16.2	Repair of Premises in Excess of One Hundred Eighty Days	17
16.3	Repair Outside Premises	17
16.4	Tenant Repair	17
16.5	Election to Perform Landlord’s Work	17

i

16.6	Express Agreement	17
17	EMINENT DOMAIN.	18
17.1	Whole Taking	18
17.2	Partial Taking	18
17.3	Proceeds	18
17.4	Landlord’s Restoration	18
18	ASSIGNMENT AND SUBLETTING.	18
18.1	No Assignment or Subletting	18
18.2	Landlord’s Consent	19
18.3	Tenant Remains Responsible	20
18.4	Conversion to a Limited Liability Entity	21
18.5	Payment of Fees	21
19	DEFAULT.	21
19.1	Tenant’s Default	21
19.2	Landlord Remedies	22
19.3	Damages Recoverable	23
19.4	Landlord’s Right to Cure Tenant’s Default	23
19.5	Landlord’s Default	24
19.6	Mortgagee Protection	24
20	WAIVER.	24
21	SUBORDINATION AND ATTORNMENT.	24
22	TENANT ESTOPPEL CERTIFICATES.	25
22.1	Landlord Request for Estoppel Certificate	25
22.2	Failure to Execute	25
23	NOTICE.	25
24	TRANSFER OF LANDLORD’S INTEREST.	25
25	SURRENDER OF PREMISES.	25
25.1	Clean and Same Condition	25
25.2	Failure to Deliver Possession	26
25.3	Property Abandoned	26
26	HOLDING OVER.	26
27	RULES AND REGULATIONS.	26
28	CERTAIN RIGHTS RESERVED BY LANDLORD.	26
28.1	Name	26
28.2	Signage	27
28.3	Access	27
28.4	Physical Changes	27
28.5	Inspection	27
28.6	Entry	27
28.7	Common Area Regulation	27
29	ADVERTISEMENTS AND SIGNS.	27
30	INTENTIONALLY DELETED .	Error! Bookmark not defined.
31	GOVERNMENT ENERGY OR UTILITY CONTROLS.	27
32	FORCE MAJEURE.	28
33	BROKERAGE FEES.	28
34	QUIET ENJOYMENT.	28
35	TELECOMMUNICATIONS.	28
35.1	Telecommunications Companies	28
35.2	Tenant’s Obligations	28
35.3	Indemnification	29
35.4	Landlord’s Operation	29
36	MISCELLANEOUS.	31
36.1	Accord and Satisfaction; Allocation of Payments	31
36.2	Addenda	31
36.3	Attorneys’ Fees	31
36.4	Captions and Section Numbers	31

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36.5	Changes Requested by Lender	31
36.6	Choice of Law	32
36.7	Consent	32
36.8	Authority	32
36.9	Waiver of Right to Jury Trial	32
36.1	Counterparts	32
36.11	Execution of Lease; No Option	32
36.12	Furnishing of Financial Statements; Tenant’s Representations	32
36.13	Further Assurances	32
36.14	Prior Agreements; Amendments	32
36.15	Recording	33
36.16	Severability	33
36.17	Successors and Assigns	33
36.18	Time Is of the Essence	33
36.19	Multiple Parties	33
36.2	Consent to Press Release	33
36.21	Extension Option	33

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LEASE

This lease (this “Lease”) between CRP-2 Holdings Cypress, LLC (herein “Landlord”), and Integrated Alarm Services Group, Inc., a Delaware corporation (herein “Tenant”), is dated for reference purposes only as of this ____ day of November, 2006.

1.LEASE OF PREMISES.

In consideration of the Rent (as defined in Section 6.) and the provisions of this Lease, Landlord leases to Tenant and Tenant leases from Landlord the Premises shown on the floor plan attached hereto as Exhibit “A,” and further described in Section 2.13, in “as is” condition except as expressly provided hereunder. The Premises are located within the Building and Project (as described in Section 2.14). Tenant shall have the nonexclusive right (unless otherwise provided herein) in common with Landlord, other tenants, subtenants and invitees, to use the Common Area (as defined in Section 2.4.). This Lease confers no rights either to the subsurface of the land below the ground level of the Building in which the Premises is located or to airspace, interior or exterior, above the ceiling of the Building.

2.DEFINITIONS.

As used in this Lease the following terms shall have the following meanings:

2.1.Intentionally Deleted.

2.2.ANNUAL BASE RENT/MONTHLY BASE RENT/PER S.F. BASE RENT:

Months	Annual Base Rent	Monthly Base Rent	S.F. Base Rent
1-12	$232,516.20	$19,376.35	$13.80
13-24	$242,625.60	$20,218.80	$14.40
25-36	$252,735.00	$21,061.25	$15.00
37-48	$262,844.40	$21,903.70	$15.60
49-60	$272,953.80	$22,746.15	$16.20
61-72	$283,063.20	$23,588.60	$16.80
73-84	$293,172.60	$24,431.05	$17.40
85-86	$303,282.00	$25,273.50	$18.00

2.3. COMMENCEMENT DATE: The date of execution by Landlord and Tenant of this Lease.

2.4. COMMON AREA: The building lobbies, common corridors and hallways, rest rooms, parking areas and other generally understood public or common areas.

2.5. EXPIRATION DATE: The last day of the eighty-sixth (86^th) full calendar month following the Possession Date, unless extended or otherwise sooner terminated in accordance with the provisions of this Lease.

2.6. RENT COMMENCEMENT DATE: The Possession Date, provided, however, as long as Tenant is not in default hereunder, the Monthly Base Rent for the 2^nd and 3^rd full calendar months of the Term shall be abated in full.

2.7. LANDLORD’S ADDRESS FOR NOTICE:

CRP-2 Holdings Cypress, LLC

c/o Colony Realty Partners LLC

One International Place

1

Boston, MA 02110

Attn: Mr. Henry Brauer

Fax: 617-235-6399

With a copy to:

Mintz Levin Cohn Ferris Glovsky and Popeo, P.C.

One Financial Center

Boston, MA 02111

Attn: Daniel O. Gaquin, Esq.

Fax: 617-542-2241

RENT PAYMENT ADDRESS:

Via regular mail:

Cypress Corporate Center

P.O. Box 100527

Pasadena, CA 91189-0527

Via overnight courier:

JPMorgan Chase Lockbox Processing

2710 Media Center Drive

Building #6, Suite 120

Los Angeles, CA 90065

Cypress Corporate Center Lockbox

Lockbox#100527

TENANT’S MAILING ADDRESS:

The Premises

 2.8.LISTING AND LEASING AGENT(S): CB Richard Ellis and Equis Corporation.

 2.9.Intentionally Deleted.

 2.10.  NOTICE: Except as otherwise provided herein, Notice shall mean any notices, approvals and demands permitted or required to be given under this Lease. Notice shall be

 given in the form and manner set forth in Section 23.

 2.11.  PARKING: Tenant shall be entitled to the nonexclusive use of up to seventy-two (72) nonreserved parking spaces located in the Building’s surface lot, at 
 no additional charge (64 of such parking spaces shall be located at the southern end of the parcel). Landlord acknowledges that Tenant will have up to twenty-five (25) operator

 employees changing shifts at 3:00 p.m. on a daily basis and that Tenant may use up to twenty-five (25) additional parking spaces in the surface lot during such daily shift change

 for up to twenty (20) minutes total

 2.12.  POSSESSION DATE: The Turnover Date (as defined in Exhibit B attached hereto).

 2.13.  PREMISES: That portion of the second (2nd) floor of the Building known as Cypress Corporate Center, 11130 Holder Street, Cypress, California, commonly referred to as

 Suite 200, as shown on Exhibit “A.” For purposes of this Lease, the Premises is deemed to contain approximately 16,849 square feet of Rentable Area.

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2.14. PROJECT: The building of which the Premises are a part (the “Building”) and any other buildings or improvements on the real property (the “Property”) located at 11130 Holder Street, Cypress, California. The Project is commonly known as “Cypress Corporate Center.”

2.15. RENTABLE AREA: As to both the Premises and the Project, the respective measurements of floor area as may from time to time be subject to lease by Tenant and all tenants of the Project, respectively, as determined by Landlord and applied on a consistent basis throughout the Project.

2.16. SECURITY DEPOSIT (Section 8.): $25,273.50.

2.17. STATE: The State of California.

2.18. Intentionally Deleted.

2.19. TENANT’S PROPORTIONATE SHARE: 8.25%. Such share is a fraction, the numerator of which is the Rentable Area of the Premises, and the denominator of which is the Rentable Area of the Building, as determined by Landlord from time to time. For purposes of this Lease, the Building is deemed to contain approximately 204,314 square feet of Rentable Area.

2.20. TENANT’S USE (Section 9.): General office and a twenty-four (24) hour call/data center.

2.21. TERM: The period commencing on the Possession Date and expiring at midnight on the Expiration Date.

3.EXHIBITS AND ADDENDA.

The exhibits and addenda listed below (unless lined out) are attached hereto and incorporated by reference in this Lease:

Exhibit A Floor Plan showing the Premises.

Exhibit B Work Letter and Drawings.

Exhibit C Rules and Regulations.

Exhibit D HVAC Unit Replacement

4.DELIVERY OF POSSESSION.

Delivery of possession shall be deemed to occur upon substantial completion of the Premises (as certified by Landlord’s Architect). If Landlord permits Tenant to enter into possession of the Premises before the Possession Date, such possession shall be subject to the provisions of this Lease, including, without limitation, the payment of Rent (unless otherwise agreed in writing). Landlord shall deliver the Premises to Tenant in a broom-swept, clean condition and with the existing electrical, plumbing, fire sprinkler, lighting, heating, ventilation and air conditioning systems in operating order and with the walls, floor tiles and ceiling systems in good condition.

Within ten (10) business days of delivery of possession Landlord shall deliver to Tenant and Tenant shall execute an Acceptance of Premises in which Tenant shall certify, among other things, that (a) Landlord has satisfactorily completed Landlord’s Work to the Premises pursuant to Exhibit “B,” unless written exception is set forth thereon, and (b) Tenant accepts the Premises. Tenant’s failure to execute and deliver the Acceptance of Premises shall be conclusive evidence, as against Tenant, that Landlord has satisfactorily completed Landlord’s Work to the Premises pursuant to Exhibit “B.”

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In the event Tenant fails to take possession of the Premises following execution of this Lease, Tenant shall reimburse Landlord promptly upon demand for all costs incurred by Landlord in connection with entering into this Lease including, but not limited to, broker fees and commissions, sums paid for the preparation of a floor and/or space plan for the Premises, costs incurred in performing Landlord’s Work pursuant to Exhibit “B,” loss of rental income, attorneys’ fees and costs, and any other damages for breach of this Lease established by Landlord.

5.INTENDED USE OF THE PREMISES.

The statement in this Lease of the nature of the business to be conducted by Tenant in the Premises does not constitute a representation or guaranty by the Landlord as to the present or future suitability of the Premises for the conduct of such business in the Premises, or that it is lawful or permissible under the Certificate of Occupancy issued for the Building, or is otherwise permitted by law. Tenant’s taking possession of the Premises shall be conclusive evidence, as against Tenant, that, at the time such possession was taken, the Premises were satisfactory for Tenant’s intended use.

6.RENT.

6.1Payment of Rent. Tenant shall pay Rent for the Premises beginning on the Rent Commencement Date. Monthly installments of Rent shall be payable in advance on the first day of each calendar month of the Term. If the Term begins (or ends) on other than the first (or last) day of a calendar month, Rent for the partial month shall be prorated based on the number of days in that month. Rent shall be paid to Landlord at the Rent Payment Address set forth in Section 2.7., or to such other person at such place as Landlord may from time to time designate in writing, without any prior demand therefor and without deduction or offset, in lawful money of the United States of America. Tenant shall pay Landlord the first Monthly Installment of Base Rent upon execution of this Lease.

6.2Intentionally Deleted.

6.3Additional Rent for Tax Costs and Operating Expenses. Beginning as of the Rent Commencement Date and continuing throughout the Term, Tenant shall pay Tenant’s Proportionate Share of Tax Costs and Operating Expenses (hereinafter sometimes together referred to as “Direct Costs”) based on the percentage set forth in Section 2.19. However, if during any calendar year of the Term the occupancy of the Project is less than ninety-five percent (95%), then Landlord shall make an appropriate adjustment of the variable components of Operating Expenses, as reasonably determined by Landlord, to determine the amount of Operating Expenses that would have been incurred had the Project been ninety-five percent (95%) occupied during that calendar year. This estimated amount shall be deemed the amount of Operating Expenses for that calendar year. For purposes hereof, “variable components” shall include only those Operating Expenses that are affected by variations in occupancy levels.

6.3.1Definitions. As used in this Section 6.3.1., the following terms shall have the following meanings:

      6.3.1.1“Tax Costs” shall mean any and all real estate taxes, other similar charges on real property or improvements, assessments, water and sewer charges, and all other charges (but in no event Landlord’s income or estate taxes) assessed, levied, imposed or becoming a lien upon part or all of the Project or the appurtenances thereto, or attributable thereto, or on the rents, issues, profits or income received or derived therefrom which may be imposed, levied, assessed or charged by the United States or the State, County or City in which the Project is located, or any other local government authority or agency or

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      6.3.1.2political subdivision thereof. Tax Costs for each tax year shall be apportioned to determine the Tax Costs for the subject calendar years. Landlord shall have the right but not the obligation , from time to time, to equitably allocate some or all of the Tax Costs among different tenants of the Project or among different buildings which comprise the Project (“Cost Pools”). Such Cost Pools may include, but shall not be limited to, office space tenants or the project and the industrial tenants of the Project.

 Landlord, at Landlord’s sole discretion, may contest any taxes levied or assessed against the Building or Project during the Term. If Landlord contests any taxes levied or assessed during the Term, Tenant shall pay to Landlord Tenant’s Proportionate Share of all costs incurred by Landlord in connection with the contest.

   6.3.1.2“Operating Expenses” shall mean any and all expenses incurred by Landlord in connection with the management, maintenance, operation, and repair of the Project, the equipment, adjacent walks, Common Area, parking areas, the roof, structure and systems of the Building, landscaped areas, including, but not limited to, salaries, wages, benefits, pension payments, payroll taxes, worker’s compensation, and other costs related to employees engaged in the management, operation, maintenance and/or repair of the Project; any and all assessments or costs incurred with respect to Covenants, Conditions and/or Restrictions, Reciprocal Easement Agreements or similar documents affecting the Building or Project, if any; the cost of all charges to Landlord for electricity, natural gas, air conditioning, sewer, water, and other utilities furnished to the Project including any taxes thereon; reasonable attorneys’ fees and/or consultant fees incurred by Landlord in contracting with a company or companies to provide electricity (or any other utility) to the Project, any fees for the installation, maintenance, repair or removal of related equipment, and any exit fees or stranded cost charges mandated by the State; the cost and expense for third party consultants, accountants and attorneys; a management fee not to exceed seven percent (7%) of gross income; energy studies and the amortized cost of any energy or other cost saving equipment used by Landlord to provide services pursuant to the terms of the Lease (including the amortized cost to upgrade the efficiency or capacity of Building telecommunication lines and systems if responsibility therefor is assumed by Landlord as discussed in Section 35. hereof); costs of capital improvements to the Building or the Project expended by Landlord to comply with laws and regulations passed after the date of this Lease or to reduce Operating Expenses, provided that the cost of such capital improvements shall be amortized over the estimated useful life of such capital improvement in accordance with generally accepted accounting principals, with Tenant being responsible only for its pro rata share of such costs which are attributable to the months remaining in the Term and any renewal term(s); reasonable reserves for replacements as may be customary in the geographic area in which the Project is located; the cost of license fees related to the Project; the cost of all charges for property (all risk), liability, rent loss and all other insurance for the Project to the extent that such insurance is required to be carried by Landlord under any lease, mortgage or deed of trust covering the whole or a substantial part of the Project or the Building, or, if not required under any such lease, mortgage or deed of trust, then to the extent such insurance is carried by owners of properties comparable to the Project; the cost of all building and cleaning supplies and materials; the cost of all charges for security services, cleaning, maintenance and service contracts and other services with independent contractors, including but not limited to the maintenance, operation and repair of all electrical, plumbing and mechanical systems of the Project and maintenance, repair and replacement of any intrabuilding cabling network (“ICN”); and the cost of any janitorial, utility or other services to be provided by Landlord. Landlord shall have the right but not the obligation , from time to time, to equitably allocate some or all of the Operating Expenses among different tenants of the Project or among different buildings which comprise the Project in different Cost Pools. Such Cost Pools may include, but shall not be limited to, office space tenants or the project and the industrial tenants of the Project any may include an allocation of costs based on the nature or duration of certain tenants use. For example, a tenant or tenants may be charged a greater or lesser share of utility or hvac maintenance costs based on usage.

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Notwithstanding the foregoing, the following shall not be included within Operating Expenses: (i) costs of capital improvements (except any improvements that might be deemed “capital improvements” related to the enhancement or upgrade of the ICN and related equipment, costs to comply with laws passed after the date of this Lease and costs incurred by Landlord to reduce Operating Expenses) and costs of curing design or construction defects; (ii) depreciation; (iii) interest and principal payments on mortgages and other debt costs and ground lease payments, if any, and any penalties assessed as a result of Landlord’s late payments of such amounts; (iv) real estate broker leasing commissions or compensation; (v) any cost or expenditure (or portion thereof) for which Landlord is reimbursed, whether by insurance proceeds or otherwise (vi) attorneys’ fees, costs, disbursements, advertising and marketing and other expenses incurred in connection with the negotiation of leases with prospective tenants of the Building; (vii) rent for space which is not actually used by Landlord in connection with the management and operation of the Building; (viii) all costs or expenses (including fines, penalties and legal fees) incurred due to the violation by Landlord, its employees, agents, contractors or assigns of the terms and conditions of the Lease, or any valid, applicable building code, governmental rule, regulation or law; (ix) except for the referenced management compensation, any overhead or profit increments to any subsidiary or affiliate of Landlord for services on or to the Building, to the extent that the costs of such services exceed competitive costs for such services; (x) the cost of constructing tenant improvements for Tenant or any other tenant of the Building or Project; (xi) Operating Expenses specially charged to and paid by any other tenant of the Building or Project; (xii) the cost of special services, goods or materials provided to any other tenant of the Building or Project; and (xiii) Landlord's general corporate overhead and general and administrative expenses; (xiv) costs arising from the negligence or misconduct of Landlord or other tenants or occupants of the Building or their respective agents, employees, licensees, vendors, contractors, or providers of materials or services; (xv) costs arising from the presence of "Hazardous Materials" on or about the Building or Project, including, without limitation, Hazardous Materials in the ground water or soil, not placed in the Premises, Building or Project by Tenant; (xvi) costs (including in connection therewith all attorneys' fees and costs of settlement judgments and payments in lieu thereof) arising from claims, disputes or potential disputes in connection with potential or actual claims litigation or arbitrations pertaining to Landlord and/or the Building and/or the Project and not related to Tenant; (xvii) costs associated with the operation of the business of the partnership or entity which constitutes Landlord as the same are distinguished from the costs of operation of the Building, including partnership accounting and legal matters, costs of defending any lawsuits with any mortgagee (except as the actions of Tenant may be in issue), costs of selling, syndicating, financing, mortgaging or hypothecating any of Landlord's interest in the Building; and (xviii) penalties incurred as a result of Landlord's negligence, inability or unwillingness to make payments of, and/or to file any tax or informational returns with respect to, any Real Property Taxes, when due.

6.4Determination and Payment of Tax Costs and Operating Expenses.

6.4.1On or before the last day of each December during the Term of this Lease, Landlord shall furnish to Tenant a written statement showing in reasonable detail Landlord’s projected Direct Costs for the succeeding calendar year. During the ensuing calendar year, Tenant shall pay Tenant’s Proportionate Share of estimated Direct Costs in advance in equal monthly installments pursuant to the same terms as Monthly Installments of Base Rent. If during the course of the calendar year Landlord determines that actual Direct Costs will vary from its estimate by more than five percent (5%), Landlord may deliver to Tenant a written statement showing Landlord’s revised estimate of Direct Costs. On the next payment date for Monthly Installments of Rent following Tenant’s receipt of either such statement, Tenant shall pay to Landlord an additional amount equal to such monthly Rent increase adjustment (as set forth on

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6.4.2Landlord’s statement). Thereafter, the monthly Rent adjustment payments becoming due shall be in the amount set forth in such projected Rent adjustment statement from Landlord. Neither Landlord’s failure to deliver nor late delivery of such statement shall constitute a default by Landlord or a waiver of Landlord’s right to any Rent adjustment provided for herein.

6.4.3On or before the first day of each April during the Term of this Lease, Landlord shall furnish to Tenant a written statement of reconciliation (the “Reconciliation”) showing in reasonable detail Landlord’s actual Direct Costs for the prior year, together with a full statement of any adjustments necessary to reconcile any sums paid as estimated Rent adjustments during the prior year with those sums actually payable for such prior year. In the event such Reconciliation shows that additional sums are due from Tenant, Tenant shall pay such sums to Landlord within twenty (20) days of receipt of such Reconciliation. In the event such Reconciliation shows that a credit is due Tenant, such credit shall be credited against the sums next becoming due from Tenant, unless this Lease has expired or been terminated pursuant to the terms hereof (and all sums due Landlord have been paid), in which event such sums shall be refunded to Tenant. Neither Landlord’s failure to deliver nor late delivery of such Reconciliation to Tenant by April first shall constitute a default by Landlord or operate as a waiver of Landlord’s right to collect all Rent due hereunder.

6.4.4So long as Tenant is not in default under the terms of the Lease and provided Notice of Tenant’s request is given to Landlord within thirty (30) days after Tenant’s receipt of the Reconciliation, Tenant may inspect Landlord’s Reconciliation accounting records relating to Direct Costs at Landlord’s corporate office, during normal business hours, for the purpose of verifying the charges contained in such statement. The audit must be completed within sixty (60) days of Landlord’s receipt of Tenant’s Notice, unless such period is extended by Landlord (in Landlord’s reasonable discretion). Before conducting any audit however, Tenant must pay in full the amount of Direct Costs billed. Tenant may only review those records that specifically relate to Direct Costs. Tenant may not review any other leases or Landlord’s tax returns or financial statements. In conducting an audit, Tenant must utilize an independent certified public accountant experienced in auditing records related to commercial property operations and shall not be compensated on a contingent fee basis. The proposed accountant is subject to Landlord’s reasonable prior approval. The audit shall be conducted in accordance with generally accepted rules of auditing practices. Tenant may not conduct an audit more often than once each calendar year. Tenant may audit records relating to a calendar year only one time. No audit shall cover a period of time other than the calendar year from which Landlord’s Reconciliation was generated. Upon receipt thereof, Tenant shall deliver to Landlord a copy of the audit report and all accompanying data. Tenant and Tenant’s auditor shall keep confidential any agreements involving the rights provided in this section and the results of any audit conducted hereunder. As a condition precedent to Tenant’s right to conduct an audit, Tenant’s auditor shall sign a confidentiality agreement in a form reasonably acceptable to Landlord. However, Tenant shall be permitted to furnish information to its attorneys, accountants and auditors to the extent necessary to perform their respective services for Tenant.

6.5Definition of Rent. All costs and expenses other than Base Rent, that Tenant assumes or agrees or is obligated to pay to Landlord under this Lease shall be deemed additional rent (which, together with the Base Rent, is sometimes referred to as “Rent”).

6.6Taxes on Tenant’s Use and Occupancy. In addition to the Rent and any other charges to be paid by Tenant hereunder, Tenant shall pay Landlord upon demand for any and all taxes payable by Landlord (other than net income taxes) which are not otherwise reimbursable under this Lease, whether or not now customary or within the contemplation of the parties, where such taxes are upon, measured by or reasonably attributable to (a) the cost or value of Tenant’s equipment, furniture, fixtures and other personal property located in the Premises, or the cost or value of any leasehold improvements made in or to the Premises by or for Tenant; (b) the gross or net Rent payable under this Lease, including, without limitation, any rental or gross receipts tax levied by any taxing authority with respect to the receipt of the Rent hereunder; (c) the possession, leasing, operation, management, 

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maintenance, alteration, repair, use or occupancy by Tenant of the Premises or any portion thereof; or (d) this transaction or any document to which Tenant is a party creating or transferring an interest or an estate in the Premises. If it becomes unlawful for Tenant to reimburse Landlord for any costs as required under this Lease, the Base Rent shall be revised to net Landlord the same net Rent after imposition of any tax or other charge upon Landlord as would have been payable to Landlord but for the reimbursement being unlawful.

7.LATE CHARGES.

If Tenant fails to pay when due any Rent or other amounts or charges which Tenant is obligated to pay under the terms of this Lease, then Tenant shall pay Landlord a late charge equal to ten percent (10%) of each such installment if any such installment is not received by Landlord within five (5) days from the date it is due. Tenant acknowledges that the late payment of any Rent will cause Landlord to lose the use of that money and incur costs and expenses not contemplated under this Lease including, without limitation, administrative costs and processing and accounting expenses, the exact amount of which is extremely difficult to ascertain. Landlord and Tenant agree that this late charge represents a reasonable estimate of such costs and expenses and is fair compensation to Landlord for the loss suffered as a result of such late payment by Tenant. However, the late charge is not intended to cover Landlord’s attorneys’ fees and costs relating to delinquent Rent. Acceptance of any late charge shall not constitute a waiver of Tenant’s default with respect to such late payment by nor prevent Landlord from exercising any other rights or remedies available to Landlord under this Lease. Late charges are deemed additional Rent.

In no event shall this provision for the imposition of a late charge be deemed to grant to Tenant a grace period or an extension of time within which to pay any Rent due hereunder or prevent Landlord from exercising any right or remedy available to Landlord upon Tenant’s failure to pay such Rent when due.

8.SECURITY DEPOSIT.

Upon execution of this Lease, Tenant agrees to deposit with Landlord a Security Deposit in the amount set forth in Section 2.15. as security for Tenant’s performance of its obligations under this Lease. Landlord and Tenant agree that the Security Deposit may be commingled with funds of Landlord and Landlord shall have no obligation or liability for payment of interest on such deposit. Tenant shall not mortgage, assign, transfer or encumber the Security Deposit without the prior written consent of Landlord and any attempt by Tenant to do so shall be void, without force or effect and shall not be binding upon Landlord.

If Tenant fails to timely pay any Rent or other amount due under this Lease, or fails to perform any of the terms hereof, Landlord may, at its option and without prejudice to any other remedy which Landlord may have, appropriate and apply or use all or any portion of the Security Deposit for Rent payments or any other amount then due and unpaid, for payment of any amount for which Landlord has become obligated as a result of Tenant’s default or breach, and for any loss or damage sustained by Landlord as a result of Tenant’s default or breach. If Landlord so uses any of the Security Deposit, Tenant shall, within ten (10) days after written demand therefor, restore the Security Deposit to the full amount originally deposited. Tenant’s failure to do so shall constitute an act of default hereunder and Landlord shall have the right to exercise any remedy provided for in Section 19. hereof.

If Tenant defaults under this Lease more than two (2) times during any calendar year, irrespective of whether such default is cured, then, without limiting Landlord’s other rights and remedies, Landlord may, in Landlord’s sole discretion, modify the amount of the required Security Deposit. Within ten (10) days after Notice of such modification, Tenant shall submit to Landlord the required additional sums. Tenant’s failure to do so shall constitute an act of default, and Landlord shall have the right to exercise any remedy provided for in Section 19. hereof.

If Tenant complies with all of the terms and conditions of this Lease, and Tenant is not in default on any of its obligations hereunder, then within the time period statutorily prescribed after Tenant vacates the Premises, Landlord shall return to Tenant (or, at Landlord’s option, to the last subtenant or assignee of Tenant’s interest hereunder) the Security Deposit less any expenditures made by Landlord to repair damages to the Premises caused by Tenant and to clean the Premises upon expiration or earlier termination of this Lease.

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9.TENANT’S USE OF THE PREMISES.

The provisions of this Section are for the benefit of the Landlord and are not nor shall they be construed to be for the benefit of any tenant of the Building or Project.

9.1Use. Tenant shall use the Premises solely for the purposes set forth in Section 2.19. No change in the Use of the Premises shall be permitted, except as provided in this Section 9.

9.1.1If, at any time during the Term hereof, Tenant desires to change the Use of the Premises, including any change in Use associated with a proposed assignment or sublet of the Premises, Tenant shall provide Notice to Landlord of its request for approval of such proposed change in Use. Tenant shall promptly supply Landlord with such information concerning the proposed change in Use as Landlord may reasonably request. Landlord shall have the right to approve such proposed change in Use, which approval shall not be unreasonably withheld. Landlord’s consent to any change in Use shall not be construed as a consent to any subsequent change in Use.

9.1.2Tenant shall be permitted access to the Premises, the Building and the parking area 24 hours per day/7 days per week. Before 8:00 a.m. and after 6:00 p.m. Monday through Friday and before 9:00 am and after 1:00 p.m. on Saturday and all day Sunday and recognized holidays (“Non-Business Hours”), Tenant shall access the Building and elevators via electronic card key access.

9.2Observance of Law. Tenant shall not use or occupy the Premises or permit anything to be done in or about the Premises in violation of any declarations, covenant, condition or restriction, or law, statute, ordinance or governmental rules, regulations or requirements now in force or which may hereafter be enacted or promulgated. Tenant shall, at its sole cost and expense, upon Notice from Landlord, immediately discontinue any use of the Premises which is declared by any governmental authority having jurisdiction to be a violation of law or of the Certificate of Occupancy. Tenant shall promptly comply, at its sole cost and expense, with all laws, statutes, ordinances and governmental rules, regulations or requirements now in force or which may hereafter be imposed which shall by reason of Tenant’s Use or occupancy of the Premises, impose any duty upon Tenant or Landlord with respect to Tenant’s Use or occupation. Further, Tenant shall, at Tenant’s sole cost and expense, maintain the Premises in compliance with all such laws, including the Americans With Disabilities Act of 1990, as amended (“ADA”), whether or not the necessity for compliance is triggered by Tenant’s Use, and Tenant shall make, at its sole cost and expense, any changes to the Premises required to accommodate Tenant’s employees with disabilities (any work performed pursuant to this Section shall be subject to the terms of Section 12. hereof). Notwithstanding the foregoing sentence to the contrary, Tenant shall not be responsible for any non-compliance with the ADA that exists on the Possession Date The judgment of any court of competent jurisdiction or the admission by Tenant in any action or proceeding against Tenant, whether Landlord is a party thereto or not, that Tenant has violated any such law, statute, ordinance, or governmental regulation, rule or requirement in the use or occupancy of the Premises, Building or Project shall be conclusive of that fact as between Landlord and Tenant.

9.3Insurance. Tenant shall not do or permit to be done anything which will contravene, invalidate or increase the cost of any insurance policy covering the Building or Project and/or property located therein, and shall comply with all rules, orders, regulations, requirements and recommendations of Landlord’s insurance carrier(s) or any board of fire insurance underwriters or other similar body now or hereafter constituted, relating to or affecting the condition, use or occupancy of the Premises, excluding structural changes not related to or affected by Tenant’s improvements or acts. Tenant shall promptly upon demand reimburse Landlord for any additional premium charged for violation of this Section.

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9.4Nuisance and Waste. Tenant shall not do or permit anything to be done in or about the Premises which will in any way obstruct or interfere with the rights of other tenants or occupants of the Building or Project, or injure or annoy them, or use or allow the Premises to be used for any improper, unlawful or objectionable purpose. Tenant shall not cause, maintain or permit any nuisance in, on or about the Premises. Tenant shall not commit or suffer to be committed any waste in or upon the Premises. Tenant shall not install business machines or mechanical equipment which will in any manner cause noise objectionable to or injure other tenants in the Project.

9.5Load and Equipment Limits. Tenant shall not place a load upon any floor of the Premises which exceeds the load per square foot which such floor was designed to carry as determined by Landlord or Landlord’s structural engineer. The cost of any such determination made by Landlord’s structural engineer in connection with Tenant’s occupancy shall be paid by Tenant upon Landlord’s demand.

9.6Hazardous Material. Unless Tenant obtains the prior written consent of Landlord, Tenant shall not create, generate, use, bring, allow, emit, dispose, or permit on the Premises, Building or Project any toxic or hazardous gaseous, liquid, or solid material or waste, or any other hazardous material defined or listed in any applicable federal, state or local law, rule, regulation or ordinance. If Landlord grants its consent, Tenant shall comply with all applicable laws with respect to such hazardous material, including all laws affecting the use, storage and disposal thereof. If the presence of any hazardous material brought to the Premises, Building or Project by Tenant or Tenant’s employees, agent or contractors results in contamination, Tenant shall promptly take all actions necessary, at Tenant’s sole cost and expense, to remediate the contamination and restore the Premises, Building or Project to the condition that existed before introduction of such hazardous material. Tenant shall first obtain Landlord’s approval of the proposed remedial action and shall keep Landlord informed during the process of remediation.

Tenant shall indemnify, defend and hold Landlord harmless from any claims, liabilities, costs or expenses incurred or suffered by Landlord arising from such bringing, allowing, using, permitting, generating, creating, emitting, or disposing of toxic or hazardous material whether or not consent to same has been granted by Landlord. Tenant’s duty to defend, hold harmless and indemnify Landlord hereunder shall survive the expiration or termination of this Lease. The consent requirement contained herein shall not apply to ordinary office products that may contain de minimis quantities of hazardous material; however, Tenant’s indemnification obligations are not diminished with respect to the presence of such products. Tenant acknowledges that Tenant has an affirmative duty to immediately notify Landlord of any release or suspected release of hazardous material in the Premises or on or about the Project.

Medical waste and any other waste, the removal of which is regulated, shall be contracted for and disposed of by Tenant, at Tenant’s expense, in accordance with all applicable laws and regulations. No material shall be placed in Project trash boxes, receptacles or Common Areas if the material is of such a nature that it cannot be disposed of in the ordinary and customary manner of removing and disposing of trash and garbage in the State without being in violation of any law or ordinance.

10.SERVICES AND UTILITIES.

Landlord agrees to furnish services and utilities to the Premises twenty-four (24) hours per day, seven (7) days per week, three hundred sixty-five (265) days per year (collectively, “Tenant’s Operating Hours”) subject to the current Rules and Regulations of the Building or Project, a copy of which is attached hereto as Exhibit C, and provided that Tenant is not in default hereunder. Services and utilities shall include reasonable quantities of electricity (for the Common Area), up to 800 amps of electricity for Tenant’s lights and plugs for normal use as general office and a 24 hour call/data center, heating, ventilation and air conditioning (HVAC) as required in Landlord’s reasonable judgment for the comfortable use and occupancy of the Premises; lighting replacement for building standard lights (for the Common Area); window washing and janitor services in a manner that such services are

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customarily furnished to comparable office buildings in the area. Landlord shall supply common area water for drinking, cleaning and restroom purposes only. During Tenant’s Operating Hours, Landlord shall also maintain and keep lighted the common stairs, common entries and restrooms in the Building and shall furnish elevator service and restroom supplies. If Tenant desires HVAC or other customary Building services during Non-Business Hours, Landlord shall use reasonable efforts to furnish such service upon reasonable notice from Tenant, and Tenant shall pay Landlord’s charges therefor on demand. Landlord may provide telecommunications lines and systems as discussed in Section 35. hereof. HVAC units serving the Premises shall be replaced in accordance with Exhibit D attached hereto. Upon and after execution of this Lease by Landlord and Tenant, Landlord and Tenant agree that they will use good-faith and commercially reasonable and diligent efforts to negotiate a mutually agreeable amended Exhibit D to be attached to this Lease, which amended Exhibit D shall (a) provide more detailed specifications and requirements for when HVAC units serving the Premises need to be replaced, and (b) be consistent with the purpose and intent of the original Exhibit D (i.e., the Exhibit D attached to Lease upon Lease execution).

Tenant, at Tenant’s sole cost and expense, shall: (i) obtain and pay for all electricity used to power the lights and electrical outlets located within the Premises as measured by a separate meter to the Premises; (ii) obtain and pay for all replacement bulbs and ballasts in the Premises; and (iii) supply all paper and other products used within the Premises. Upon Tenant’s request, Landlord shall replace bulbs and ballasts in the Premises, and Tenant shall pay Landlord for the cost of such light bulbs and ballasts plus Landlord’s reasonable administrative and labor costs associated with light bulb and ballast replacement.

If permitted by law, Landlord shall have the right, in Landlord’s reasonable discretion, from time to time during the Term and upon thirty (30) days prior written notice to Tenant (except that no notice is necessary in the event of an emergency or electricity shortage or stoppage), to contract for the provision of electricity (or any other utility) with, and to switch from, any company providing such utility so long as the provision of any such services does not materially adversely affect Tenant’s operations. Tenant shall cooperate with Landlord and any such utility provider at all times, and, as reasonably necessary, Tenant shall allow such parties access to the electric (or other utility) lines, feeders, risers, wiring and other machinery located within the Premises.

Landlord shall not be in default hereunder or be liable for any damages directly or indirectly resulting from, nor shall Rent be abated by reason of (a) the installation, use or interruption of use of any equipment in connection with the furnishing of any of the foregoing services, or (b) failure to furnish or delay in furnishing any such services where such failure or delay is caused by accident or any condition or event beyond the reasonable control of Landlord, or by the making of necessary repairs or improvements to the Premises, Building or Project, or (c) any change, failure, interruption, disruption or defect in the quantity or character of the electricity (or other utility) supplied to the Premises or Project, or (d) the limitation, curtailment or rationing of, or restrictions on, use of water, electricity, gas or any other form of energy serving the Premises, Building or Project. Landlord shall not be liable under any circumstances for a loss of or injury to property or business, however occurring, through, in connection with or incidental to the failure to furnish any such services.

Notwithstanding anything contained herein to the contrary, if Tenant is granted the right to purchase electricity from a provider other than the company or companies used by Landlord, Tenant shall indemnify, defend, and hold harmless Landlord from and against all losses, claims, demands, expenses and judgments caused by, or directly or indirectly arising from, the acts or omissions of Tenant’s electricity provider (including, but not limited to, expenses and/or fines incurred by Landlord in the event Tenant’s electricity provider fails to provide sufficient power to the Premises, as well as damages resulting from the improper or faulty installation or construction of facilities or equipment in or on the Premises by Tenant or Tenant’s electricity provider).

If Tenant uses heat generating machines or equipment in the Premises that affects the temperature otherwise maintained by the HVAC system, Landlord reserves the right to install supplementary air conditioning units in the Premises and the cost thereof, including the cost of installation, operation and maintenance thereof, shall be paid by Tenant to Landlord upon demand therefor.

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11.REPAIRS AND MAINTENANCE.

11.1Landlord’s Obligations. Landlord shall make structural repairs except as specified herein and shall maintain in good order, condition and repair the Building and all other portions of the Premises not the obligation of Tenant or of any other tenant in the Building, the cost of which shall be part of Operating Expenses. If applicable, Landlord shall also maintain in good order, condition and repair the ICN, the cost of which is a reimbursable expense unless responsibility therefor is assigned to a particular tenant.

11.2Tenant’s Obligations.

11.2.1Tenant shall, at Tenant’s sole expense and except for services furnished by Landlord pursuant to Section 10. hereof, maintain the Premises in good order, condition and repair. For the purposes of this Section 11.2.1., the term Premises shall be deemed to include all items and equipment installed by or for the benefit of or at the expense of Tenant, including without limitation the interior surfaces of the ceilings, walls and floors; all doors; all interior and exterior windows; dedicated heating, ventilating and air conditioning equipment; all plumbing, pipes and fixtures; electrical switches and fixtures; internal wiring as it connects to the ICN, if applicable.

11.2.2Tenant shall be responsible for all repairs and alterations in and to the Premises, Building and Project and the facilities and systems thereof to the satisfaction of Landlord, the need for which arises out of (a) Tenant’s use or occupancy of the Premises, (b) the installation, removal, use or operation of Tenant’s Property (as defined in Section 13.) in the Premises, (c) the moving of Tenant’s Property into or out of the Building, or (d) the act, omission, misuse or negligence of Tenant, its agents, contractors, employees or invitees.

11.2.3If Tenant fails to maintain the Premises in good order, condition and repair, Landlord shall give Notice to Tenant to do such acts as are reasonably required to so maintain the Premises. If Tenant fails to promptly commence such work and diligently prosecute it to completion, then Landlord shall have the right to do such acts and expend such funds at the expense of Tenant as are reasonably required to perform such work.

11.3Compliance with Law. Landlord and Tenant shall each do all acts necessary to comply with all applicable laws, statutes, ordinances, and rules of any public authority relating to their respective maintenance obligations as set forth herein. The provisions of Section 9.2. are deemed restated here.

11.4Notice of Defect. If it is Landlord’s obligation to repair, Tenant shall give Landlord prompt Notice, regardless of the nature or cause, of any damage to or defective condition in any part or appurtenance of the Building’s mechanical, electrical, plumbing, HVAC or other systems serving, located in, or passing through the Premises.

11.5Landlord’s Liability. Except as otherwise expressly provided in this Lease, Landlord shall have no liability to Tenant nor shall Tenant’s obligations under this Lease be reduced or abated in any manner by reason of any inconvenience, annoyance, interruption or injury to business arising from Landlord’s making any repairs or changes which Landlord is required or permitted by this Lease or by any other tenant’s lease or required by law to make in or to any portion of the Project, Building or Premises. Landlord shall nevertheless use reasonable efforts to minimize any interference with Tenant’s conduct of its business in the Premises and, except in the event of an emergency, shall give Tenant at least ten (10) days prior written notice of the expected date of commencement of any such repairs or changes.

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12.CONSTRUCTION, ALTERATIONS AND ADDITIONS.

12.1Landlord’s Construction Obligations. Landlord shall perform Landlord’s Work to the Premises as described in Exhibit “B.”

12.2Tenant’s Construction Obligations. Intentionally deleted.

12.3Tenant’s Alterations and Additions. Tenant shall not make any other additions, alterations or improvements to the Premises without obtaining the prior written consent of Landlord. Landlord’s consent may be conditioned, without limitation, on Tenant removing any such additions, alterations or improvements upon the expiration of the Term and restoring the Premises to the same condition as on the date Tenant took possession. Any and all additions, alterations or improvements performed by or on behalf of Tenant shall comply with all applicable laws, ordinances, codes and rules of any public authority (including, but not limited to the ADA) (collectively, “Legal Requirements”)and shall be done in a good and professional manner by properly qualified and licensed personnel approved by Landlord. All work shall be diligently prosecuted to completion. Upon completion, Tenant shall furnish Landlord “as-built” plans. Prior to commencing any such work, Tenant shall furnish Landlord with plans and specifications; names and addresses of contractors; copies of all contracts; copies of all necessary permits; evidence of contractor’s and subcontractor’s insurance coverage for Builder’s Risk at least as broad as Insurance Services Office (ISO) special causes of loss form CP 10 30, Commercial General Liability at least as broad as ISO CG 00 01, workers’ compensation, employer’s liability and auto liability, all in amounts reasonably satisfactory to Landlord; and indemnification in a form reasonably satisfactory to Landlord. The work shall be performed in a manner that will not interfere with the quiet enjoyment of the other tenants in the Building in which the Premises is located.

Landlord may require, in Landlord’s sole discretion and at Tenant’s sole cost and expense, that Tenant provide Landlord with a lien and completion bond in an amount equal to at least one and one half (1 1/2) times the total estimated cost of any additions, alterations or improvements to be made in or to the Premises. Nothing contained in this Section 12.3 shall relieve Tenant of its obligation under Section 12.4. to keep the Premises, Building and Project free of all liens.

12.4Payment. Tenant shall pay the costs of any work done on the Premises pursuant to Sections 12.2. and 12.3 and shall keep the Premises, Building and Project free and clear of liens of any kind. Tenant hereby indemnifies, and agrees to defend against and keep Landlord free and harmless from all liability, loss, damage, costs, reasonable attorneys’ fees and any other expense incurred on account of claims by any person performing work or furnishing materials or supplies for Tenant or any person claiming under Tenant.

Tenant shall give Notice to Landlord at least ten (10) business days prior to the expected date of commencement of any work relating to alterations, additions or improvements to the Premises. Landlord retains the right to enter the Premises and post such notices as Landlord deems proper at any reasonable time.

12.5Property of Landlord. Except as otherwise set forth herein, all additions, alterations and improvements made to the Premises shall become the property of Landlord and shall be surrendered with the Premises upon the expiration of the Term unless their removal is required by Landlord as provided in Section 12.3., provided, however, Tenant’s equipment, machinery and trade fixtures shall remain the Property of Tenant and shall be removed.

13.LEASEHOLD IMPROVEMENTS; TENANT’S PROPERTY.

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 13.1 Leasehold Improvements. All fixtures, equipment (including air-conditioning or heating systems), improvements and appurtenances attached to or built into the Premises at the commencement or during the Term of the Lease (“Leasehold Improvements”), whether or not by or at the expense of Tenant, shall be and remain a part of the Premises, shall be the property of Landlord and shall not be removed by Tenant, except as expressly provided in Section 13.2., unless Landlord, by Notice to Tenant not later than thirty (30) days prior to the expiration of the Term, elects to have Tenant remove any Leasehold Improvements installed by Tenant. In such case, Tenant, at Tenant’s sole cost and expense and prior to the expiration of the Term, shall remove the Leasehold Improvements and repair any damage caused by such removal.

13.2Tenant’s Property. All signs, notices, displays, movable partitions, business and trade fixtures, machinery and equipment (including, without limitation, equipment purchased by Tenant with Tenant’s personal funds (i.e., excluding items purchased with any allowance or other funds provided to Tenant by Landlord), such as the back-up generators, uninterrupted power supply system and emergency standby battery system, but excluding air-conditioning or heating systems, whether installed by Tenant or not), personal telecommunications equipment and office equipment located in the Premises and acquired by or for the account of Tenant, without expense to Landlord, which can be removed without structural damage to the Building, and all furniture, furnishings and other articles of movable personal property owned by Tenant and located in the Premises (collectively, “Tenant’s Property”) shall be and shall remain the property of Tenant and may be removed by Tenant at any time during the Term so long as Tenant is not in default of its obligations under this Lease; provided that if any of Tenant’s Property is removed, Tenant shall promptly repair any damage to the Premises or to the Building resulting from such removal, including without limitation repairing the flooring and patching and painting the walls where required by Landlord to Landlord’s reasonable satisfaction, all at Tenant’s sole cost and expense.

14.INDEMNIFICATION.

14.1Tenant Indemnification. Tenant shall indemnify and hold Landlord harmless from and against any and all liability and claims of any kind for loss or damage to any person or property arising out of: (a) Tenant’s use and occupancy of the Premises, or the Building or Project, or any work, activity or thing done, allowed or suffered by Tenant in, on or about the Premises, the Building or the Project; (b) any breach or default by Tenant of any of Tenant’s obligations under this Lease; or (c) any negligent or otherwise tortious act or omission of Tenant, its agents, employees, subtenants, licensees, customers, guests, invitees or contractors (including agents or contractors who perform work outside of the Premises for Tenant). At Landlord’s request, Tenant shall, at Tenant’s expense, and by counsel satisfactory to Landlord, defend Landlord in any action or proceeding arising from any such claim. Tenant shall indemnify Landlord against all costs, reasonable attorneys’ fees, expert witness fees and any other expenses or liabilities incurred in such action or proceeding. As a material part of the consideration for Landlord’s execution of this Lease, Tenant hereby assumes all risk of damage or injury to any person or property in, on or about the Premises from any cause and Tenant hereby waives all claims in respect thereof against Landlord, except in connection with damage or injury resulting solely from the negligence or willful misconduct of Landlord or its authorized agents.

14.2Landlord Not Liable. Landlord shall not be liable for injury or damage which may be sustained by the person or property of Tenant, its employees, invitees or customers, or any other person in or about the Premises, caused by or resulting from fire, steam, electricity, gas, water or rain which may leak or flow from or into any part of the Premises, or from the breakage, leakage, obstruction or other defects of pipes, sprinklers, wires, appliances, plumbing, air conditioning, lighting fixtures or mechanical or electrical systems, whether such damage or injury results from conditions arising upon the Premises or upon other portions of the Building or Project or from other sources, unless the condition was the sole result of Landlord’s gross negligence or willful misconduct. Landlord shall not be liable for any damages arising from any act or omission of any other tenant of the Building or Project or for the acts of persons in, on or about the Premises, Building or the Project who are not the authorized agents of Landlord or for losses due to theft, vandalism or like causes.

Tenant acknowledges that Landlord’s election to provide mechanical surveillance or to post security personnel in the Building or on the Project is solely within Landlord’s discretion. Landlord shall have no liability in connection with the decision whether or not to provide such services, and, to the extent permitted by law, Tenant hereby waives all claims based thereon.

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15.TENANT’S INSURANCE.

15.1Insurance Requirement. Tenant shall procure and maintain insurance coverage in accordance with the terms hereof, either as specific policies or within blanket policies. Coverage shall begin on the date Tenant is given access to the Premises for any purpose and shall continue until expiration of the Term, except as otherwise set forth in the Lease. The cost of such insurance shall be borne by Tenant.

Insurance shall be with insurers licensed to do business in the State, and acceptable to Landlord. The insurers must have a current A.M. Best’s rating of not less than A:XII, or equivalent (as reasonably determined by Landlord) if the Best’s rating system is discontinued.

Tenant shall furnish Landlord with original certificates and amendatory endorsements effecting coverage required by this Section 15. before the date Tenant is first given access to the Premises. All certificates and endorsements are to be received and approved by Landlord before any work commences. Landlord reserves the right to inspect and/or copy any insurance policy required to be maintained by Tenant hereunder, or to require complete, certified copies of all required insurance policies, including endorsements effecting the coverage required herein at any time. Tenant shall comply with such requirement within thirty (30) days of demand therefor by Landlord. Tenant shall furnish Landlord with renewal certificates and amendments or a “binder” of any such policy at least twenty (20) days prior to the expiration thereof. Each insurance policy required herein shall be endorsed to state that coverage shall not be canceled, except after thirty (30) days prior written notice to Landlord and Landlord’s lender (if such lender’s address is provided).

The Commercial General Liability policy, as hereinafter required, shall contain, or be endorsed to contain, the following provisions: (a) Landlord and any parties designated by Landlord shall be covered as additional insureds as their respective interests may appear; and (b) Tenant’s insurance coverage shall be primary insurance as to any insurance carried by the parties designated as additional insureds. Any insurance or self-insurance maintained by Landlord shall be excess of Tenant’s insurance and shall not contribute with it.

15.2Minimum Scope of Coverage. Coverage shall be at least as broad as set forth herein. However, if, because of Tenant’s Use or occupancy of the Premises, Landlord determines, in Landlord’s reasonable judgment, that additional insurance coverage or different types of insurance are necessary, then Tenant shall obtain such insurance at Tenant’s expense in accordance with the terms of this Section 15.

15.2.1Commercial General Liability (ISO occurrence form CG 00 01) which shall cover liability arising from Tenant’s Use and occupancy of the Premises, its operations therefrom, Tenant’s independent contractors, products-completed operations, personal injury and advertising injury, and liability assumed under an insured contract.

15.2.2Workers’ Compensation insurance as required by law, and Employers Liability insurance.

15.2.3Commercial Property Insurance (ISO special causes of loss form CP 10 30) against all risk of direct physical loss or damage (including flood, if applicable), earthquake excepted, for: (a) all leasehold improvements (including any alterations, additions or improvements made by Tenant pursuant to the provisions of Section 12. hereof) in, on or about the Premises; and (b) trade fixtures, merchandise and Tenant’s Property from time to time in, on or about the Premises. The proceeds of such property insurance shall be used for the repair or replacement of the property so insured. Upon termination of this Lease following a casualty as set forth herein, the proceeds under (a) shall be paid to Landlord, and the proceeds under (b) above shall be paid to Tenant.

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15.2.4Business Auto Liability.

15.2.5Business Interruption and Extra Expense Insurance.

15.3Minimum Limits of Insurance. Tenant shall maintain limits not less than:

15.3.1Commercial General Liability: $1,000,000 per occurrence. If the insurance contains a general aggregate limit, either the general aggregate limit shall apply separately to this location or the general aggregate limit shall be at least twice the required occurrence limit.

15.3.2Employer’s Liability: $1,000,000 per accident for bodily injury or disease.

15.3.3Commercial Property Insurance: 100% replacement cost with no coinsurance penalty provision.

15.3.4Business Auto Liability: $1,000,000 per accident.

15.3.5Business Interruption and Extra Expense Insurance: In a reasonable amount and comparable to amounts carried by comparable tenants in comparable projects.

15.4Deductible and Self-Insured Retention. Any deductible or self-insured retention in excess of $5,000 per occurrence must be declared to and approved by Landlord. At the option of Landlord, either the insurer shall reduce or eliminate such deductible or self-insured retention or Tenant shall provide separate insurance conforming to this requirement.

15.5Increases in Insurance Policy Limits. If the coverage limits set forth in this Section 15. are deemed inadequate by Landlord or Landlord’s lender, then Tenant shall increase the coverage limits to the amounts reasonably recommended by either Landlord or Landlord’s lender.

15.6Waiver of Subrogation. Landlord and Tenant each hereby waive all rights of recovery against the other and against the officers, employees, agents and representatives, contractors and invitees of the other, on account of loss by or damage to the waiving party or its property or the property of others under its control, to the extent that such loss or damage is insured against under any insurance policy which may have been in force at the time of such loss or damage.

15.7Landlord’s Right to Obtain Insurance for Tenant. If Tenant fails to obtain the insurance coverage or fails to provide certificates and endorsements as required by this Lease, Landlord may, at its option, obtain such insurance for Tenant. Tenant shall pay, as Additional Rent, the reasonable cost thereof together with a ten percent (10%) service charge.

16.DAMAGE OR DESTRUCTION.

16.1Damage. If, during the Term of this Lease, the Premises or the portion of the Building necessary for Tenant’s occupancy is damaged by fire or other casualty covered by fire and extended coverage insurance carried by Landlord, Landlord shall promptly repair the damage provided (a) such repairs can, in Landlord’s opinion, be completed, under applicable laws and regulations, within two hundred seventy (270) days of the date a permit for such construction is issued by the governing authority, (b) insurance proceeds are available to pay eighty percent (80%) or more of the cost of restoration, and (c) Tenant performs its obligations pursuant to Section 16.4. hereof. In such event, this Lease shall continue in full force and effect, except that if such damage is not the result of the negligence or willful misconduct of Tenant, its agents or employees, Tenant shall be entitled to a proportionate reduction of Rent to the extent Tenant’s use of the Premises is impaired commencing with the date of damage and continuing until completion of the repairs required of Landlord under Section 16.4. If the damage is due to the fault or neglect of Tenant, its agents or employees and loss of rental income insurance is denied as a result, there shall be no abatement of Rent.

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Notwithstanding anything contained in the Lease to the contrary, in the event of partial or total damage or destruction of the Premises during the last twelve (12) months of the Term, either party shall have the option to terminate this Lease upon thirty (30) days prior Notice to the other party provided such Notice is served within thirty (30) days after the damage or destruction. For purposes of this Section 16.1., “partial damage or destruction” shall mean the damage or destruction of at least thirty-three and one-third percent (33 and 1/3%) of the Premises, as determined by Landlord in Landlord’s reasonable discretion.

16.2Repair of Premises in Excess of Two Hundred Seventy Days. If in Landlord’s opinion, such repairs to the Premises or portion of the Building necessary for Tenant’s occupancy cannot be completed under applicable laws and regulations within two hundred seventy (270) days of the date a permit for such construction is issued by the governing authority, Landlord may elect, upon Notice to Tenant given within thirty (30) days after the date of such fire or other casualty, to repair such damage, in which event this Lease shall continue in full force and effect, but Rent shall be partially abated as provided in this Section 1. If Landlord does not so elect to make such repairs, this Lease shall terminate as of the date of such fire or other casualty.

16.3Repair Outside Premises. If any other portion of the Building or Project is totally destroyed or damaged to the extent that in Landlord’s reasonable opinion repair thereof cannot be completed under applicable laws and regulations within two hundred seventy (270) days of the date a permit for such construction is issued by the governing authority, Landlord may elect upon Notice to Tenant given within thirty (30) days after the date of such fire or other casualty, to repair such damage, in which event this Lease shall continue in full force and effect, but Rent shall be partially abated as provided in this Section 16. If Landlord does not elect to make such repairs, this Lease shall terminate as of the date of such fire or other casualty.

16.4Tenant Repair. If the Premises are to be repaired under this Section 16., Landlord shall repair at its cost any injury or damage to the Building. Notwithstanding anything contained herein to the contrary, Landlord shall not be obligated to perform work other than Landlord’s Work performed previously pursuant to Section 12.1. hereof. Tenant shall be responsible at its sole cost and expense for the repair, restoration and replacement of any other Leasehold Improvements and Tenant’s Property (as well as reconstructing and reconnecting Tenant’s internal telecommunications wiring and related equipment). Landlord shall not be liable for any loss of business, inconvenience or annoyance arising from any repair or restoration of any portion of the Premises, Building or Project as a result of any damage from fire or other casualty.

16.5Election to Perform Landlord’s Work. Notwithstanding anything to the contrary contained herein, Landlord shall provide Notice to Tenant of its intent to repair or replace the Premises (if Landlord elects to perform such work), and, within ten (10) business days of its receipt of such Notice, Tenant shall provide Notice to Landlord of its intent to reoccupy the Premises. Should Tenant fail to provide such Notice to Landlord, then such failure shall be deemed an election by Tenant to re-occupy the Premises and Landlord may elect to perform the repair or replacement of the Premises. Such election shall not result in a termination of this Lease and all obligations of Tenant hereunder shall remain in full force and effect, including the obligation to pay Rent.

16.6Express Agreement. This Lease shall be considered an express agreement governing any case of damage to or destruction of the Premises, Building or Project by fire or other casualty, and any present or future law which purports to govern the rights of Landlord and Tenant in such circumstances in the absence of an express agreement shall have no application.

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17.EMINENT DOMAIN.

17.1Whole Taking. If the whole of the Building or Premises is lawfully taken by condemnation or in any other manner for any public or quasi public purpose, this Lease shall terminate as of the date of such taking, and Rent shall be prorated to such date.

17.2Partial Taking. If less than the whole of the Building or Premises is so taken, this Lease shall be unaffected by such taking, provided that (a) Tenant shall have the right to terminate this Lease by Notice to Landlord given within ninety (90) days after the date of such taking if twenty percent (20%) or more of the Premises is taken and the remaining area of the Premises is not reasonably sufficient for Tenant to continue operation of its business, and (b) Landlord shall have the right to terminate this Lease by Notice to Tenant given within ninety (90) days after the date of such taking. If either Landlord or Tenant so elects to terminate this Lease, the Lease shall terminate on the thirtieth (30th) calendar day after either such Notice. Rent shall be prorated to the date of termination. If this Lease continues in force upon such partial taking, Base Rent and Tenant’s Proportionate Share shall be equitably adjusted.

17.3Proceeds. In the event of any taking, partial or whole, all of the proceeds of any award, judgment or settlement payable by the condemning authority shall be the exclusive property of Landlord, and Tenant hereby assigns to Landlord all of its right, title and interest in any award, judgment or settlement from the condemning authority; however, Tenant shall have the right, to the extent that Landlord’s award is not reduced or prejudiced, to claim from the condemning authority (but not from Landlord) such compensation as may be recoverable by Tenant in its own right for relocation expenses and damage to Tenant’s Property and damage to Leasehold Improvements installed at the sole expense of Tenant.

17.4Landlord’s Restoration. In the event of a partial taking of the Premises which does not result in a termination of this Lease, Landlord shall restore the remaining portion of the Premises as nearly as practicable to its condition prior to the condemnation or taking; provided however, Landlord shall not be obligated to perform work other than Landlord’s Work performed previously pursuant to Section 12.1. hereof. Tenant shall be responsible at its sole cost and expense for the repair, restoration and replacement of Tenant’s Property and any other Leasehold Improvements.

18.ASSIGNMENT AND SUBLETTING.

No assignment of this Lease or sublease of all or any part of the Premises shall be permitted, except as provided in this Section 18.

18.1No Assignment or Subletting. Tenant shall not, without the prior written consent of Landlord, assign or hypothecate this Lease or any interest herein or sublet the Premises or any part thereof, or permit the use of the Premises or any part thereof by any party other than Tenant. Any of the foregoing acts without such consent shall be voidable and shall, at the option of Landlord, constitute a default hereunder. This Lease shall not, nor shall any interest of Tenant herein, be assignable by operation of law without the prior written consent of Landlord.

18.1.1For purposes of this Section 18., the following shall be deemed an assignment:

      18.1.1.1If Tenant is a partnership, any withdrawal or substitution (whether voluntary, involuntary, or by operation of law, and whether occurring at one time or over a period of time) of any partner(s) owning twenty-five (25%) or more (cumulatively) of any interest in the capital or profits of the partnership, or the dissolution of the partnership;

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      18.1.1.2If Tenant is a corporation, any dissolution, merger, consolidation, or other reorganization of Tenant, any sale or transfer (or cumulative sales or transfers) of the capital stock of Tenant in excess of twenty-five percent (25%), or any sale (or cumulative sales) or transfer of fifty-one (51%) or more of the value of the assets of Tenant provided, however, the foregoing shall not apply to corporations the capital stock of which is publicly traded.

Notwithstanding anything in this Article XVIII to the contrary, Tenant shall have the right, upon at least thirty (30) days prior written notice to Landlord, without first obtaining Landlord’s consent, to assign this Lease or sublease all or any portion of the Premises (a) to an entity controlling, controlled by, or under common control with Tenant, or (b) to the surviving entity if Tenant merges or consolidates (provided that the surviving entity has a net worth as least equal to the greater of (i) the net worth of Tenant upon the date of this Lease or (ii) the net worth of Tenant prior to such merger or consolidation) (“each, an Affiliate”); provided, however, that Tenant shall (a) deliver to Landlord a copy of the executed assignment or sublease document, as the case may be, together with a written assumption from the transferee of all of the obligations of Tenant under the Lease, and (b) Tenant shall not be released from any obligations hereunder and shall continue to remain fully liable therefor. The term "control", as used in this paragraph, shall mean the power to direct or cause the direction of the management and policies of the controlled entity through the ownership of more than fifty percent (50%) of the voting securities in such controlled entity. Notwithstanding anything contained in this Article XVIII to the contrary, Tenant agrees not to enter into any lease, sublease, license, concession or other agreement for use, occupancy or utilization of the Premises which provides for rental or other payment based in whole or in part on the net income or profits derived by any person from the Premises (other than an amount based on a fixed percentage(s) of receipts or sales), and that any such purported lease, sublease, license, concession or other agreement shall be absolutely void and ineffective.

18.2Landlord’s Consent. If, at any time or from time to time during the Term hereof, Tenant desires to assign this Lease or sublet all or any part of the Premises, and if Tenant is not then in default under the terms of the Lease, Tenant shall submit to Landlord a written request for approval setting forth the terms and provisions of the proposed assignment or sublease, the identity of the proposed assignee or subtenant, and a copy of the proposed form of assignment or sublease. Tenant’s request for consent shall be submitted to Landlord at least thirty (30) days prior to the intended date of such transfer. Tenant shall promptly supply Landlord with such information concerning the business background and financial condition of such proposed assignee or subtenant as Landlord may reasonably request. Landlord shall have the right to approve such proposed assignee or subtenant, which approval shall not be unreasonably withheld, conditioned or delayed. In no event however, shall Landlord be required to consent to any assignment or sublease (a) to an existing tenant in the Project or (b) that may violate any restrictions contained in any mortgage, lease or agreement affecting the Project. Landlord’s consent to any assignment shall not be construed as a consent to any subsequent assignment, subletting, transfer of partnership interest or stock, occupancy or use.

18.2.1Landlord’s approval shall be conditioned, among other things, on Landlord’s receiving adequate assurances of future performance under this Lease and any sublease or assignment. In determining the adequacy of such assurances, Landlord may base its decision on such factors as it deems appropriate, including but not limited to:

      18.2.1.1that the source of rent and other consideration due under this Lease, and, in the case of assignment, that the financial condition and operating performance and business experience of the proposed assignee and its guarantors, if any, shall be equal to or greater than the financial condition and operating performance and experience of Tenant and its guarantors, if any, as of the time Tenant became the lessee under this Lease;

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      18.2.1.2that any assumption or assignment of this Lease will not result in increased cost or expense, wear and tear, greater traffic or demand for services and utilities provided by Landlord pursuant to Section 10. hereof and will not disturb or be detrimental to other tenants of Landlord;

 18.2.1.3whether the proposed assignee’s use of the Premises will include the use of Hazardous Material, or will in any way increase any risk to Landlord relating to Hazardous Material; and

      18.2.1.4that assumption or assignment of such lease will not disrupt any tenant mix or balance in the project.

    18.2.2The assignment or sublease shall be on the same terms and conditions set forth in the written request for approval given to Landlord, or, if different, upon terms and conditions consented to by Landlord;

18.2.3No assignment or sublease shall be valid and no assignee or sublessee shall take possession of the Premises or any part thereof until an executed counterpart of such assignment or sublease has been delivered to Landlord;

18.2.4No assignee or sublessee shall have a further right to assign or sublet except on the terms herein contained;

18.2.5Any sums or other economic considerations received by Tenant as a result of such assignment or subletting, however denominated under the assignment or sublease, which exceed, in the aggregate (a) the total sums which Tenant is obligated to pay Landlord under this Lease (prorated to reflect obligations allocable to any portion of the Premises subleased), plus (b) any real estate brokerage commissions or fees payable to third parties and actual, out-of-pocket and documented market-rate marketing costs, improvement allowances and other lease concessions in connection with such assignment or subletting, shall be shared equally by Tenant and Landlord as Additional Rent under this Lease without effecting or reducing any other obligations of Tenant hereunder.

If Landlord consents to the proposed transfer, Tenant shall deliver to Landlord three (3) fully executed original documents (in the form previously approved by Landlord) and Landlord shall attach its consent thereto. Landlord shall retain one (1) fully executed original document. No transfer of Tenant’s interest in this Lease shall be deemed effective until the terms and conditions of this Section 18. have been fulfilled.

18.3Tenant Remains Responsible. No subletting or assignment shall release Tenant of Tenant’s obligations under this Lease or alter the primary liability of Tenant to pay the Rent and to perform all other obligations to be performed by Tenant hereunder. The acceptance of Rent by Landlord from any other person shall not be deemed to be a waiver by Landlord of any provision hereof. Consent to one assignment or subletting shall not be deemed consent to any subsequent assignment or subletting. In the event of default by an assignee or subtenant of Tenant or any successor of Tenant in the performance of any of the terms hereof, Landlord may proceed directly against Tenant without the necessity of exhausting remedies against such assignee, subtenant or successor. Landlord may consent to subsequent assignments or sublets of the Lease or amendments or modifications to the Lease with assignees of Tenant, without notifying Tenant, or any successor of Tenant, and without obtaining its or their consent thereto and any such actions shall not relieve Tenant of liability under this Lease.

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18.4Conversion to a Limited Liability Entity. Notwithstanding anything contained herein to the contrary, if Tenant is a limited or general partnership (or is comprised of two (2) or more persons, individually or as co-partners, or entities), the change or conversion of Tenant to (a) a limited liability company, (b) a limited liability partnership, or (c) any other entity which possesses the characteristics of limited liability (any such limited liability entity is collectively referred to herein as a “Successor Entity”) shall be prohibited unless the prior written consent of Landlord is obtained, which consent may be withheld in Landlord’s sole discretion.

18.4.1Notwithstanding the preceding paragraph, Landlord agrees not to unreasonably withhold or delay such consent provided that:

18.4.1.1The Successor Entity succeeds to all or substantially all of Tenant’s business and assets;

18.4.1.2The Successor Entity shall have a tangible net worth (“Tangible Net Worth”), determined in accordance with generally accepted accounting principles, consistently applied, of not less than the greater of the Tangible Net Worth of Tenant on (a) the date of execution of the Lease, or (b) the day immediately preceding the proposed effective date of such conversion; and

18.4.1.3Tenant is not in default of any of the terms, covenants, or conditions of this Lease on the propose effective date of such conversion.

18.5Payment of Fees. If Tenant assigns the Lease or sublets the Premises or requests the consent of Landlord to any assignment, subletting or conversion to a limited liability entity, then Tenant shall, upon demand, pay Landlord, whether or not consent is ultimately given, an administrative fee of Three Hundred and 00/100 Dollars ($300.00) plus costs and other reasonable expenses incurred by Landlord in connection with each such act or request.

19.DEFAULT.

19.1Tenant’s Default. The occurrence of any one or more of the following events shall constitute a default and breach of this Lease by Tenant.

19.1.1If Tenant abandons or vacates the Premises for ten (10) or more consecutive business days.

19.1.2If Tenant fails to pay any Rent or additional Rent or any other charges required to be paid by Tenant under this Lease and such failure continues for five (5) days after receipt of Notice thereof from Landlord to Tenant.

19.1.3If Tenant fails to promptly and fully perform any other covenant, condition or agreement contained in this Lease and such failure continues for thirty (30) days after Notice thereof from Landlord to Tenant, or, if such default cannot reasonably be cured within thirty (30) days, if Tenant fails to commence to cure within that thirty (30) day period and diligently prosecute to completion.

19.1.4Intentionally Deleted.

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19.1.5Tenant’s failure to provide any document, instrument or assurance as required by Sections 12., 15., 18. and/or 35. if the failure continues for three (3) days after receipt of Notice from Landlord to Tenant.

19.1.6To the extent provided by law:

19.1.6.1If a writ of attachment or execution is levied on this Lease or on substantially all of Tenant’s Property; or

19.1.6.2If Tenant or Tenant’s Guarantor makes a general assignment for the benefit of creditors; or

19.1.6.3If Tenant files a voluntary petition for relief or if a petition against Tenant in a proceeding under the federal bankruptcy laws or other insolvency laws is filed and not withdrawn or dismissed within sixty (60) days thereafter, or if under the provisions of any law providing for reorganization or winding up of corporations, any court of competent jurisdiction assumes jurisdiction, custody or control of Tenant or any substantial part of its property and such jurisdiction, custody or control remains in force unrelinquished, unstayed or unterminated for a period of sixty (60) days; or

19.1.6.4If in any proceeding or action in which Tenant is a party, a trustee, receiver, agent or custodian is appointed to take charge of the Premises or Tenant’s Property (or has the authority to do so); or

19.1.6.5If Tenant is a partnership or consists of more than one (1) person or entity, if any partner of the partnership or other person or entity is involved in any of the acts or events described in Sections 19.1.6.1. through 19.1.6.4 above.

19.2Landlord Remedies. In the event of Tenant’s default hereunder, then, in addition to any other rights or remedies Landlord may have under any law or at equity, Landlord shall have the right to collect interest on all past due sums (at the maximum rate permitted by law to be charged by an individual), and, at Landlord’s option and without further notice or demand of any kind, to do the following:

19.2.1Terminate this Lease and Tenant’s right to possession of the Premises and reenter the Premises and take possession thereof, and Tenant shall have no further claim to the Premises or under this Lease; or

19.2.2Continue this Lease in effect, reenter and occupy the Premises for the account of Tenant, and collect any unpaid Rent or other charges which have or thereafter become due and payable; or

19.2.3Reenter the Premises under the provisions of Section 19.2.2., and thereafter elect to terminate this Lease and Tenant’s right to possession of the Premises.

If Landlord reenters the Premises under the provisions of Sections 19.2.2. or 19.2.3. above, Landlord shall not be deemed to have terminated this Lease or the obligation of Tenant to pay any Rent or other charges thereafter accruing unless Landlord notifies Tenant in writing of Landlord’s election to terminate this Lease. Acts of maintenance, efforts to relet the Premises or the appointment of a receiver on Landlord’s initiative to protect Landlord’s interest under this Lease shall not constitute a termination of Tenant’s obligations

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under the Lease. In the event of any reentry or retaking of possession by Landlord, Landlord shall have the right, but not the obligation, to remove all or any part of Tenant’s Property in the Premises and to place such property in storage at a public warehouse at the expense and risk of Tenant. If Landlord elects to relet the Premises for the account of Tenant, the rent received by Landlord from such reletting shall be applied as follows: first, to the payment of any indebtedness other than Rent due hereunder from Tenant to Landlord; second, to the payment of any costs of such reletting; third, to the payment of the cost of any alterations or repairs to the Premises; fourth to the payment of Rent due and unpaid hereunder; and the balance, if any, shall be held by Landlord and applied in payment of future Rent as it becomes due. If that portion of Rent received from the reletting which is applied against the Rent due hereunder is less than the amount of the Rent due, Tenant shall pay the deficiency to Landlord promptly upon demand by Landlord. Such deficiency shall be calculated and paid monthly. Tenant shall also pay to Landlord, as soon as determined, any costs and expenses incurred by Landlord in connection with such reletting or in making alterations and repairs to the Premises which are not covered by the rent received from the reletting.

19.3Damages Recoverable. Should Landlord elect to terminate this Lease under the provisions of Section 19.2., Landlord may recover as damages from Tenant the following:

19.3.1Past Rent and Expenses. The worth at the time of the award of any unpaid Rent that had been earned at the time of termination including the value of any Rent that was abated during the Term of the Lease (except Rent that was abated as a result of damage or destruction or condemnation) and the unamortized costs incurred in connection with this Lease, including brokerage commissions and tenant improvements costs and expenses, amortized over the initial Term of the Lease, including the Tenant Improvement Loan, which shall become immediately due and payable; plus

19.3.2Rent Prior to Award. The worth at the time of the award of the amount by which the unpaid Rent that would have been earned between the time of the termination and the time of the award exceeds the amount of unpaid Rent that Tenant proves could reasonably have been avoided; plus

19.3.3Rent After Award. The worth at the time of the award of the amount by which the unpaid Rent for the balance of the Term after the time of award exceeds the amount of the unpaid Rent that Tenant proves could be reasonably avoided; plus

19.3.4Proximately Caused Damages. Any other amount necessary to compensate Landlord for all detriment proximately caused by Tenant’s failure to perform its obligations under this Lease or which in the ordinary course of things would be likely to result therefrom, including, but not limited to, any costs or expenses (including attorneys’ fees), incurred by Landlord in (a) retaking possession of the Premises, (b) maintaining the Premises after Tenant’s default, (c) preparing the Premises for reletting to a new tenant, including any repairs or alterations, and (d) reletting the Premises, including brokers’ commissions.

“The worth at the time of the award” as used in Sections 19.3.1. and 19.3.2. above, is to be computed by allowing interest at the maximum rate permitted by law to be charged by an individual. “The worth at the time of the award” as used in Section 19.3.3. above, is to be computed by discounting the amount at the discount rate of the Federal Reserve Bank situated nearest to the Premises at the time of the award plus one percent (1%).

19.4Landlord’s Right to Cure Tenant’s Default. If Tenant defaults in the performance of any of its obligations under this Lease and Tenant has not timely cured the default after Notice, Landlord may (but shall not be obligated to), without waiving such default, perform the same for the account and at the expense of Tenant. Tenant shall pay Landlord all costs of such performance immediately upon written demand therefor, and if paid at a later date these costs shall bear interest at the maximum rate permitted by law to be charged by an individual.

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19.5Landlord’s Default. It is expressly understood and agreed that if Tenant obtains a money judgment against Landlord resulting from any default or other claim arising under this Lease, that judgment shall be satisfied only out Landlord’s right, title and interest in the Premises and the Building and the rents, issues, profits, and other income actually received on account thereof, and no other real, personal or mixed property of Landlord (or of any of the partners which comprise Landlord, if any), wherever situated, shall be subject to levy to satisfy such judgment.

19.6Mortgagee Protection. Tenant agrees to send by certified or registered mail to any first mortgagee or first deed of trust beneficiary of Landlord whose address has been furnished to Tenant, a copy of any notice of default served by Tenant on Landlord. If Landlord fails to cure such default within the time provided for in this Lease, then such mortgagee or beneficiary shall have such additional time to cure the default as is reasonably necessary under the circumstances.

20.WAIVER.

No delay or omission in the exercise of any right or remedy of Landlord upon any default by Tenant shall impair such right or remedy or be construed as a waiver of such default. The receipt and acceptance by Landlord of delinquent Rent shall not constitute a waiver of any other default: it shall constitute only a waiver of timely payment for the particular Rent payment involved (excluding the collection of a late charge or interest).

No act or conduct of Landlord, including, without limitation, the acceptance of keys to the Premises, shall constitute an acceptance of the surrender of the Premises by Tenant before the expiration of the Term. Only written acknowledgement from Landlord to Tenant shall constitute acceptance of the surrender of the Premises and accomplish a termination of this Lease.

Landlord’s consent to or approval of any act by Tenant requiring Landlord’s consent or approval shall not be deemed to waive or render unnecessary Landlord’s consent to or approval of any subsequent act by Tenant.

Any waiver by Landlord of any default must be in writing and shall not be a waiver of any other default concerning the same or any other provision of this Lease.

21.SUBORDINATION AND ATTORNMENT.

This Lease is and shall be subject and subordinate to all ground or underlying leases (including renewals, extensions, modifications, consolidations and replacements thereof) which now exist or may hereafter be executed affecting the Building or the land upon which the Building is situated, or both, and to the lien of any mortgages or deeds of trust in any amount or amounts whatsoever (including renewals, extensions, modifications, consolidations and replacements thereof) now or hereafter placed on or against the Building or on or against Landlord’s interest or estate therein, or on or against any ground or underlying lease, without the necessity of the execution and delivery of any further instruments on the part of Tenant to effectuate such subordination. Landlord shall use commercially reasonable efforts to obtain a commercially reasonable non-disturbance agreement for the benefit of Tenant from the holder of any ground or underlying lese and mortgage or deed of trust senior to this Lease. Nevertheless, Tenant covenants and agrees to execute and deliver upon demand, without charge therefor, such further instruments evidencing such subordination of this Lease to such ground or underlying leases, and to the lien of any such mortgages or deeds of trust as may be required by Landlord.

Notwithstanding anything contained herein to the contrary, if any mortgagee, trustee or ground lessor shall elect that this Lease is senior to the lien of its mortgage, deed of trust or ground lease, and shall give written notice thereof to Tenant, this Lease shall be deemed prior to such mortgage, deed of trust or ground lease, whether this Lease is dated prior or subsequent to the date of said mortgage, deed of trust, or ground lease, or the date of the recording thereof.

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In the event of any foreclosure sale, transfer in lieu of foreclosure or termination of the lease in which Landlord is lessee, Tenant shall attorn to the purchaser, transferee or lessor as the case may be, and recognize that party as Landlord under this Lease, provided such party acquires and accepts the Premises subject to this lease.

22.TENANT ESTOPPEL CERTIFICATES.

22.1Landlord Request for Estoppel Certificate. Within ten (10) days after written request from Landlord, Tenant shall execute and deliver to Landlord or Landlord’s designee, in the form requested by Landlord, a written statement certifying, among other things, (a) that this Lease is unmodified and in full force and effect, or that it is in full force and effect as modified and stating the modifications; (b) the amount of Base Rent and the date to which Base Rent and Additional Rent have been paid in advance; (c) the amount of any security deposited with Landlord; and (d) that Landlord is not in default hereunder or, if Landlord is claimed to be in default, stating the nature of any claimed default. Any such statement may be conclusively relied upon by a prospective purchaser, assignee or encumbrancer of the Premises.

22.2Failure to Execute. Tenant’s failure to execute and deliver such statement within the time required shall at Landlord’s election be a default under this Lease and shall also be conclusive upon Tenant that: (a) this Lease is in full force and effect and has not been modified except as represented by Landlord; (b) there are no uncured defaults in Landlord’s performance and that Tenant has no right of offset, counter claim or deduction against Rent and (c) not more than one month’s Rent has been paid in advance.

23.NOTICE.

Notice shall be in writing and shall be deemed duly served or given if personally delivered, sent by certified or registered U.S. Mail, postage prepaid with a return receipt requested, or sent by overnight courier service, fee prepaid with a return receipt requested, as follows: (a) if to Landlord, to Landlord’s Address for Notice with a copy to the Building manager and Landlord’s counsel at the address set forth in Section 2.7. hereof, and (b) if to Tenant, to Tenant’s Mailing Address; provided, however, Notices to Tenant shall be deemed duly served or given if delivered or sent to Tenant at the Premises. Landlord and Tenant may from time to time by Notice to the other designate another place for receipt of future Notice. Notwithstanding anything contained herein to the contrary, when an applicable State statute requires service of Notice in a particular manner, service of that Notice in accordance with those particular requirements shall replace rather than supplement any Notice requirement set forth in the Lease.

24.TRANSFER OF LANDLORD’S INTEREST.

In the event of any sale or transfer by Landlord of the Premises, Building or Project, and assignment of this Lease by Landlord, Landlord shall be and is hereby entirely freed and relieved of any and all liability and obligations contained in or derived from this Lease arising out of any act, occurrence or omission relating to the Premises, Building, Project or Lease occurring after the consummation of such sale or transfer, provided the purchaser shall expressly assume all of the covenants and obligations of Landlord under this Lease. This Lease shall not be affected by any such sale and Tenant agrees to attorn to the purchaser or assignee provided all of Landlord’s obligations hereunder are assumed by such transferee. If any security deposit or prepaid Rent has been paid by Tenant, Landlord shall transfer the security deposit or prepaid Rent to Landlord’s successor and upon such transfer, Landlord shall be relieved of any and all further liability with respect thereto.

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25.SURRENDER OF PREMISES.

25.1Clean and Same Condition. Upon the Expiration Date or earlier termination of this Lease, Tenant shall peaceably surrender the Premises to Landlord clean and in the same condition as when received, except for (a) reasonable wear and tear, (b) loss by fire or other casualty, and (c) loss by condemnation. Tenant shall remove Tenant’s Property no later than the Expiration Date. If Tenant is required by Landlord to remove any additions, alterations, or improvements under Section 12.3., Tenant shall complete such removal no later than the Expiration Date. Any damage to the Premises, including any structural damage, resulting from removal of any addition, alteration, or improvement made pursuant to Section and/or from Tenant’s use or from the removal of Tenant’s Property pursuant to Section 13.2. shall be repaired (in accordance with Landlord’s reasonable direction) no later than the Expiration Date by Tenant at Tenant’s sole cost and expense. On the Expiration Date, Tenant shall surrender all keys to the Premises.

25.2Failure to Deliver Possession. If Tenants fails to vacate and deliver possession of the Premises to Landlord on the expiration or sooner termination of this Lease as required by Section 12.3., Tenant shall indemnify, defend and hold Landlord harmless from all claims, liabilities and damages resulting from Tenant’s failure to vacate and deliver possession of the Premises, including, without limitation, claims made by a succeeding tenant resulting from Tenant’s failure to vacate and deliver possession of the Premises and rental loss which Landlord suffers.

25.3Property Abandoned. If Tenant abandons or surrenders the Premises, or is dispossessed by process of law or otherwise, any of Tenant’s Property left on the Premises shall be deemed to be abandoned, and, at Landlord’s option, title shall pass to Landlord under this Lease as by a bill of sale. If Landlord elects to remove all or any part of such Tenant’s Property, the cost of removal, including repairing any damage to the Premises or Building caused by such removal, shall be paid by Tenant.

26.HOLDING OVER.

Tenant shall not occupy the Premises after the Expiration Date without Landlord’s consent. If after expiration of the Term, Tenant remains in possession of the Premises with Landlord’s permission (express or implied), Tenant shall become a tenant from month to month only upon all the provisions of this Lease (except as to the term and Base Rent). Monthly Installments of Base Rent payable by Tenant during this period shall be increased to be one hundred fifty percent (150%) of the fair market rental value of the Premises (as reasonably determined by Landlord). The tenancy may be terminated by either party, effective on the last day of a calendar month, by delivering a Notice to the other party at least thirty (30) days prior thereto. Nothing contained in this Section 26. shall be construed to limit or constitute a waiver of any other rights or remedies available to Landlord pursuant to this Lease or at law.

27.RULES AND REGULATIONS.

Tenant agrees to comply with (and cause its agents, contractors, employees and invitees to comply with) the rules and regulations attached hereto as Exhibit “C” and with such reasonable modifications thereof and additions thereto as Landlord may from time to time make. Landlord agrees to enforce the rules and regulations uniformly against all tenants of the Project. Landlord shall not be liable, however, for any violation of said rules and regulations by other tenants or occupants of the Building or Project. In the event of any conflict between the terms and conditions of this Lease and the rules and regulations, the terms and conditions of this Lease shall govern.

28.CERTAIN RIGHTS RESERVED BY LANDLORD.

Landlord reserves the following rights, exercisable without (a) liability to Tenant for damage or injury to property, person or business; (b) being found to have caused an actual or constructive eviction from the Premises; or (c) being found to have disturbed Tenant’s use or possession of the Premises.

28.1Name. To name the Building and Project and to change the name or street address of the Building or Project.

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28.2Signage. To install and maintain all signs on the exterior and interior of the Building and Project.

28.3Access. To have pass keys to the Premises and all doors within the Premises, excluding Tenant’s files, vaults and safes.

28.4Physical Changes. To stripe or re-stripe, re-surface, enlarge, change the grade or drainage of and control access to the parking lot; to assign and reassign spaces for the exclusive or nonexclusive use of tenants (including Tenant); and to locate or relocate parking spaces assigned to Tenant, provided, however, that, except if required by any applicable law or other governing authority, any such physical changes shall not reduce Tenant’s allocation of parking spaces or materially adversely affect Tenant’s right to park an additional twenty-five (25) vehicles for twenty (20) minutes in the parking lot as further described in Section 2.11 of this Lease.

28.5Inspection. At any time during the Term, and on reasonable prior telephonic notice to Tenant, to inspect the Premises, and to show the Premises to any person having an existing or prospective interest in the Project or Landlord, and during the last twelve months of the Term, to show the Premises to prospective tenants thereof.

28.6Entry. To enter the Premises for the purpose of making inspections, repairs, alterations, additions or improvements to the Premises or the Building (including, without limitation, checking, calibrating, adjusting or balancing controls and other parts of the HVAC system), and to take all steps as may be necessary or desirable for the safety, protection, maintenance or preservation of the Premises or the Building or Landlord’s interest therein, or as may be necessary or desirable for the operation or improvement of the Building or in order to comply with laws, orders or requirements of governmental or other authority. Landlord agrees to use commercially reasonable efforts (except in an emergency) to minimize interference with Tenant’s business in the Premises in the course of any such entry.

28.7Common Area Regulation. To exclusively regulate and control use of the Common Area. Landlord shall have the right from time to time to designate or change the number, locations, size or configuration of the Building, including, without limitation, the Common Areas, exits and entrances of the Building and the parking areas located on the Property; provided, however, that Landlord shall not materially interfere with Tenant's enjoyment of or access to the Premises. Tenant shall not have the right to use those portions of the Common Areas designated from time to time by Landlord as for the exclusive use of one or more other tenants.

29.ADVERTISEMENTS AND SIGNS.

Tenant shall not affix, paint, erect or inscribe any sign, projection, awning, signal or advertisement of any kind to any part of the Premises, Building or Project, including without limitation the inside or outside of windows or doors, without the prior written consent of Landlord. Landlord shall have the right to remove any signs or other matter installed without Landlord’s permission, without being liable to Tenant by reason of such removal, and to charge the cost of removal to Tenant as Additional Rent hereunder, payable within ten (10) days of written demand by Landlord.

30.INTENTIONALLY DELETED.

31.GOVERNMENT ENERGY OR UTILITY CONTROLS.

In the event of imposition of federal, state or local government controls, rules, regulations, or restrictions on the use or consumption of energy or other utilities (including telecommunications) during the Term, both Landlord and Tenant shall be bound thereby. In the event of a difference in interpretation by Landlord and Tenant of any such controls, the interpretation of Landlord shall prevail and Landlord shall have the right to enforce compliance therewith, including the right of entry into the Premises to effect compliance.

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32.FORCE MAJEURE.

Any prevention, delay or stoppage of work to be performed by Landlord or Tenant which is due to strikes, labor disputes, inability to obtain labor, materials, equipment or reasonable substitutes therefor, acts of God, governmental restrictions or regulations or controls, judicial orders, enemy or hostile government actions, civil commotion, fire or other casualty, or other causes beyond the reasonable control of the party obligated to perform hereunder, shall excuse performance of the work by that party for a period equal to the duration of that prevention, delay or stoppage. Nothing in this Section 32. shall excuse or delay Tenant’s obligation to pay Rent or other charges under this Lease.

33.BROKERAGE FEES.

Tenant warrants and represents that it has not dealt with any real estate broker or agent in connection with this Lease or its negotiation except the CB Richard Ellis and Equis Corporation. Landlord shall be responsible to pay a commission to CB Richard Ellis and Equis Corporation pursuant to separate agreements. Tenant shall indemnify, defend and hold Landlord harmless from any cost, expense or liability (including costs of suit and reasonable attorneys’ fees) for any compensation, commission or fees claimed by any real estate broker or agent other than CB Richard Ellis and Equis Corporation in connection with this Lease or its negotiation by reason of any act of Tenant.

34.QUIET ENJOYMENT.

Tenant, upon payment of Rent and performance of all of its obligations under this Lease, shall peaceably, quietly and exclusively enjoy possession of the Premises without unwarranted interference by Landlord or anyone acting or claiming through Landlord, subject to the terms of this Lease and to any mortgage, lease, or other agreement to which this Lease may be subordinate.

35.TELECOMMUNICATIONS.

35.1Telecommunications Companies. Upon obtaining Landlord’s prior written approval, Tenant shall have the right to use the existing point of penetration in the Building to bring telecommunications services into the Building for Tenant’s use. Tenant shall provide Landlord with proposed plans and specifications for Tenant’s intended use of said penetration points as a condition of Landlord’s approval. Landlord’s approval of, or requirements concerning, the lines or any equipment related thereto, the plans, specifications or designs related thereto, the contractor or subcontractor, or the work performed hereunder, shall not be deemed a warranty as to the adequacy thereof, and Landlord hereby disclaims any responsibility or liability for the same. Landlord disclaims all responsibility for the condition or utility of the intra building cabling network (ICN) and makes no representation regarding the suitability of the ICN for Tenant’s intended use.

35.2Tenant’s Obligations. If at any time after the satisfactory completion of Landlord’s Work the point of demarcation for Tenant’s telecommunications equipment in Tenant’s telephone equipment room or other location is relocated to some other point, whether by operation of law or otherwise, upon Landlord’s election, Tenant shall, at Tenant’s sole expense and cost: (1) within thirty (30) days after notice is first given to Tenant of Landlord’s election, cause to be completed by an appropriate telecommunications engineering entity approved in advance in writing by Landlord, all details of the telecommunications lines serving Tenant in the Building which details shall include all appropriate plans, schematics, and specifications; and (2) if Landlord so elects, immediately undertake the operation, repair and maintenance of the telecommunications lines serving Tenant in the Building; and (3) upon the termination of the Lease for any reason, or upon expiration of the Lease, immediately effect the complete removal of all or any portion or portions of the telecommunications lines serving Tenant in the Building and repair any damage caused thereby (to Landlord’s reasonable satisfaction).

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Prior to the commencement of any alterations, additions, or modifications to the telecommunications lines serving Tenant in the Building, except for minor changes, Tenant shall first obtain Landlord’s prior written consent by written request accompanied by detailed plans, schematics, and specifications showing all alterations, additions and modifications to be performed, with the time schedule for completion of the work, for which Landlord may withhold consent in its sole and absolute discretion.

35.3Indemnification. Tenant shall indemnify, defend and hold harmless Landlord and its employees, agents, officers and directors from and against any claims, demands, penalties, fines, liabilities, settlements, damages, costs, or expenses of any kind or nature, known or unknown, contingent or otherwise, arising out of or in any way related to the acts and omissions of Tenant, Tenant’s officers, directors, employees, agents, contractors, subcontractors, subtenants and invitees with respect to (1) any telecommunications lines serving Tenant in the Building; (2) any bodily injury (including wrongful death) or property damage (real or personal) arising out of or related to any telecommunications lines serving Tenant in the Building; (3) any lawsuit brought or threatened, settlement reached, or governmental order relating to such telecommunications lines; (4) any violations of laws, orders, regulations, requirements, or demands of governmental authorities, or any reasonable policies or requirements of Landlord, which are based upon or in any way related to such telecommunications lines, including, without limitation, attorney and consultant fees, court costs and litigation expenses. This indemnification and hold harmless agreement will survive this Lease. Under no circumstances shall Landlord be liable for interruption in telecommunications services to Tenant or any other entity affected, for electrical spikes or surges, or for any other cause whatsoever, whether by Act of God or otherwise, even if the same is caused by the ordinary negligence of Landlord, Landlord’s contractors, subcontractors, or agents or other tenants, subtenants, or their contractors, subcontractors, or agents.

35.4Landlord’s Operation. Notwithstanding anything contained herein to the contrary, if the point of demarcation is relocated, Landlord may, but shall not be obligated to, undertake the operation, repair and maintenance of telecommunications lines and systems in the Building. If Landlord so elects, Landlord shall give Notice of its intent to do so, and Landlord shall, based on Landlord’s sole business discretion, make such lines and systems available to tenants of the Building (including Tenant) in the manner it deems most prudent. Landlord may include in Operating Expenses all or a portion of the expenses related to the operation, repair and maintenance of the telecommunications lines and systems.

35.5Roof Rights. Roof Rights. (a) If, at any time during the Term, Tenant shall require roof space for the installation and operation of one or more communications antennae, microwave or satellite dishes, together with related equipment, mountings, and supports (collectively, "Telecommunications Equipment"), Landlord shall provide Tenant with such space on the roof of the Building as is reasonably necessary for the installation and operation of Tenant's Telecommunications Equipment (but in no event shall the aggregate amount of such space exceed at any point in time 100 square feet), subject to the terms of this Section 35.5. Tenant acknowledges and agrees that any use of the roof space by Tenant for the installation and operation of Tenant's Telecommunications Equipment shall be on a non-exclusive basis, except as to that portion of the roof space provided by Landlord to Tenant as aforesaid. Tenant may use the roof space and Telecommunications Equipment solely for Tenant's own use (and not for resale purposes). The height, diameter, design and installation of the satellite dishes or other Telecommunications Equipment shall be subject to Landlord's approval, which shall not be unreasonably withheld or delayed. In connection therewith, Landlord shall make available to Tenant access to the roof space for the construction, installation, maintenance, repair, operation and use of Tenant's Telecommunications Equipment. All work in connection with the installation of Tenant's Telecommunications Equipment, including core drilling and reinforcing the roof of the Building, if required, shall be performed at Tenant's sole cost and expense, including the cost of a fire watch and related supervisory costs relating to any core drilling, which shall be performed in such a manner and at such times as Landlord shall reasonably prescribe. References in this Section to the Telecommunications Equipment shall be deemed to include such riser and the electrical and telecommunication conduits therein.

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(b)Tenant shall use and maintain Tenant's Telecommunications Equipment so as not to cause any damage to or interference with (i) the operation of the Building or Building systems or (ii) any Telecommunications Equipment installed on the roof space by licensees, occupants and other tenants in the Building. The installation of any Telecommunications Equipment shall constitute an alteration under Article 12 of this Lease and shall be performed at Tenant's sole cost and expense (including any costs and expenses in connection with reinforcing the roof of the Building, if required) in accordance with and subject to the provisions of Article 12 of this Lease. All of the provisions of this Lease shall apply to the installation, use and maintenance of Tenant's Telecommunications Equipment, including all provisions relating to compliance with all Legal Requirements (including without limitation all FCC rules and regulations), insurance, indemnity, repairs and maintenance. The roof space and Telecommunications Equipment shall not be used or occupied by others and the license granted by this Section shall be personal to Tenant, and shall not be assignable, sublet or otherwise transferable in any circumstance. Tenant's Telecommunications Equipment shall be treated for all purposes of this Lease as Tenant's Property.

(c)If any of Tenant's Telecommunications Equipment interferes with or disturbs Landlord's use of the roof, including the use by Landlord or other tenants, licensees or occupants of the Building of their Telecommunications Equipment, or the operation of the Building or the Building Systems, then following demand by Landlord, Tenant shall promptly relocate all or a portion of the Telecommunications Equipment to another area on the roof designated by Landlord. Such relocation shall be at Tenant's sole cost and expense. If Landlord shall determine, in its reasonable judgment, that any Tenant's Telecommunications Equipment (i) will cause a health hazard or danger to property, (ii) will not be in accordance with applicable Legal Requirements, or (iii) interferes with or disturbs Landlord's use of the roof, including the use by Landlord or other tenants or occupants of the Building of data transmission equipment thereon installed prior to the installation of Tenant's Telecommunications Equipment, or the operation of the Building or the Building Systems, then, if Tenant is unable to promptly cause such Telecommunications Equipment to comply with such Legal Requirements, abate such health hazard, danger to property or interference, Tenant, at its sole cost and expense, shall remove such Telecommunications Equipment from the roof of the Building and, Tenant may, at Tenant's option, but subject to Landlord's approval as provided in (a) above, replace such Telecommunications Equipment with Telecommunications Equipment which complies with such Legal Requirements and/or does not cause such health hazard, danger to property or interference. Notwithstanding the foregoing, Landlord may at its option, at any time during the Term after reasonable prior notice to Tenant (except in the event of an emergency) require Tenant, using Landlord's roofing contractor and any other contractors reasonably required by Landlord, to relocate Tenant's Telecommunications Equipment to another area on the roof designated by Landlord, at Landlord's sole cost and expense.

(d)Notwithstanding anything to the contrary contained herein, if Tenant shall fail to install Telecommunications Equipment on the roof on of the Building on or before twelve (12) months after the Possession Date, Tenant shall have no right to install any Telecommunications Equipment and the provisions of this Section shall be void. If during the Term of this Lease, Tenant shall cease to use any Tenant's Telecommunications Equipment located on the roof of the Building for a period of time in excess of one hundred eighty (180) days, Tenant shall, at its sole cost and expense, remove such Telecommunications Equipment from the roof of the Building within sixty (60) days after receipt of notice from Landlord to so remove such Telecommunications Equipment, and Tenant shall have no further rights under this Section 35.5.

(e)Other than as set forth in this Section 35.5, Landlord shall not have any obligations with respect to Tenant's Telecommunications Equipment or compliance with any Legal Requirements (including the obtaining of any required permits or licenses, or the maintenance thereof) relating thereto. Landlord makes no representation that Tenant's Telecommunications Equipment will be permitted by Legal Requirements or be able to receive or transmit communication signals without interference or disturbance (whether or not by reason of the installation or use of similar equipment by others on the roof) and Tenant agrees that Landlord shall not be liable to Tenant therefor.

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 (f) Tenant shall (i) be solely responsible for any damage caused as a result of the use of Tenant's Telecommunications Equipment, (ii) promptly pay any tax, license, permit or other fees or charges imposed pursuant to any Legal Requirements or insurance requirements relating to the installation, maintenance or use of such Telecommunications Equipment, (iii) promptly comply with all precautions and safeguards reasonably required by Landlord's insurance company and all Governmental Authorities, and (iv) perform all necessary repairs or replacements to, or maintenance of, such Telecommunications Equipment, provided, however, that if Tenant's failure to so repair, replace or maintain such Telecommunications Equipment jeopardizes the property of Landlord or any other tenant located on the roof or within the Building, Landlord may, at Landlord's option and after ten (10) days' notice to Tenant (except in an emergency), elect to perform such repairs, replacements or maintenance at Tenant's sole cost and expense.

(g)Tenant acknowledges and agrees that the privileges granted Tenant under this Section 35.5 shall not, now or at any time after the installation of Tenant's Telecommunications Equipment, be deemed to grant Tenant a leasehold or other real property interest in the Building or any portion thereof, including the Building's roof. The license granted to Tenant in this Section shall automatically terminate and expire upon the expiration or earlier termination of this Lease (including extensions or renewals) and the termination of such license shall be self-operative and no further instrument shall be required to effect such termination. Notwithstanding the foregoing, upon request by Landlord, Tenant, at Tenant's reasonable expense, shall promptly execute and deliver to Landlord, in recordable form, any certificate or other document reasonably required by Landlord confirming the termination of Tenant's right to use the roof of the Building.

(i)Tenant, at Tenant's sole cost and expense, shall paint and maintain the Antenna in white or such other color as Landlord shall determine and shall install such lightning rods, air terminals or screening on or about the Antenna as Landlord may reasonably require.

36.MISCELLANEOUS.

36.1Accord and Satisfaction; Allocation of Payments. No payment by Tenant or receipt by Landlord of a lesser amount than the Rent provided for in this Lease shall be deemed to be other than on account of the earliest due Rent, nor shall any endorsement or statement on any check or letter accompanying any check or payment as Rent be deemed an accord and satisfaction, and Landlord may accept such check or payment without prejudice to Landlord’s right to recover the balance of the Rent or pursue any other remedy provided for in this Lease. In connection with the foregoing, Landlord shall have the absolute right in its sole discretion to apply any payment received from Tenant to any account or other payment of Tenant then not current and due or delinquent.

36.2Addenda. If any provision contained in an addendum to this Lease is inconsistent with any other provision herein, the provision contained in the addendum shall control, unless otherwise provided in the addendum.

36.3Attorneys’ Fees. If any action or proceeding is brought by either party against the other pertaining to or arising out of this Lease, the finally prevailing party (i.e., the party that recovers the greater relief as a result of the action or proceeding) shall be entitled to recover all costs and expenses, including reasonable attorneys’ fees, incurred on account of such action or proceeding.

36.4Captions and Section Numbers. The captions appearing in the body of this Lease have been inserted as a matter of convenience and for reference only and in no way define, limit or enlarge the scope or meaning of this Lease. All references to Section numbers refer to Sections in this Lease.

36.5Changes Requested by Lender. Neither Landlord nor Tenant shall unreasonably withhold its consent to changes or amendments to this Lease requested by the lender on Landlord’s interest, so long as such changes do not alter the basic business terms of this Lease or otherwise materially diminish any rights or materially increase any obligations of the party from whom consent to such change or amendment is requested.

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36.6Choice of Law. This Lease shall be construed and enforced in accordance with the Laws of the State.

36.7Consent. Notwithstanding anything contained in this Lease to the contrary, Tenant shall have no claim, and hereby waives the right to any claim against Landlord for money damages, by reason of any refusal, withholding or delaying by Landlord of any consent, approval or statement of satisfaction, and, in such event, Tenant’s only remedies therefor shall be an action for specific performance, injunction or declaratory judgment to enforce any right to such consent, approval or statement of satisfaction.

36.8Authority. If Tenant is not an individual signing on his or her own behalf, then each individual signing this Lease on behalf of the business entity that constitutes Tenant represents and warrants that the individual is duly authorized to execute and deliver this Lease on behalf of the business entity, and that this Lease is binding on Tenant in accordance with its terms. Tenant shall, at Landlord’s request, deliver a certified copy of a resolution of its board of directors, if Tenant is a corporation, or other memorandum of resolution if Tenant is a limited partnership, general partnership or limited liability entity, authorizing such execution.

36.9Waiver of Right to Jury Trial. Landlord and Tenant hereby waive their respective rights to a trial by jury of any claim, action, proceeding or counterclaim by either party against the other on any matters arising out of or in any way connected with this Lease, the relationship of Landlord and Tenant, and/or Tenant’s Use or occupancy of the Premises, Building or Project (including any claim of injury or damage or the enforcement of any remedy under any current or future laws, statutes, regulations, codes or ordinances).

36.10Counterparts. This Lease may be executed in multiple counterparts, all of which shall constitute one and the same Lease.

36.11Execution of Lease; No Option. The submission of this Lease to Tenant shall be for examination purposes only and does not and shall not constitute a reservation of or option for Tenant to Lease, or otherwise create any interest of Tenant in the Premises or any other premises within the Building or Project. Execution of this Lease by Tenant and its return to Landlord shall not be binding on Landlord, notwithstanding any time interval, until Landlord has in fact signed and delivered this Lease to Tenant.

36.12Furnishing of Financial Statements; Tenant’s Representations. In order to induce Landlord to enter into this Lease, Tenant agrees that it shall promptly furnish Landlord, from time to time, upon Landlord’s written request, financial statements reflecting Tenant’s current financial condition which shall be certified by an officer of Tenant. Tenant represents and warrants that all financial statements, records and information furnished by Tenant to Landlord in connection with this Lease are true, correct and complete in all respects.

36.13Further Assurances. The parties agree to promptly sign all documents reasonably requested to give effect to the provisions of this Lease.

36.14Prior Agreements; Amendments. This Lease and the schedules and addenda attached, if any, form a part of this Lease together with the rules and regulations set forth on Exhibit “C” attached hereto, and set forth all the covenants, promises, assurances, agreements, representations, conditions, warranties, statements, and understandings (“Representations”) between Landlord and Tenant concerning the Premises and the Building and Project, and there are no Representations, either oral or written, between them other than those in this Lease.

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This Lease supersedes and revokes all previous negotiations, arrangements, letters of intent, offers to lease, lease proposals, brochures, representations, and information conveyed, whether oral or in writing, between the parties hereto or their respective representatives or any other person purporting to represent Landlord or Tenant. Tenant acknowledges that it has not been induced to enter into this Lease by any Representations not set forth in this Lease, and that it has not relied on any such Representations. Tenant further acknowledges that no such Representations shall be used in the interpretation or construction of this Lease, and that Landlord shall have no liability for any consequences arising as a result of any such Representations.

Except as otherwise provided herein, no subsequent alteration, amendment, change, or addition to this Lease shall be binding upon Landlord or Tenant unless it is in writing and signed by each party.

36.15Recording. Tenant shall not record this Lease without the prior written consent of Landlord. Tenant, upon the request of Landlord, shall execute and acknowledge a short form memorandum of this Lease for recording purposes.

36.16Severability. A final determination by a court of competent jurisdiction that any provision of this Lease is invalid shall not affect the validity of any other provision, and any provision so determined to be invalid shall, to the extent possible, be construed to accomplish its intended effect.

36.17Successors and Assigns. This Lease shall apply to and bind the heirs, personal representatives, and successors and assigns of the parties.

36.18Time Is of the Essence. Time is of the essence of this Lease.

36.19Multiple Parties. Except as otherwise expressly provided herein, if more than one person or entity is named herein as either Landlord or Tenant, the obligations of such Multiple Parties shall be the joint and several responsibility of all persons or entities named herein as such Landlord or Tenant.

36.20Consent to Press Release. Landlord may, after the Lease is fully executed, issue a press release containing the following information: (i) Tenant’s name and the nature of Tenant’s business; (ii) the Term; (iii) the square footage leased and the Building name and location; (iv) the name of the brokers who represented Landlord and Tenant; and (v) such other general information as may be customarily included in similar press releases. Tenant hereby consents to such a press release.

36.21Extension Option. Landlord and Tenant agree that, (i) so long as there then exists no default either at the time of exercise or at the first day of the Extension Term (as hereinafter defined), (ii) this Lease is in full force and effect, and (iii) Tenant is in occupancy of the entire Premises, Tenant shall have the right and option to extend the initial Term hereof for one additional five (5) year periods (the “Extension Term”) upon written notice to Landlord given not less than nine (9) months prior and not more than twelve (12) months prior to the expiration of the applicable Expiration Date. The parties agree that if Tenant fails to exercise its option to extend the initial term strictly within the time period set forth in this Section, then Tenant’s right to extend the initial Term shall automatically lapse and Tenant shall have no right to extend the Term. In the event that Tenant shall exercise the option granted hereunder, the Extension Term shall be upon the same terms and conditions as are in effect under this Lease immediately preceding the commencement of such option period except that the Annual Base Rent due from the Tenant for the applicable Extension Term shall be increased to 100% of the Fair Market Rent as provided hereinbelow. Tenant shall have no further rights or options whatsoever to extend the term beyond the expiration of such Extension Term. The initial and the Extension Term are hereinafter sometimes collectively referred to as the “term” or “Term.” If Tenant exercises the right to extend the Term as herein provided, then no later than 180 days prior to the first day of the Extension Term, Landlord shall notify Tenant in writing of Landlord’s determination of Fair Market Rent for the Premises for the Extension Term (“Landlord’s Rental Notice”). If Tenant does not object to Landlord’s determination of such Fair Market Rent by written notice to Landlord within ten (10) days after the date of Landlord’s Rental Notice, then Tenant shall be deemed to have accepted the Fair Market Rent set forth in Landlord’s Rental Notice. If Tenant does timely object to Landlord’s Rental Notice, and the parties cannot agree upon the Fair Market Rent within thirty (30) days after Landlord receives Tenant’s notice of objection, then the market rate shall be submitted to arbitration as follows: “Fair Market Rent” shall be determined by

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impartial arbitrators (who shall be qualified real estate appraisers or brokers with at least ten (10) years of experience dealing with like types of properties in the Cypress, California area), one to be chosen by the Landlord, one to be chosen by Tenant, and a third to be selected, if necessary, as below provided, and shall reflect the current fair market rent for buildings of comparable size, quality age and location in the Cypress, California area and the value of all concessions then being offered in the market for comparable space (“Fair Market Rent”). The unanimous written decision of the two first chosen (without selection and participation of a third arbitrator), or otherwise the written decision of a majority of three arbitrators chosen and selected as aforesaid, shall be conclusive and binding upon Landlord and Tenant. Landlord and Tenant shall each notify the other of its chosen arbitrator within ten (10) days following the call for arbitration and, unless such two arbitrators shall have reached an unanimous decision within thirty (30) days after their designation, they shall so notify the then President of the American Arbitration Association and request him to select an impartial third arbitrator to determine the Fair Market Rent as herein defined. Such third arbitrator and the first two chosen shall render their decision within thirty (30) days following the date of appointment of the third arbitrator and shall notify Landlord and Tenant thereof, which decision shall be final and binding on the parties. Landlord and Tenant shall each pay the expenses of its own arbitrator and shall share the payment of expenses of the third arbitrator equally, regardless of the outcome of arbitration. If the dispute between the parties as to a market rate has not been resolved before the commencement of Tenant’s obligation to pay Annual Base Rent based upon such market rate, Tenant shall pay Annual Base Rent under the Lease based upon the fair market rate designated by Landlord until either (i) agreement of the parties as to the market rate, or (ii) decision of the arbitrators, as the case may be, at which time Tenant shall promptly pay any underpayment of Annual Base Rent to Landlord, or Landlord shall credit the overpayment of Annual Base Rent against the next installment of rental or other charges due to Landlord hereunder.

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IN WITNESS WHEREOF, the parties hereto have executed this Lease as of the date first set forth on Page 1.

LANDLORD:

CRP-2 HOLDINGS CYPRESS, LLC,

a Delaware limited liability company

By: /s/ Henry G. Brauer    

Name: Henry G. Brauer    

Its: Executive Vice President   

TENANT:

INTEGRATED ALARM SERVICES GROUP, INC.,

a Delaware corporation

By: /s/ Robert Heintz    

Name: Robert Heintz    

Its:  Executive Vice President  

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EXHIBIT A

FLOOR PLAN

A-1

EXHIBIT B

TENANT IMPROVEMENT WORK LETTER

1.Definitions. Terms which are defined elsewhere in this Lease shall have the same meanings in this Workletter. Terms which are defined in this Workletter shall have the same meanings elsewhere in this Lease. In addition to the terms defined elsewhere in this Workletter, the following terms shall have the following meanings:

A.“Landlord’s Architect” means Ware & Malcomb, or such other party as may be selected by Landlord in Landlord’s sole discretion..

B.“Landlord’s Construction Management Fee” means three percent (3%) of the cost of Landlord’s Work which shall be paid by Landlord to Landlord’s Construction Manager from the Tenant Improvement Funds.

C.“Landlord’s Construction Manager” means Charles Dunn Real Estate Services, Inc, or such other party as may be selected by Landlord in its sole discretion

D.“Landlord’s Contractor” means the contractor hired by Landlord to do the Landlord’s Work pursuant to this Work Letter.

E.“Landlord’s Engineer” means _____________, or such other party selected by Landlord in Landlord’s sole discretion.

F.“Landlord’s Work” means the work required to be performed by Landlord under this Work Letter (which shall not include Tenant’s furnishings, fixtures, equipment or communications and/or data cabling except to the extent expressly specified in the Tenant Plans).

G.“Mechanical System Plans” means the final working drawings, plans and specifications for the mechanical, sprinkler, heating, air conditioning, electrical and plumbing systems in the Premises, which shall be prepared by Tenant’s Engineer based upon and in accordance with the Space Plans and fully coordinated with the remainder of the Working Plans, and which shall contain sufficient detail and shall be otherwise suitable in all respects for submission to the building department to obtain a building permit.

H.“Space Plans” means plans, drawings, plans and specifications prepared by Tenant’s showing the intended design, character, materials and finishes of the Premises, including partition and door locations, which shall conform to Building standards except as otherwise expressly provided herein, all in sufficient detail to enable the Working Plans (including the Mechanical System Plans) to be prepared.

I.“Substantial completion” or “substantially completed” or words of similar import means that the work in question has been sufficiently completed such that it is suitable for its intended purpose.

J.“Tenant’s Architect” means Gensler.

K.“Tenant’s Engineer” means Rockbrook Engineering.

L.“Tenant’s Contractors” means Tenant’s agents, contractors, licensees and invitees and their respective agents, subcontractors and employees.

M.“Tenant Delay” means a delay in the Landlord’s Work arising, directly or indirectly, out of or on account of any of the following events:

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(i)Tenant’s failure to provide the Space Plans and Working Plans, or any revised Space Plans and Working Plans, to Landlord within the applicable times specified in Paragraph 2 of this Work Letter.

(ii)Tenant’s request for a Change, as defined in Paragraph 2 of this Workletter, or any permitted modified Change, including without limitation, Landlord’s exercise of its rights to approve or disapprove any Change or permitted modified Change, or any revised Working Plans which reflect a Change or a permitted modified Change; the preparation of revised Working Plans to reflect a Change or a permitted modified Change; the ordering of any materials or the performance of any work necessary to incorporate a Change into the Landlord’s Work; or any delay in the commencement of any work necessary to incorporate a Change into the Landlord’s Work which is necessitated, required or permitted under the terms of this Workletter.

(iii)Any delay resulting from Landlord’s suspension of the performance of Landlord’s Work as a result of Tenant’s failure to timely pay Landlord’s good faith estimate of the Excess defined in and pursuant to Paragraph 4.B of this Workletter.

(iv)The performance of any work or activities on or about the Building or the Premises by Tenant or any of Tenant’s employees or Tenant’s Contractors.

(v)Any delay caused by Tenant or any of Tenant’s employees or Tenant’s Contractors.

(vi)Any Event of Default of Tenant under this Lease.

N.“Tenant Improvement Allowance” means the amount of $336,980.00 (which is $20.00 per square foot of Rentable Area of the Premises).

O.“Tenant Improvement Loan” means the amount paid by Landlord for Landlord’s Work after the TI Allowance is exhausted, which amount is not to exceed $252,735.00 (which is the $15 per square foot of Rentable Area of the Premises), and which shall be amortized over the initial lease term at ten percent (10%) per annum and repaid by Tenant to Landlord as additional rent in monthly installments.

P.“Tenant Improvement Funds: means the Tenant Improvement Allowance and the Tenant Improvement Loan, collectively.

Q.“Tenant Plans” means the Space Plans, the Mechanical System Plans and the Working Plans.

R.“Turnover Date” means the earlier of (i) the date Landlord’s Work is substantially completed or (ii) the date Landlord’s Work would have been substantially completed but for one or more Tenant Delays.

S.“Working Plans” means the final working drawings, plans and specifications (including the Mechanical System Plans) for all work to be performed by Landlord in the Premises, as prepared by Tenant’s Architect and Tenant’s Engineer which shall be based upon and in accordance with the Space Plans, and which shall contain sufficient detail and shall be otherwise suitable in all respects for submission to the building department of the City of Cypress, CA to obtain a building permit.

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2.Preparation and Approval of Tenant Plans.

A.Tenant has previously entered into a separate agreement with Tenant’s Architect for the preparation of the Space Plans and the Working Plans and a separate agreement with Tenant’s Engineer for the preparation of the Mechanical System Plans, all at Tenant’s sole cost and expense, subject to payment from the Tenant Improvement Funds as provided in Section 4 of this Workletter.

B.Within ten (10) business days after the date Tenant receives a fully executed original of this Lease, Tenant shall provide Landlord with the Space Plans for Landlord’s Approval. Within three (3) business days after Landlord has received the Space Plans in accordance herewith, Landlord shall provide written notice of Landlord’s approval or disapproval thereof, and, in the event of disapproval, such notice shall specify the reasons for disapproval. Within three (3) business days after Tenant has received Landlord disapproval, if applicable, Tenant shall cause the Space Plans or any revised Space Plans hereunder, as the case may be, to be revised by Tenant’s Architect and resubmitted to Landlord for Landlord’s review and approval.

C.Within seventy-five (75) days after this Lease is executed by Landlord and Tenant, Tenant shall cause the Working Plans to be prepared by Tenant’s Architect and Tenant’s Engineer and submitted to Landlord for Landlord’s review and approval. Within five (5) business days after Landlord’s receipt of the Working Plans or revised Working Plans required hereunder, Landlord shall either approve the Working Plans or any revised Working Plans required hereunder or direct Tenant shall cause Tenant’s Architect and Tenant’s Engineer to prepare revised Working Plans meeting Landlord’s objections, which revised Working Plans shall, within five (5) business days thereafter, be prepared by Tenant’s Architect and Tenant’s Engineer and resubmitted to Landlord for review and approval as required hereby.

D.If Tenant desires a change (i) in the Space Plans or Working Plans, or any revised Space Plans or Working Plans required hereunder, after Landlord has approved same, or (ii) in the Landlord’s Work (any such change being a “Change”), Tenant shall give Landlord written notice of the Change, specifying the Change in reasonable detail. Within five (5) business days after Landlord has received Tenant’s written notice of a Change or any modified Change permitted hereunder, Landlord shall give Tenant written notice of its approval or disapproval thereof, and in the event of disapproval, such notice shall specify the reasons for disapproval. If Landlord disapproves of a Change or any modified Change permitted hereunder, Tenant may modify the Change or such permitted modified Change, as the case may be, and give Landlord written notice thereof. After Landlord has approved a Change or any modified Change permitted hereunder, within five (5) business days thereafter, Tenant shall cause the Working Plans to be revised by Tenant’s Architect and Tenant’s Engineer to reflect the Change or such modified Change and resubmitted to Landlord for Landlord’s review and approval in accordance with the process set forth in Paragraph 2.C. Notwithstanding the foregoing, Tenant shall be deemed to have initiated and Landlord shall be deemed to have approved any Change which may be required to cause Landlord’s Work to comply with all applicable laws, regulations, codes and ordinances and/or with the requirements of any building inspector with jurisdiction over Landlord’s Work.

E.Landlord agrees that it will not unreasonably withhold its approval of the Tenant Plans or any revised Tenant Plans required hereunder, or any Change or modified Change permitted hereunder provided, however, Landlord shall not be deemed to have acted unreasonably if it withholds its consent because, in Landlord’s opinion, any portion of Landlord’s Work covered by the Tenant Plans or any revised Tenant Plans required hereunder, or any such Change (i) is likely to adversely affect the structural, mechanical, electrical, plumbing, HVAC, life safety, communications, security or other operating systems of the Building or the safety of its occupants, (ii) would increase the costs or expenses incurred by or on behalf of Landlord for owning, managing, operating, maintaining or repairing the Building, (iii) would impair Landlord’s ability to furnish services to Tenant or any other tenant of the Building, (iv) would violate any Laws or provisions of this Lease, (v) would adversely affect the appearance of the Building, (vi) would adversely affect the premises of any other tenant of the

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Building or such tenant’s use or occupancy thereof, (vii) is prohibited by the provisions of any mortgage or ground lease encumbering the Building, or (viii) fails to conform to Building standards for design, character, materials or finishes except as otherwise expressly provided herein. The foregoing reasons shall not be exclusive of the reasons for which Landlord may withhold consent, it being understood and agreed that such other reasons may be similar or dissimilar to the foregoing.

F.The cost of the Tenant Plans and any revisions thereof required hereunder, and the cost incurred by Landlord to review Tenant Plans and any revisions thereof, shall be deemed to be part of the cost of Landlord’s Work to be paid as provided in Paragraph 4 below.

G.Within three (3) business days after the Working Plans have been revised to reflect a Change which has been approved by Landlord, Landlord shall notify Tenant in writing of Landlord’s good faith estimate of the cost of performing the work necessary to incorporate such Change into the Landlord’s Work and of the number of days of Tenant Delay that may result from performing such work.

3.Performance of Landlord’s Work.

A.After Landlord has approved the Working Plans or any revised Working Plans, Landlord shall promptly solicit bids to perform Landlord’s Work from three (3) reputable general contractors selected by Landlord and shall provide copies of such bids to Tenant. Landlord agrees to select the low bidder to be Landlord’s Contractor unless otherwise requested or approved in writing by Tenant. Promptly after Landlord’s Contractor is selected, Landlord shall cause the Landlord’s Contractor to do the Landlord’s Work covered by the Working Plans or such revised Working Plans. After Landlord has approved any revised Working Plans required hereunder which reflect a Change or a permitted modified Change in the Landlord’s Work, Landlord shall promptly, subject to the terms of Paragraph 2 above, cause Landlord’s Contractor to incorporate such Change into the Landlord’s Work.

B.Landlord shall cause the Landlord’s Work, to be done in a first class workerlike manner using only good grades of materials and shall comply with all governmental laws, ordinances, codes, rules and regulations applicable at the time of the performance of the Landlord’s Work.

4.Payment for Tenant Plans and Landlord’s Work.

A.Landlord shall pay the aggregate cost of Landlord’s Work and the Landlord’s Construction Management Fee up to an amount not to exceed the Tenant Improvement Funds and Tenant shall pay the excess of the aggregate cost of Landlord’s Work and the Landlord’s Construction Management Fee over the Tenant Improvement Funds (the “Excess”) plus Tenant shall pay the cost of all work other than the Landlord’s Work, if any, which Tenant may elect to do in order to make the Premises ready for Tenant’s occupancy and which has been approved by Landlord pursuant to paragraph 6E below. Tenant shall pay the Tenant Improvement Loan and the Excess as provided in Paragraph 4B, and Tenant shall pay the cost of such other work, if any, directly to the persons or entities performing such other work. The “cost of Landlord’s Work” as used in this Workletter shall include all costs incurred by Landlord to plan, review Tenant Plans and any revised Tenant Plans, design and perform Landlord’s Work as specified by the Tenant Plans and any approved (or deemed approved) revisions thereof (including any Change), including without limitation, the fees and charges of Landlord’s Architect, Landlord’s Engineer and Landlord’s Contractor, all permit and inspection fees and charges, and any costs reasonably incurred by or charged to Landlord for (i) unforeseen field conditions, (ii) substitution of materials or finishes due to the unavailability of materials or finishes specified in the Tenant Plans (as revised) that would materially delay substantial completion of Landlord’s Work, (iii) necessary modification of any portions of the Building or its systems to accommodate Landlord’s Work, and (iv) any Change to comply with applicable laws, regulations, codes or ordinances and/or the requirements of any building inspector with jurisdiction over Landlord’s Work. Notwithstanding anything to the contrary contained in this Workletter, Landlord shall provide to Tenant for review and approval (which approval shall not be unreasonably withheld, conditioned or delayed) a line-item construction budget of Landlord’s Work and Tenant shall have the right to audit the actual cost of the completed Landlord’s Work, including without limitation invoices of Landlord’s Contractor and its subcontractors (to the extent available), provided that any such audit is commenced and completed within thirty (30) days after substantial completion of Landlord’s Work.

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B.Tenant shall pay as additional Rent, the Tenant Improvement Loan, which shall be amortized over the initial term of the Lease, with interest at ten percent (10%) per annum, to Landlord beginning on the Rent Commencement Date in equal monthly installments on the first date of each month of the Term. If Landlord estimates at any time or from time to time that there will be an Excess, Landlord shall notify Tenant in writing of Landlord’s good faith estimate of the amount thereof, which estimate shall be itemized in reasonable detail. Tenant shall pay Landlord’s good faith estimate of the Excess billed by Landlord within ten (10) business days after it receives Landlord’s bill therefor. In the event Tenant fails to timely pay any such good faith estimate of the Excess, Landlord shall be entitled to suspend the performance of Landlord’s Work until such time as such payment is received by Landlord. At such time as the total cost of the Tenant Plans and the Landlord’s Work is finally determined, Landlord shall notify Tenant of such amount in writing. If Tenant has not paid all of the Excess, such notice shall include Landlord’s bill to Tenant for the balance of the Excess not previously paid by Tenant, and if Tenant has paid more than the Excess, such notice shall include Landlord’s statement to Tenant showing the amount of the overpayment of the Excess. Tenant shall pay any such balance of the Excess to Landlord within ten (10) business days after the date when Tenant receives such notice and bill from Landlord, and Landlord shall pay any such overpayment of the Excess to Tenant within ten (10) business days after the later of the date when Landlord gives such notice and statement to Tenant or the Possession Date. All Landlord’s bills to Tenant for portions of the Excess and Landlord’s notice to Tenant of the finally determined cost of the Tenant Plans and the Landlord’s Work shall itemize the costs in question in reasonable detail.

C.If the aggregate total cost of the Tenant Plans, Landlord’s Construction Management Fee and the Landlord’s Work is less than the Tenant Improvement Allowance, Tenant shall be entitled to use up to $33,698.00 of such surplus for its expenses to relocate to the Premises and any remaining unused portion of the Tenant Improvement Allowance shall be retained by Landlord without any claim thereupon accruing to Tenant.

D.For purposes of this Paragraph 4, the cost of the Tenant Plans shall be deemed to include the cost of any revision in the Tenant Plans required hereunder, including any such revision to reflect a Change or a permitted modified Change.

5.Landlord Delay/Extension of Possession Date.

A.If the Landlord’s Work is not substantially completed by the projected Possession Date, due to any reason other than a Tenant Delay or the exercise by Landlord of its rights under this Lease, the Possession Date shall be extended one day for each day that the Landlord’s Work is not substantially completed; otherwise, regardless of when the Landlord’s Work is substantially completed, the Possession Date shall not be extended.

B.If there is a delay in the substantial completion of the Landlord’s Work for any reason, neither Landlord, nor the managing or leasing agent of the Building, nor any of their respective agents, partners or employees, shall have any liability to Tenant in connection with such delay, nor shall the Lease nor this Lease be affected in any way, except as specifically provided in this Paragraph 5.

6.Tenant’s Access to the Premises. Landlord shall permit Tenant, Tenant’s employees and Tenant’s Contractors which have been reasonably approved by Landlord to enter the Premises prior to the Possession Date in order that Tenant may do work in addition to the Landlord’s Work, if any, as may be desired by Tenant to make the Premises ready for Tenant’s occupancy, provided that Tenant shall fully perform and comply with each of the following covenants, conditions and requirements:

A.If Landlord permits such entry prior to the Possession Date, then such permission is conditioned upon Tenant, Tenant’s employees and Tenant’s Contractors working in harmony and not interfering with or delaying Landlord or Landlord’s Contractor in doing the Landlord’s Work or with Landlord or any person or entity doing work in the Building, whether for Landlord or another tenant or occupant of the Building; and if at any time such entry shall in the reasonable judgment of Landlord cause or threaten to cause such disharmony, interference or delay, Landlord shall have the right to withdraw such permission upon 24 hours’ written notice.

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B.Any such entry prior to the Possession Date shall be under and subject to all of the terms and provisions of this Lease, the same as if the Possession Date had occurred, except that Tenant shall not be obligated to pay any Rent prior to the Possession Date. To the extent not prohibited by law, all entry to the Building or the Premises by Tenant, Tenant’s employees or Tenant’s Contractors prior to the Possession Date shall be solely at the risk of Tenant, Tenant’s employees and Tenant’s Contractors, and Landlord, Landlord’s beneficiaries, the managing agent of the Building and their respective agents, partners and employees shall not be liable in any way for, and Tenant hereby indemnifies, waives and releases them and holds them harmless from any liability for and claims arising from, any injury or death of any person or damage to or theft, robbery, pilferage, loss or loss of the use of any property of Tenant, or any other person or entity or any of Tenant’s work or installations in or about the Premises or the Building which occurs in connection with such entry; provided however, Landlord, the managing agent of the Building and their respective agents, partners and employees shall be liable for, and Tenant does not indemnify, waive or release them or hold them harmless from liability for and claims arising from, their respective negligence or willful misconduct which occurs in connection with such entry and causes any injury to or death of any person or such damage to, theft, pilferage, loss or loss of the use of any such property. The foregoing indemnification, release and waiver of claims shall be in addition to and shall not limit or be limited by any other indemnifications, releases or waivers of claims in this Lease. In addition, and without limiting any other provisions of this Lease, including this Work Letter, Tenant shall require all persons and entities performing work on behalf of Tenant to provide protection for existing improvements reasonably satisfactory to Landlord, shall allow Landlord and Landlord’s Contractor access to the Premises at all times during the period when Tenant or any person or entity is undertaking work therein and in the event any person or entity performing work on behalf of Tenant, other than the Landlord’s Work, causes any damage to the property of Landlord or others, or to the Landlord’s Work, Tenant shall cause such damage to be repaired at Tenant’s expense, and if Tenant fails to cause such damage to be repaired promptly upon Landlord’s demand therefor, Landlord may, in addition to any other rights or remedies available to Landlord under this Lease or at law or equity, cause such damage to be repaired, in which event Tenant shall promptly upon Landlord’s demand pay to Landlord the cost of such repair.

C.All persons and entities performing work or supplying materials to Tenant shall use only those service corridors and service entrances designated by Landlord for ingress and egress of personnel, and the delivery and removal of equipment and material through or across any common areas of the Building shall only be permitted with the written approval of Landlord, not to be unreasonably withheld, and during hours reasonably determined by Landlord. Landlord shall have the right to order Tenant or any person or entity who violates the above requirements to cease work and to remove itself, its equipment and its employees from the Building.

D.Tenant, Tenant’s employees and Tenant’s Contractors shall abide by the rules of the site applicable to all contractors and others in or upon the Building or the Premises and shall coordinate and schedule their access to the Premises for labor and materials delivery through the general contractor for the Building and Landlord’s Contractor, or the managing agent for the Building, if so directed by Landlord.

E.All work to be performed pursuant to this Paragraph 6 shall be subject to the terms and provisions of the Lease, including without limitation, Section 14.

F.Back-up Generator and UPS System. Subject to obtaining all governmental approvals therefor and Landlord’s prior written approval, Tenant, at Tenant’s expense, shall have the right to install (i) two (2) back-up generators in a mutually agreeable location , and a uninterrupted power supply (“UPS”) system and emergency standby battery system and/or fuel tank and generator, and Tenant shall have the right to operate a portable generator during emergencies. Upon the expiration or earlier termination or this Lease, Tenant shall, at Landlord’s request, within thirty (30) day following lease termination or expiration, remove the generator(s), UPS system and emergency standby battery system and/or fuel tank and generator, and restore the applicable areas to their original condition, reasonable wear and tear excepted.

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7.Acceptance of Work.

A.Landlord shall endeavor to give Tenant ten (10) business days’ prior written notice of the expected Turnover Date. On or before the expected Turnover Date, Tenant shall conduct an inspection of the Premises and the Landlord’s Work with Landlord’s representatives and Landlord’s Contractor and develop with such representatives and deliver to Landlord a punch list of all items of the Landlord’s Work which are not complete or which require correction (the “Punch List”). Landlord shall cause Landlord’s Contractor to complete and/or correct all items on the Punch List promptly after Landlord receives the Punch List and shall give Tenant written notice when all of the items on the Punch List have been completed and/or corrected. Any items not on the Punch List which could have, with reasonable diligence, been discovered by Tenant and included on the Punch List shall be deemed accepted by Tenant. If Tenant fails to appear for such inspection or fails to arrange a different date for inspection with Landlord within five (5) business days after receipt of Landlord’s notice of the expected Turnover Date, Tenant shall be deemed to have agreed that no items exist that are incomplete or require correction and therefore Landlord’s Work has been completed and Landlord shall not be required to complete or correct any such items which may in fact exist; or at Landlord’s election, Landlord or Landlord’s Construction Manager may prepare and approve the Punch List on Tenant’s behalf.

B.Landlord and Tenant agree to cooperate with each other in scheduling the inspections of the Premises and the Landlord’s Work described in this Paragraph 7, to make their respective personnel and representatives available on reasonable notice to attend such inspections and develop the Punch List within the inspection time described in this Paragraph 7 and to act reasonably in determining whether or not an item of the Landlord’s Work should be included in the Punch List.

C.At any time after the Turnover Date, Landlord, Landlord’s Contractor, their agents, employees or contractors may enter the Premises to complete and correct Punch List items and such entry for such purpose shall not constitute an actual or constructive eviction of Tenant, in whole or in part, or entitle Tenant to any abatement or diminution of rent or relieve Tenant from any of its obligations under the Lease, or subject to the provisions of Section 16 of the Lease, impose any other liability on Landlord, Landlord’s Contractor, their agents, employees or contractors.

8.Miscellaneous.

A.Except as expressly set forth herein, Landlord has no other agreement with Tenant and has no other obligation to do any other work or pay any amounts with respect to the Premises. Any other work in the Premises which may be permitted by Landlord pursuant to the terms and conditions of this Lease shall be done at Tenant’s sole cost and expense and in accordance with the terms and conditions of this Lease.

B.This Work Letter shall not be deemed applicable to any additional space added to the Premises at any time or from time to time, whether by any option under this Lease or otherwise, or to any portion of the Premises or any additions thereto in the event of a renewal or extension of the initial Term of this Lease, whether by any option under this Lease or otherwise, unless expressly so provided in this Lease or any amendment or supplement thereto.

C.The failure by Tenant to pay any monies due Landlord pursuant to this Work Letter within the time period herein stated shall be deemed a default in the payment of Rent under the terms of this Lease for which Landlord shall be entitled to exercise all remedies available to Landlord for nonpayment of Rent. All late payments shall bear interest pursuant to Section 19.2 of the Lease.

D.This Work Letter is expressly made a part of this Lease and is subject to each and every term and condition thereof, including, without limitation, the limitations of liability set forth therein.

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E.Tenant shall be solely responsible to determine at the site all dimensions of the Premises and the building which affect any work that may be performed by Tenant or any of Tenant’s Contractors hereunder.

All of the Landlord’s Work paid for by Landlord (including without limitation the Tenant Improvement Allowance and the Tenant Improvement Loan) may be depreciated by Landlord.

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EXHIBIT C

RULES & REGULATIONS

1.The water and wash closets and other plumbing fixtures shall not be used for any purposes other than those for which they were constructed, and no sweepings, rubbish, rags or other substances (including, without limitation, coffee grounds) shall be thrown therein. All damages resulting from misuse of the fixtures shall be borne by Tenant if Tenant or its servants, employees, agents, visitors or licensees shall have caused the same.

2.No cooking (except for hot-plate and microwave cooking by Tenants’ employees for their own consumption, the location and equipment of which is first approved by Landlord), sleeping or lodging shall be permitted by any tenant on the Premises. No tenant shall cause or permit any unusual or objectionable odors to be produced upon or permeate from the Premises.

3.Except as provided in Section 9.6 of the Lease, no inflammable, combustible, or explosive fluid, material, chemical or substance shall be brought or kept upon, in or about the Premises. Fire protection devices, in and about the Building, shall not be obstructed or encumbered in any way.

4.Canvassing, soliciting and peddling in the Building is prohibited and each tenant shall cooperate to prevent the same.

5.There shall not be used in any space, or in the public halls of the Building, either by any tenant or by its agents, contractors, jobbers or others, in the delivery or receipt of merchandise, freight, or other matters, any hand trucks or other means of conveyance except those equipped with rubber tires, rubber side guards, and such other safeguards as Landlord may require, and Tenant shall be responsible to Landlord for any loss or damage resulting from any deliveries to Tenant in the Building. Deliveries of mail, freight or bulky packages shall be made through the freight entrance or through doors specified by Landlord for such purpose.

6.Mats, trash or other objects shall not be placed in the public corridors. The sidewalks, entries, passages, elevators, public corridors and staircases and other parts of the Building which are not occupied by Tenant shall not be obstructed or used for any other purpose than ingress or egress.

7.Tenant shall not install or permit the installation of any awnings, shades, draperies and/or other similar window coverings, treatments or like items visible from the exterior of the Premises other than those approved by the Landlord in writing.

8.Tenant shall not construct, maintain, use or operate within said Premises or elsewhere in the Building or on the outside of the Building, any equipment or machinery which produces music, sound or noise which is audible beyond the Premises.

9.Bicycles, motor scooters or any other type of vehicle shall not be brought into the lobby or elevators of the Building or into the Premises except for those vehicles which are used by a physically disabled person in the Premises.

10.All blinds for exterior windows shall be building standard and shall be maintained by Tenant.

11.No additional locks shall be placed upon doors to or within the Premises except as shall be necessary adequately to safeguard United States Government security classified documents stored with the Premises. The doors leading to the corridors or main hall shall be kept closed during business hours, except as the same may be used for ingress or egress.

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12.Tenant shall maintain and clean all areas or rooms within the Premises in which security classified work is being conducted or in which such work is stored; Landlord shall not provide standard janitorial service to such areas, the provisions of Section 10 of the Lease notwithstanding.

13.Landlord shall have the right to temporarily shut down the air conditioning, electrical systems, heating, plumbing and/or elevators when necessary by reason of accident or emergency, or, so long as Landlord provides Tenant with three (3) days prior written notice, for repair, alterations, replacements or improvement, in which case Landlord shall use commercially reasonable efforts to restore such services.

14.No carpet, rug or other article shall be hung or shaken out of any window of the Building; and Tenant shall not sweep or throw or permit to be swept or thrown from the Premises any dirt or other substances into any of the corridors or halls, elevator, or out of the doors or windows or stairways of the Building. Tenant shall not use, keep or permit to be used or kept any foul or noxious gas or substance in the Premises, or permit or suffer the Premises to be occupied or used in a manner offensive or objectionable to Landlord or other occupants of the Building by reason of noise, odors and/or vibrations, or interfere in any way with other tenants or those having business therein, nor shall any animals or birds be kept in or about the Building. Smoking or carrying lighted cigars or cigarettes in the elevators of the Building is prohibited.

15.Landlord reserves the right to exclude from the Building on weekdays between the hours of 6:00 p.m. and 8:00 a.m. and at all hours on weekends and legal holidays, all persons who do not present a pass to the Building signed by Landlord; provided, however, that reasonable access for Tenant’s employees and customers shall be accorded. Landlord will furnish passes to persons for whom Tenant requires same in writing. Tenant shall be responsible for all persons for whom it requests such passes and shall be liable to Landlord for all acts of such persons.

16.Tenant agrees to keep all windows closed at all times and to abide by all rules and regulations issued by Landlord with respect to the Building’s air conditioning and ventilation systems.

17.Tenant will replace all broken or cracked interior plate glass windows and interior doors at its own expense, with glass of like kind and quality, provided that such windows and doors are not broken or cracked by Landlord, its employees, agents or contractors.

18.In the event it becomes necessary for the Landlord to gain access to the underfloor electric and telephone distribution system for purposes of adding or removing wiring, then upon request by Landlord, Tenant agrees to temporarily remove the carpet over the access covers to the underfloor ducts for such period of time until work to be performed has been completed. The cost of such work shall be borne by Landlord except to the extent such work was requested by or is intended to benefit Tenant or the Premises, in which case the cost shall be borne by Tenant.

19.Violation of these rules, or any amendments thereof or additions thereto, may be considered a default of Tenant’s lease and shall be sufficient cause for termination of the Lease pursuant to the provisions of Section 19 of the Lease at the option of Landlord.

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EXHIBIT D

HVAC UNIT REPLACEMENT

In the event that any HVAC units serving the Premises (a) are used in connection with those portions of the Premises used solely for and consistent with administrative purposes, and (b) need to be replaced during the Term, Landlord agrees to replace such HVAC units one (1) time during the Term and the costs for any such new HVAC units shall be included in Operating Expenses and amortized over the estimated useful life of such HVAC units in accordance with generally accepted accounting principals, with Tenant being responsible only for its pro rata share of such costs therefor which are attributable to the months remaining in the Term and any renewal term(s). In the event that any HVAC units serving the Premises need to be replaced more than one (1) time during the Term, Tenant shall, at Tenant’s sole cost and expense and in accordance with the provisions of this Lease (including without limitation Section 12.3), replace any such HVAC units. Landlord and Tenant agree that, for purposes of this Exhibit D, HVAC units will be deemed to need replacement when they do not perform to an extent consistent with HVAC units serving similar class “B” office buildings in the Orange County, California market. In the event any additional HVAC units are necessary to cool the Premises to a degree consistent with similar class “B” office buildings in the Orange County, California market, Tenant shall install, at Tenant’s sole cost and expense and in accordance with the terms of this Lease (including without limitation Section 12.3), any and all such additional HVAC units needed to cool the Premises to such degree.

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EX-11.1

Exhibit 11.1

	Total Shares			Weighted Average Year
Year Ended December 31, 2004
Shares outstanding January 1, 2004	24,607,731			24,607,731
Shares issued for Criticom (contingent) purchase	34,091			33,625		361/366
Shares issued upon conversion of debt:
April 26, 2004	36,036			24,516		249/366
June 2, 2004	3,604			2,088		212/366
Shares outstanding December 31, 2004	24,681,462			24,667,960
Net income (loss)			$	(11,717,000	)
Net income (loss) per share			$	(0.47	)
Year Ended December 31, 2005
Shares outstanding January 1, 2005	24,681,462			24,681,462
Shares of Treasury Stock purchased on:
November 28, 2005	(5,000	)		(452	)	33/365
December 2, 2005	(13,436	)		(1,068	)	29/365
December 6, 2005	(100,000	)		(6,849	)	25/365
December 8, 2005	(76,700	)		(4,833	)	23/365
December 9, 2005	(66,700	)		(4,020	)	22/365
December 12, 2005	(9,600	)		(500	)	19/365
December 13, 2005	(3,500	)		(173	)	18/365
December 14, 2005	(6,615	)		(308	)	17/365
December 16, 2005	(15,308	)		(629	)	15/365
December 21, 2005	(15,767	)		(432	)	10/365
Shares outstanding December 31, 2004	24,368,836			24,662,198
Net income (loss)			$	(22,332,000	)
Net income (loss) per share			$	(0.91	)
Year Ended December 31, 2006
Shares outstanding January 1, 2006	24,368,836			24,368,836
Shares outstanding December 31, 2006	24,368,836			24,368,836
Net income (loss)			$	(83,915,000	)
Net income (loss) per share			$	(3.44	)

EX-14

EXHIBIT 14

INTEGRATED ALARM SERVICES GROUP, INC.

CODE OF ETHICS

FOR

THE EXECUTIVE OFFICERS

SENIOR FINANCIAL OFFICERS

AND

BOARD OF DIRECTORS

1. Purpose.

The Board of Directors (the “Board”, and each member of the Board, a “Director”) of Integrated Alarm Services Group, Inc., a Delaware corporation (the “Company”) has adopted the following Code of Ethics (the “Code”) to apply to the Chief Executive Officer, other executive officers, the Chief Financial Officer, Chief Accounting Officer, Corporate Controller and Controller of each of IASG’s operating divisions (the Chief Financial Officer, Chief Accounting Officer and Controllers are hereinafter referred to as the “Senior Financial Officers”), as well as to the Directors of the Company. The Controllers include higher ranking accounting personnel such as the Corporate Controller, Director of Accounting and Assistant Controller (or their equivalents). The Code is intended to promote ethical conduct and compliance with laws and regulations, to provide guidance with respect to the handling of ethical issues, to implement mechanisms to report unethical conduct, to foster a culture of honesty and accountability, to deter wrongdoing and to ensure fair and accurate financial reporting.

No code or policy can anticipate every situation that may arise. Accordingly, this Code is intended to serve as a source of guiding principles. You are encouraged to bring questions about particular circumstances that may involve one or more of the provisions of this Code to the attention of the Company’s Corporate Counsel (in-house) or the Chair of the Audit Committee, who may consult with the Company’s outside legal counsel as appropriate.

2. Introduction.

The Chief Executive Officer, other executive officers, Senior Financial Officers and Directors are expected to adhere to a high standard of ethical conduct. The reputation and good standing of the Company depend on how the Company’s business is conducted and how the public perceives that conduct. Unethical actions, or the appearance of unethical actions, are not acceptable. In addition to each of the directives set forth below, the Chief Executive Officer, each other executive officers, each Senior Financial Officer and Director shall be guided by the following principles in carrying out their duties and responsibilities on behalf of the Company:

Loyalty, Honesty and Integrity. You must not be, or appear to be, subject to influences, interests or relationships that conflict with the best interests of the Company.

Observance of Ethical Standards. When carrying out your duties and responsibilities on behalf of the Company, you must adhere to the high ethical standards described in this Code.

Accountability. You are responsible for your own adherence and the adherence of the other officers and Directors to whom this Code applies. Familiarize yourself with each provision of this Code and those set forth in the Company’s Insider Trading Policy.

3. Integrity of Records and Financial Reporting.

The Chief Executive Officer and Senior Financial Officers are responsible for the accurate and reliable preparation and maintenance of the Company’s financial records. Accurate and reliable preparation of financial records is of critical importance to proper management decisions and the fulfillment of the Company’s financial, legal and reporting obligations. As a public company, Integrated Alarm Services Group, Inc. files annual and periodic reports and makes other filings with the Securities and Exchange Commission (the “SEC”). It is critical that these reports be timely and accurate. The Company expects those officers who have a role in the preparation and/or review of information included in the Company’s SEC filings to report such information accurately and honestly. Reports and documents the Company files with or submits to the SEC, as well as other public communications made by the Company, should contain full, fair, accurate, timely and understandable disclosure.

The Chief Executive Officer and Senior Financial Officers are responsible for establishing, and together with the Directors or the members of the Company’s Audit Committee, as the case may be, overseeing adequate disclosure controls and procedures and internal controls and procedures, including procedures which are designed to enable the Company to: (a) accurately document and account for transactions on the books and records of the Company and its subsidiaries; and (b) maintain reports, vouchers, bills, invoices, payroll and service records, performance records and other essential data with care and honesty.

4. Conflicts of Interest.

You must not participate in any activity that could conflict with your duties and responsibilities to the Company. A “conflict of interest” arises when one’s personal interests or activities appear to or may influence that person’s ability to act in the best interests of the Company. Any material transaction or relationship that reasonably could be expected to give rise to a conflict of interest should be disclosed to the Company’s Corporate Counsel. In addition, because conflicts of interest are not always obvious, you are encouraged to bring questions about particular situations to the attention of the Company’s Corporate Counsel.

This Code does not describe all possible conflicts of interest that could develop.

Some of the more common conflicts from which you must refrain are set forth below:

Family members. You may encounter a conflict of interest when doing business with or competing with organizations in which you have an ownership interest or your family member has an ownership or employment interest. “Family members” include a spouse, parents, children, siblings and in-laws. You must not conduct business on behalf of the Company with family members or an organization with which your family member is associated, unless such business relationship has been disclosed and authorized by the Chair of the Audit Committee.

Improper conduct and activities. You may not engage in any conduct or activities that are inconsistent with the Company’s best interests or that disrupt or impair the Company’s relationship with any person or entity with which the Company has or proposes to enter into a business or contractual relationship.

Compensation from non-Company sources. You may not accept compensation in any form for services performed for the Company from any source other than the Company.

Gifts. You and members of your immediate family may not accept gifts from persons or entities if such gifts are being made in order to influence you in your capacity as an employee or Director of the Company, or if acceptance of such gifts could create the appearance of a conflict of interest.

Personal use of Company assets. You may not use Company assets, labor or information for personal use, other than incidental personal use, unless approved by the Chair of the Audit Committee or as part of a compensation or expense reimbursement program.

5. Corporate Opportunities.

The Chief Executive Officer, principal executive officers, Senior Financial Officers and Directors are prohibited from: (a) taking for themselves personally opportunities related to the Company’s business; (b) using the Company’s property, information, or position for personal gain; or (c) competing with the Company for business opportunities; provided, however, if the Company’s disinterested Directors determine the Company will not pursue such opportunity, after disclosure of all material facts by the individual seeking to pursue the opportunity, the individual may do so.

6. Confidentiality.

You must maintain the confidentiality of information entrusted to you by the Company and any other confidential information about the Company, its business, customers or suppliers, from whatever source, except when disclosure is authorized or legally mandated. For purposes of this Code, “confidential information” includes all non-public information relating to the Company, its business, customers or suppliers.

7. Compliance with Laws, Rules and Regulations.

It is the policy of the Company to comply with all applicable laws, rules and regulations, and the Company expects its Chief Executive Officer, principal executive officers, Senior Financial Officers and Directors shall carry out their responsibilities on behalf of the Company in accordance with such laws, rules and regulations and to refrain from illegal conduct. Transactions in Company securities are governed by the Company’s Insider Trading Policy.

2

8. Encouraging the Reporting of any Illegal or Unethical Behavior.

The Company is committed to operating according to the highest standards of business conduct and ethics and to maintaining a culture of ethical compliance. The Chief Executive Officer, principal executive officers, Senior Financial Officers and Directors should promote an environment in which the Company: (a) encourages employees to talk to supervisors, managers and other appropriate personnel when in doubt about the best course of action in a particular situation; (b) encourages employees to report violations of laws, rules and regulations to appropriate personnel; and (c) informs employees that the Company will not allow retaliation for reports made in good faith.

9. Fair Dealing.

The Chief Executive Officer, principal executive officers, Senior Financial Officers and Directors should deal fairly with the Company’s customers, suppliers, competitors and employees. It is the policy of the Company to prohibit any person from taking unfair advantage of another through manipulation, concealment, abuse of privileged information, misrepresentation of material facts or any other unfair dealing practice.

10. Waivers.

It is the Company’s policy that waivers of this Code will not be granted except in exigent circumstances. Any waivers of this Code may only be granted by a majority of the Board after disclosure of all material facts by the individual seeking the waiver. Any waiver of this Code will be promptly disclosed as required by law or stock exchange regulation.

11. Conclusion.

You should communicate any suspected violations of this Code, or any unethical behavior encompassed by this Code, promptly to the Chair of the Audit Committee or to the Company’s Corporate Counsel. Violations will be taken seriously and investigated by the Board or by a person or persons designated by the Board and appropriate disciplinary action will be taken in the event of any violations of the Code.

If there are any questions involving application of this Code, guidance should be sought from the Company’s corporate counsel.

It shall also be the policy of the Company that the Chief Executive Officer, each Director, each Vice President, the Chief Financial Officer, Chief Accounting Officer, Corporate Controller and Controller of each of the Company’s operating divisions acknowledge receipt of and certify their willingness to adhere to the foregoing annually and file a copy of such certification with the Audit Committee of the Board.

Date: January 15, 2007

3

CODE OF ETHICS

ACKNOWLEDGMENT OF RECEIPT OF CODE OF ETHICS

This is to acknowledge that I have received a copy of the Integrated Alarm Services Group, Inc. (IASG) Code of Ethics dated January 15, 2007, and understand that it contains important information on the policies of IASG and on my obligations as an employee and/or director.

I will familiarize myself with the Code of Ethics, and I understand that as a director, officer or employee of IASG, I am governed by its contents. If I do not understand any portion of the Code of Ethics I will speak to the appropriate person in the Legal Affairs Department for clarification.

From time to time, circumstances may require that the policies and practices described in the Code of Ethics be changed. Accordingly, IASG reserves the right to modify, supplement or rescind any provision of the Code of Ethics as it deems necessary. When new policies are added or existing policies are changed, the most recent policy shall prevail.

_________________________

Name (print)

_________________________

Title

_________________________

Signature

Date: _____________________

(PLEASE SIGN AND RETURN ONE COPY OF THIS ACKNOWLEDGMENT TO ALBANY HR)

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EX-21

EXHIBIT 21

SUBSIDIARIES

Alert Alarm Company, Inc.	California
American Burglar & Fire Alarm Co.	New Mexico
American Home Security, Inc.	Nevada
Criticom International Corporation	New Jersey
Everest Video Systems, LLC	Delaware LLC – 50% membership
Guardian Group, LLC	New Jersey
Integrated Alarm and Security, LLC	New Jersey
Integrated Alarm Services, Inc.	Delaware
Madison Protection, Inc.	Delaware
Monital Funding Corporation	New Jersey
Monital Signal Corporation	New Jersey
Morlyn Financial Group, LLC	New Jersey
National Alarm Computer Center, Inc.	Delaware
Norco Alarms, Inc.	California
Securion Central Control Inc.	Delaware
Securion Protection Network Inc.	Delaware
Security General Corporation	California
Shield Signal Corp.	California
Teleguard Security Systems, Inc.	California
Walter Breese, Incorporated	California

EX-31

EXHIBIT 31

CERTIFICATIONS

I, Charles T. May, Chief Executive Officer of Integrated Alarm Services Group, Inc. certify that:

1. I have reviewed this annual report on Form 10-K of Integrated Alarm Services Group, Inc.;

2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f)) for the registrant and, have:

a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) Disclosed in this annual report any change in the registrant's internal control over financial reporting that occurred during the registrant's fiscal quarter that has materially effected, or is reasonably likely to materially effect, the registrant's internal control over financial reporting; and

5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors:

a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely effect the registrant's ability to record, process, summarize, and report financial information; and

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

Date: March 16, 2007

By: /s/ Charles T. May

Name: Charles T. May

Title: Chief Executive Officer 

I, Michael T. Moscinski, Chief Financial Officer of Integrated Alarm Services Group, Inc. certify that:

1. I have reviewed this annual report on Form 10-K of Integrated Alarm Services Group, Inc.;

2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f)) for the registrant and, have:

a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) Disclosed in this annual report any change in the registrant's internal control over financial reporting that occurred during the registrant's fiscal quarter that has materially effected, or is reasonably likely to materially effect, the registrant's internal control over financial reporting; and

5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors:

a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely effect the registrant's ability to record, process, summarize, and report financial information; and

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

Date: March 16, 2007

By: /s/ Michael T. Moscinski

Name: Michael T. Moscinski

Title: Chief Financial Officer

EX-32.A

EXHIBIT 32(a)

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report of Integrated Alarm Services Group, Inc. (the "Company") on Form 10-K for the period ending December 31, 2006 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Charles T. May Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002, that to the best of my knowledge:

1)The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

2)The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

Dated: March 16, 2007

By: /s/ Charles T. May 

Name: Charles T. May

Title: Chief Executive Officer

EX-32.B

EXHIBIT 32(b)

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annaul Report of Integrated Alarm Services Group, Inc. (the "Company") on Form 10-K for the period ending December 31, 2006 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Michael T. Moscinski Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002, that to the best of my knowledge:

1)The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

2)The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

Dated: March 16, 2007

By: /s/ Michael T. Moscinski

Name: Michael T. Moscinski

Title: Chief Financial Officer