UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

[ x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: June 30, 2006

[   ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the transition period from _____________________ to _____________________

Commission file number 0-18083

Williams Controls, Inc.

(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)	84-1099587 (I.R.S. Employer Identification No.)
14100 SW 72nd Avenue, Portland, Oregon (Address of principal executive office)	97224 (zip code)

(503) 684-8600

(Registrant's telephone number, including area code)

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 whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large Accelerated Filer oAccelerated Filer o           Non-Accelerated Filer x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)

Yes o No x

The number of shares outstanding of the registrant's common stock

at July 31, 2006: 7,432,844

Williams Controls, Inc.

June 30, 2006

Table of Contents

	Page Number
Part I. Financial Information
Item 1. Financial Statements (unaudited)
Condensed Consolidated Balance Sheets, June 30, 2006 and September 30, 2005	1
Condensed Consolidated Statements of Operations, three and nine month periods ended June 30, 2006 and 2005	2
Condensed Consolidated Statements of Cash Flows, nine month periods ended June 30, 2006 and 2005	3
Notes to Unaudited Condensed Consolidated Financial Statements	4
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	14
Item 3. Quantitative and Qualitative Disclosures About Market Risk	22
Item 4. Controls and Procedures	23
Part II. Other Information
Item 1. Legal Proceedings	24
Item 1A. Risk Factors	24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	26
Item 3. Defaults Upon Senior Securities	26
Item 4. Submission of Matters to a Vote of Security Holders	26
Item 5. Other Information	27
Item 6. Exhibits	27
Signature Page	29

Part I

Item 1. Financial Statements

Williams Controls, Inc.

Condensed Consolidated Balance Sheets

(Dollars in thousands, except share and per share information)

(Unaudited)

	June 30, 2006		September 30, 2005
ASSETS
Current Assets:
Cash and cash equivalents	$	970	$	5,052
Trade accounts receivable, less allowance of $71 and $40 at June 30, 2006 and September 30, 2005, respectively		9,320		8,896
Other accounts receivable		893		579
Inventories		8,217		4,433
Deferred income taxes		1,868		1,868
Prepaid expenses and other current assets		399		308
Total current assets		21,667		21,136
Property, plant and equipment, net		8,285		7,455
Deferred income taxes		2,760		3,520
Other assets, net		1,287		1,394
Total assets	$	33,999	$	33,505
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Accounts payable	$	6,299	$	5,449
Accrued expenses		4,638		5,225
Current portion of employee benefit obligations		1,490		1,439
Current portion of long-term debt and capital lease obligations		2,847		5,503
Total current liabilities		15,274		17,616
Long-term Liabilities:
Long-term debt and capital lease obligations		7,405		8,126
Employee benefit obligations		6,316		6,934
Other long-term liabilities		251		248
Commitments and contingencies
Stockholders’ Equity:
Preferred stock ($.01 par value, 50,000,000 authorized) Series C (0 issued and outstanding at June 30, 2006 and September 30, 2005)		-		-
Common stock ($.01 par value, 12,500,000 authorized; 7,432,844 and 7,790,261 issued and outstanding at June 30, 2006 and September 30, 2005, respectively)		74		78
Additional paid-in capital		33,908		36,482
Accumulated deficit		(23,229)		(29,963)
Treasury stock (21,700 shares at June 30, 2006 and September 30, 2005)		(377)		(377)
Accumulated other comprehensive loss		(5,623)		(5,639)
Total stockholders’ equity		4,753		581
Total liabilities and stockholders’ equity	$	33,999	$	33,505

See accompanying notes to Unaudited Condensed Consolidated Financial Statements.

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Williams Controls, Inc.

Condensed Consolidated Statements of Operations

(Dollars in thousands, except share and per share information)

(Unaudited)

	Three Month Period Ended June 30,				Nine Month Period Ended June 30,
	2006		2005		2006		2005
Net sales	$	19,898	$	17,192	$	54,826	$	49,928
Cost of sales		12,801		11,348		35,583		32,901
Gross profit		7,097		5,844		19,243		17,027
Operating expenses:
Research and development		898		855		2,560		2,445
Selling		522		364		1,501		974
Administration		1,235		1,577		4,024		4,397
Realignment of operations		229		-		353		-
Total operating expenses		2,884		2,796		8,438		7,816
Operating income		4,213		3,048		10,805		9,211
Other (income) expense:
Interest income		(13)		(13)		(53)		(33)
Interest expense		323		312		955		1,134
(Gain) loss on put/call option agreement		-		59		-		(323)
Other (income) expense, net		(151)		1		(317)		(23)
Total other expenses		159		359		585		755
Income before income taxes		4,054		2,689		10,220		8,456
Income tax expense		1,285		1,079		3,486		3,357
Net income	$	2,769	$	1,610	$	6,734	$	5,099
Net income per common share – basic	$	0.37	$	0.21	$	0.91	$	0.66
Weighted average shares used in per share calculation – basic		7,422,040		7,774,058		7,425,220		7,772,398
Net income per common share – diluted	$	0.36	$	0.20	$	0.88	$	0.64
Weighted average shares used in per share calculation – diluted		7,650,160		7,984,365		7,620,557		7,959,474

See accompanying notes to Unaudited Condensed Consolidated Financial Statements.

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Williams Controls, Inc.

Condensed Consolidated Statements of Cash Flows

(Dollars in thousands)

(Unaudited)

	Nine Month Period Ended June 30,
	2006		2005
Cash flows from operating activities:
Net income	$	6,734	$	5,099
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		1,006		727
Loss from sale of fixed assets		4		36
Deferred income taxes		760		3,047
Gain on put/call option agreement		-		(323)
Stock based compensation		346		117
Changes in operating assets and liabilities
Receivables, net		(738)		(133)
Inventories		(3,784)		(180)
Accounts payable and accrued expenses		323		1,285
Other		(638)		(191)
Net cash provided by operating activities		4,013		9,484
Cash flows from investing activities:
Purchases of property, plant and equipment		(1,734)		(2,311)
Net cash used in investing activities		(1,734)		(2,311)
Cash flows from financing activities:
Net borrowings on revolving loan facility		1,000		-
Payments of debt and capital lease obligations		(4,377)		(5,601)
Repurchase of common stock		(3,200)		-
Net proceeds from exercise of stock options		216		-
Net cash used in financing activities		(6,361)		(5,601)
Net increase (decrease) in cash and cash equivalents		(4,082)		1,572
Cash and cash equivalents at beginning of period		5,052		2,482
Cash and cash equivalents at end of period	$	970	$	4,054
Supplemental disclosure of cash flow information:
Interest paid	$	816	$	1,016
Income taxes paid	$	3,004	$	309

See accompanying notes to Unaudited Condensed Consolidated Financial Statements.

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Williams Controls, Inc.

Notes to Condensed Consolidated Financial Statements

Three and Nine Month periods ended June 30, 2006 and 2005

(Dollars in thousands, except share and per share amounts)

(Unaudited)

Note 1. Organization

Williams Controls, Inc., including its wholly-owned subsidiaries as follows and hereinafter referred to as the “Company,” “we,” “our,” or “us.”

Active Subsidiaries – Williams Controls Industries, Inc. ("Williams"); Williams (Suzhou) Controls Co. Ltd. (“Williams Controls Asia”); and Williams Controls Europe GmbH (“Williams Controls Europe”).

Inactive Subsidiaries – Aptek Williams, Inc. ("Aptek"); Premier Plastic Technologies, Inc. ("PPT"); ProActive Acquisition Corporation ("ProActive"); WMCO-Geo, Inc. ("GeoFocus"); NESC Williams, Inc. ("NESC"); Williams Technologies, Inc. ("Technologies"); Williams World Trade, Inc. ("WWT"); Techwood Williams, Inc. ("TWI"); Agrotec Williams, Inc. ("Agrotec") and its 80% owned subsidiaries Hardee Williams, Inc. ("Hardee") and Waccamaw Wheel Williams, Inc. ("Waccamaw").

Note 2. Basis of Presentation

The accompanying unaudited interim condensed consolidated financial statements have been prepared by the Company and, in the opinion of management, reflect all material normal recurring adjustments necessary to present fairly the Company’s financial position as of June 30, 2006 and the results of operations and cash flows for periods ended June 30, 2006 and 2005. The results of operations for the three and nine month periods ended June 30, 2006 are not necessarily indicative of the results to be expected for the entire fiscal year.

Certain information and footnote disclosures made in the last Annual Report on Form 10-K have been condensed or omitted for the interim consolidated statements. Certain costs are estimated for the full year and allocated to interim periods based on activity associated with the interim period. Accordingly, such costs are subject to year-end adjustment. In the opinion of management, when the interim consolidated statements are read in conjunction with the September 30, 2005 annual report on Form 10-K, the disclosures are adequate to make the information presented not misleading. The interim consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany accounts and transactions have been eliminated.

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions, based upon all known facts and circumstances, that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reported periods. Management makes these estimates using the best information available at the time the estimates are made; however, actual results could differ materially from these estimates. Estimates are used in accounting for, among other things, pension and post-retirement benefits, product warranty, excess and obsolete inventory, allowance for doubtful accounts, useful lives for depreciation and amortization, future cash flows associated with the evaluation of impairment of long-lived assets, deferred taxes, stock options and commitments and contingencies.

At the March 2, 2006 Annual Meeting of stockholders, the stockholders of the Company approved a one-for-six reverse stock split for each share of common stock outstanding on January 27, 2006. The Company’s share and per share amounts of common stock have been restated to reflect the effect of the one-for-six reverse stock split for all periods presented. The reverse split was effective March 16, 2006. The Company’s common stock began trading on the OTC Bulletin Board on a reverse stock split basis as of the opening of trading on March 20, 2006.

Note 3. Realignment of operations

During the second quarter of fiscal 2006, the Company announced a plan for realignment of its Portland, Oregon manufacturing operations as part of ongoing efforts to focus on its core product lines and improve its global competitiveness. The realignment plan consists of outsourcing all of the Company’s die casting and machining operations to high-quality suppliers, primarily in Asia, and relocating of the Company’s assembly operations for its pneumatic products to its

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manufacturing facility in Suzhou, China. In conjunction with the realignment, the Company expects to eliminate approximately 49 hourly and 5 salaried positions from its Portland, Oregon headquarters over the next 15 months. As part of this realignment plan, the Company expects to incur a one-time termination benefit with those employees affected by the realignment. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” and related guidance, a one-time benefit arrangement must meet certain criteria in order for a Company to recognize a liability for such one-time benefits. As of March 31, 2006, the Company met all of the criteria for recognizing a liability with the exception of one item. The realignment plan must establish the terms of the benefit arrangement, including the benefits that employees will receive upon termination, in sufficient detail to enable employees to determine the type and amount of benefits they will receive if they are involuntarily terminated. The Company did not establish the terms of the benefits to employees in sufficient detail until after it began its negotiations with the UAW union bargaining committee during the first week of April 2006. As such, the Company did not record any liability for expected termination benefits until the third quarter ended June 30, 2006. The Company's preliminary estimates of the total costs of the realignment, including the one-time termination benefits to employees, are in the range of $3 million. The Company is not able at this time to provide estimates for each type of cost, or for the charge that will result in future cash expenditures, as the actual costs will be based on a variety of factors. The Company recorded realignment expenses of $229 and $353, respectively, for both the three and nine month periods ended June 30, 2006, which were recorded in operating expenses in the accompanying condensed consolidated statements of operations. Included in these amounts, a liability of $129 related to employee termination benefits was recorded in the third quarter of fiscal 2006.

Note 4. Accounting for stock based compensation

In the first quarter of fiscal 2006, the Company adopted SFAS No. 123R, “Share Based Payment”, which revises SFAS No. 123, “Accounting for Stock-Based Compensation.” Prior to fiscal year 2006, the Company accounted for its stock-based compensation plans using the intrinsic value-based method under Accounting Principles Board Opinion No. 25 (“APB 25”). Prior to October 1, 2005 no compensation expense was recorded for stock options granted to employees under the intrinsic value method.

SFAS No. 123R applies to new awards and to awards modified, repurchased, or cancelled after the required effective date, as well as to the unvested portion of awards outstanding as of the required effective date. The effective date for the Company was October 1, 2005. The Company uses the Black-Scholes option pricing model to value its stock option grants under SFAS No. 123R, applying the “modified prospective method” for existing grants which requires the Company to value stock options prior to its adoption of SFAS No. 123R under the fair value method and expense the unvested portion over the remaining vesting period. Stock-based compensation expense is recognized on a straight-line basis over the requisite service period, which equals the vesting period. Under SFAS No. 123R, the Company is also required to estimate forfeitures in calculating the expense related to stock-based compensation. In addition, SFAS No. 123R requires the Company to reflect the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash inflow beginning upon adoption.

The Company currently has two qualified stock option plans. The Restated 1993 Stock Option Plan (the “1993 Plan”) reserves an aggregate of 750,000 shares of the Company’s common stock for the issuance of stock options, which may be granted to employees, officers and directors of and consultants to the Company. Under the terms of the 1993 Plan, the Company may grant “incentive stock options” or “non-qualified options” with an exercise price of not less than the fair market value on the date of grant. Options granted under the 1993 Plan have a vesting schedule, which is typically five years, determined by the Compensation Committee of the Board of Directors and expire ten years after the date of grant. Effective May 15, 2003, the 1993 Plan was restated to incorporate various clarifying changes. These changes neither increase the number of shares available nor expand the category of individuals that may be included in the plan. The non-employee Director Plan (the “1995 Plan”) reserves an aggregate of 66,666 shares of the Company’s common stock for the issuance of stock options, which may be granted to non-employee directors of the Company. Under this plan the non-employee directors are each automatically granted 1,666 options at a price equal to the market value on the date of grant which is the date of the annual stockholders’ meeting each year, exercisable for 10 years after the date of the grant. These options are exercisable as to 25% of the shares thereby on the date of grant and as to an additional 25%, cumulatively on the first, second and third anniversaries of the date of grant.

As of June 30, 2006, there was $1,214 of total unrecognized compensation costs related to nonvested stock options. That cost is expected to be recognized over a weighted average period of 3.4 years. For the three and nine month periods ended June 30, 2006, the Company’s total stock-based compensation expense was $102 ($92 net of tax) and $325 ($286 net of tax), respectively. For the three month period ended June 30, 2006, stock-based compensation expense was recorded in cost of sales and operating expenses in the amounts of $13 and $89, respectively, in the accompanying consolidated statement of

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operations. For the nine month period ended June 30, 2006, stock-based compensation expense was recorded in cost of sales and operating expenses in the amounts of $37 and $288, respectively.

The following table presents the impact of the adoption of SFAS No. 123R on selected line items from the Company’s consolidated financial statements for the three and nine months ended June 30, 2006:

	Three Month Period Ended June 30, 2006				Nine Month Period Ended June 30, 2006
	As reported under SFAS No. 123R		If reported under APB No. 25		As reported under SFAS No. 123R		If reported under APB No. 25
Operating income	$	4,213	$	4,315	$	10,805	$	11,130
Income before income taxes		4,054		4,156		10,220		10,545
Net income		2,769		2,861		6,734		7,020
Earnings per share – basic	$	0.37	$	0.39	$	0.91	$	0.95
Earnings per share – diluted	$	0.36	$	0.37	$	0.88	$	0.91
Net cash provided by operating activities					$	4,013	$	4,013
Net cash used in financing activities					$	(6,361)	$	(6,361)

The Company has evaluated assumptions it has historically used in the Black-Scholes option pricing model for determining the fair value of options granted in light of guidance provided in SFAS No. 123R and Staff Accounting Bulletin No. 107 (“SAB 107”), and has determined that following that guidance would result in refinement of assumptions it has historically used for determining the SFAS No. 123 pro-forma net income disclosures. Under that guidance, the Company has refined its estimates of the expected volatility of its share price to 87%, for the nine month period ended June 30, 2005, as compared to the 65% used in the Black-Scholes model previously. The Company has calculated the effect of using this refined assumption and has included this refined assumption in the computations below. As a result of this refined assumption, total stock-based employee compensation expense determined under the fair value based method, net of tax, changed from $184 to $206 for the three month period ended June 30, 2005 and from $322 to $387 for the nine month period end June 30, 2005.

The following table illustrates the effect on net income and earnings per share for the three and nine month period ended June 30, 2005 as if the Company’s stock-based compensation had been determined based on the fair value at the grant dates for awards made prior to fiscal 2006.

	Three Month Period Ended June 30,		Nine Month Period Ended June 30,
	2005		2005
Net income, as reported	$	1,610	$	5,099
Add: Stock-based employee compensation expense included in reported net income, net of tax		117		117
Deduct: Total stock-based employee compensation expense determined under fair value based method, net of tax		(206)		(387)
Pro forma net income	$	1,521	$	4,829
Earnings per share:
Basic – as reported	$	0.21	$	0.66
Basic – pro forma	$	0.20	$	0.62
Diluted – as reported	$	0.20	$	0.64
Diluted – pro forma	$	0.19	$	0.62

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The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions used for grants issued during the nine month periods ended June 30, 2006 and 2005. No options were granted during the three month periods ended June 30, 2006 and 2005.

	Nine Month Period Ended June 30,
	2006	2005
Risk-free interest rate	4.57%	3.86%
Expected dividend yield	0%	0%
Expected term	6.3 years	6.5 years
Expected volatility	88%	87%

The Company uses the US Treasury (constant maturity) interest rate on the date of grant as the risk-free interest rate. The expected term of options granted represents the weighted average period the stock options are expected to remain outstanding and is calculated using the simplified method under SAB 107, which expresses the view of the SEC Staff regarding interaction between SFAS No. 123R and certain SEC rules and regulations and provides the Staff’s views regarding the valuation of share-based payment arrangements for public companies. Expected volatilities are based on the historical volatility of the Company’s common stock.

The following table summarizes stock options outstanding as of June 30, 2006 as well as activity during the nine month period then ended.

	Shares	Weighted Average Exercise Price
Outstanding at September 30, 2005	622,276	$	5.64
Granted	59,320		9.49
Exercised	(51,329)		4.21
Forfeited	(35,569)		8.58
Outstanding at June 30, 2006	594,698		5.99
Exercisable at June 30, 2006	241,948	$	6.38

At June 30, 2006, the weighted average remaining contractual term of options outstanding and options exercisable was 7.2 years and 6.2 years, respectively.

The aggregate intrinsic value of options outstanding and options exercisable at June 30, 2006 was $3,740 and $1,476, respectively (the intrinsic value of a stock option is the amount by which the market value of the underlying stock exceeds the exercise price of the option). The weighted average grant date fair value of stock options granted during the nine month periods ended June 30, 2006 and 2005 was $8.22 and $4.38 per share, respectively. The intrinsic value of all stock options exercised during the three and nine month periods ended June 30, 2006 was $184 and $423, respectively. No options were exercised during the three and nine month periods ended June 30, 2005.

Note 5. Comprehensive Income

SFAS No. 130, “Reporting Comprehensive Income," requires companies to report a measure of all changes in equity except those resulting from investments by owners and distributions to owners. Total comprehensive income for the three month periods ended June 30, 2006 and 2005 was $2,779 and $1,610, respectively, and for the nine month periods ended June 30, 2006 and 2005 was $6,750 and $5,099, respectively, and consisted of net income and foreign currency translation adjustments. As of June 30, 2006, accumulated other comprehensive loss was $5,623 and consisted of accumulated benefit obligations in excess of the plan assets for both the Hourly Employees pension plan and the Salaried Employees pension plan and the effect of foreign currency translation adjustments.

Note 6. Earnings Per Share

Basic earnings per share ("EPS") and diluted EPS are computed using the methods prescribed by SFAS No. 128, "Earnings Per Share". Basic EPS is based on the weighted-average number of common shares outstanding during the period. Diluted EPS is based on the weighted-average number of common shares outstanding and the dilutive impact of common equivalent shares outstanding.

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Following is a reconciliation of basic EPS and diluted EPS from continuing operations:

	Three Month Period Ended June 30, 2006					Three Month Period Ended June 30, 2005
	Income		Shares	Per Share Amount		Income		Shares	Per Share Amount
Basic EPS –	$	2,769	7,422,040	$	0.37	$	1,610	7,774,058	$	0.21
Effect of dilutive securities –
Stock options		-	228,120				-	210,307
Diluted EPS –	$	2,769	7,650,160	$	0.36	$	1,610	7,984,365	$	0.20

	Nine Month Period Ended June 30, 2006					Nine Month Period Ended June 30, 2005
	Income		Shares	Per Share Amount		Income		Shares	Per Share Amount
Basic EPS –	$	6,734	7,425,220	$	0.91	$	5,099	7,772,398	$	0.66
Effect of dilutive securities –
Stock options		-	195,337				-	187,076
Diluted EPS –	$	6,734	7,620,557	$	0.88	$	5,099	7,959,474	$	0.64

For the three and nine month periods ended June 30, 2006, the Company had options covering 43,239 and 61,030 shares, respectively, that were not considered in the diluted EPS calculation since they would have been antidilutive. For the three and nine month periods ended June 30, 2005, the Company had options and warrants covering 62,041 and 67,041 shares, respectively, that were not considered in the diluted EPS calculation since they would have been antidilutive.

Note 7. Inventories

Inventories consist of the following:

	June 30, 2006		September 30, 2005
Raw materials	$	5,917	$	3,487
Work in process		229		237
Finished goods		2,071		709
	$	8,217	$	4,433

Inventories have increased in the first nine months of fiscal 2006 primarily as a result of additional safety stock to facilitate changing suppliers, the transfer of some manufacturing from our Portland, Oregon to Suzhou, China facility, increased lead times associated with sourcing of components from overseas suppliers and additional inventory levels to support our China operations.

Note 8. Patent License Agreements

During fiscal 2003 the Company obtained a license agreement for use of an adjustable pedal design for product lines. The agreement is for a period of three years and is renewed annually if certain sales thresholds are met. The Company is obligated to make royalty payments based on the number of units it sells. During the three and nine month periods ended June 30, 2006, the Company sold adjustable pedals and recorded an accrual for royalties related to these sales of $2 and $3, respectively. Additionally, the initial license payments of $200 that were capitalized will be amortized based on the projection of units sold over the next five years. Based on these projections, we anticipate amortizing four dollars for every adjustable pedal sold. As of June 30, 2006, the Company has amortized approximately $2 related to the number of units sold.

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The Company has focused additional resources in the adjustable pedal market and expects sales of these products to continue to grow throughout the remainder of fiscal 2006.

Additionally, as part of the sale of the Company’s passenger car and light truck product lines to Teleflex Incorporated on September 30, 2003, the Company obtained the right to use certain of Teleflex’s adjustable pedal patents in exchange for Teleflex receiving licenses for certain of the Company’s patents.

In fiscal 2005, the Company entered into an agreement to license non-contacting Hall effect sensor technology. The Company intends to use this license to internally produce non-contacting sensors for use in its electronic throttle controls. The initial licensing fee of $140 was paid and capitalized during the second quarter of fiscal 2005. In addition, the Company will make royalty payments based on the number of units sold, which includes minimum yearly royalties beginning in year three of this agreement. The Company capitalized as part of the license fee $229, which is equal to the present value of the minimum royalty payment obligation. The Company will amortize the capitalized license fee once the Company begins selling units. This agreement is for a period of ten years and is renewed annually based on written mutual agreement. This agreement may be terminated by the licensor after four years if certain sales thresholds are not met.

Note 9. Settlement of accounts payable

Included in the accompanying consolidated balance sheet is approximately $987 of old accounts payable related to closed insolvent subsidiaries of the Company. In accordance with SFAS No. 140 “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities”, a debtor can only relieve itself of a liability if it has been extinguished. Accordingly, a liability is considered extinguished if (a) the debtor pays the creditor and is relieved of its obligation for the liability or (b) the debtor is legally released from being the primary obligor under the liability, either judicially or by the creditor. During the three and nine months ended June 30, 2006, the Company was judicially released from and reversed $161 and $339, respectively, of old accounts payable related to closed insolvent subsidiaries of the Company resulting in a gain, which has been recorded in other (income) expense in the accompanying condensed consolidated statements of operations. During the three and nine month periods ended June 30, 2005, the Company was judicially released from and reversed $2 and $53, respectively. The Company expects to reverse amounts in future periods based on the recognition of the liabilities being judicially released in accordance with SFAS No. 140 of $222 remaining in fiscal 2006; $731 in fiscal 2007; and $34 in fiscal 2010.

Note 10. Debt

As part of the recapitalization transaction completed on September 30, 2004, the Company entered into a new five-year senior secured loan and revolving credit facility with Merrill Lynch, which replaced the Company's prior loan facility with Wells Fargo Business Credit. The Merrill Lynch facility initially provided $25,000, consisting of an $8,000 revolving loan facility and a $17,000 term loan. The loans are secured by substantially all the assets of the Company. Borrowings under the revolving loan facility are subject to a borrowing base equal to 85% of eligible accounts receivables and 60% of eligible inventories. Interest rates under the agreement are based on the election of the Company of either a LIBOR rate or Prime rate. Under the LIBOR rate option, the revolving loan facility will bear interest at the LIBOR rate plus 3.75% per annum and borrowings under the term loan facility will bear interest at the LIBOR rate plus 4.25%. Under the Prime rate option, the revolving loan facility will bear interest at the Prime rate plus 2.75% per annum and the term loan facility will bear interest at the Prime rate plus 3.25%. Fees under the loan agreement include an unused line fee of .50% per annum on the unused portion of the revolving credit facility.

The Company is required to repay the term loan in equal quarterly scheduled payments of $850. The Company is entitled to prepay the term loan, in whole or in part, in minimum amounts without penalty. Mandatory prepayments of the loans under the term loan are required in amounts equal to 75% of the Company’s excess cash flow, as defined in the agreement, for each fiscal year and 100% of (i) the insurance or condemnation proceeds received in connection with a casualty event, condemnation or other loss, less any proceeds reinvested by the Company up to $500 per fiscal year; (ii) the net proceeds from issuance of equity or debt securities and (iii) the net cash proceeds of asset sales or other dispositions subject to customary exceptions. The revolving loan facility expires on September 29, 2009, at which time all outstanding amounts under the revolving loan facility are due and payable. The Company is subject to certain quarterly and annual financial covenants. At June 30, 2006 the Company was in compliance with its debt covenants. During the first quarter of fiscal 2006, the Company repurchased $3,200 of its common stock from one investor as discussed in Note 13. The Company obtained a required consent from Merrill Lynch to purchase the common stock and to include the repurchase payment in the calculation of excess cash flow for the year ended September 30, 2005. During the second quarter of fiscal 2006, the Company paid $2,074 related to the excess cash flow requirement.

9

Following payment of the excess cash flow requirement in the second quarter of fiscal 2006, the Company’s required quarterly scheduled payments were reduced from $850 to $712.

In connection with the new senior secured loan facility, the Company was required to pay Merrill Lynch a commitment fee of $500. In addition, the Company must pay Merrill Lynch an annual agency fee of $25 and reimburse Merrill Lynch for any costs and expenses incurred in connection with the completion of the new credit agreement. The commitment fee and expenses incurred by Merrill Lynch and paid for by the Company have been capitalized in the accompanying consolidated balance sheet and are being amortized over the five-year life of the loan facility utilizing the effective interest method.

The Company had available under its revolving credit facility $7,000 and $8,000 at June 30, 2006 and September 30, 2005, respectively.

The Company’s long-term debt and capital lease obligations consist of the following:

	June 30, 2006		September 30, 2005
Revolving credit facility due September 29, 2009, bearing interest at a variable rate (8.9% at June 30, 2006).	$	1,000	$	-
Term loan due September 29, 2009, balance bearing interest at a variable rate, (9.9% at June 30, 2006) payable in quarterly installments of $712.		9,252		13,600
Capital leases		-		29
		10,252		13,629
Less current portion		(2,847)		(5,503)
	$	7,405	$	8,126

Note 11. Product Warranties

The Company establishes a product warranty liability based on a percentage of product sales. The liability is based on historical return rates of products and amounts for significant and specific warranty issues, and is included in accrued expenses in the accompanying consolidated balance sheets. Warranty is limited to a specific time period, mileage or hours of use, and varies by product, application and customer. The Company has recorded a liability, which in the opinion of management is adequate to cover such warranty costs. Following is a reconciliation of the changes in the Company’s warranty liability for the three and nine month periods ended June 30, 2006 and 2005:

	Three and Nine Month Periods Ended June 30, 2006			Three and Nine Month Periods Ended June 30, 2005
Balance at September 30, 2005	$	1,656	Balance at September 30, 2004	$	1,393
Payments		(179)	Payments		(164)
Additional accruals		334	Additional accruals		304
Balance at December 31, 2005	$	1,811	Balance at December 31, 2004	$	1,533
Payments		(306)	Payments		(510)
Additional accruals		252	Additional accruals		374
Accrual adjustments		(184)	Accrual adjustments		-
Balance at March 31, 2006	$	1,573	Balance at March 31, 2005	$	1,397
Payments		(223)	Payments		(159)
Additional accruals		232	Additional accruals		319
Accrual adjustments		-	Accrual adjustments		-
Balance at June 30, 2006	$	1,582	Balance at June 30, 2005	$	1,557

10

Included in the warranty liability at June 30, 2006 are warranty liabilities associated with our former passenger car and light truck product lines, which were sold on September 30, 2003. The Company recorded a $400 warranty liability during 2003 related to products sold from our passenger car and light truck product lines in fiscal 2003. The Company’s obligation for products sold by these product lines relates only to products sold prior to September 30, 2003.

During the second quarter of fiscal 2006, the Company settled certain warranty claims covering a period in excess of one year for less than was anticipated in the Company’s liability assumptions, which were based on historical return rates and prior settlements. Based on this, the Company reduced its warranty liability during the second quarter of fiscal 2006 by $184, which has been reflected in cost of sales in the accompanying condensed consolidated statement of operations.

Note 12. Pension Plans and Post Retirement Benefits

The Company maintains two pension plans, an hourly employee plan and a salaried employee plan. The hourly plan covers certain of the Company’s union employees. The salaried plan covers certain salaried employees. During 2003, the Company modified the provisions of the salaried plan to limit the number of eligible employees to those in the plan at the time of modification and to limit the benefits under the plan to those earned to that date. Annual net periodic pension costs under the plans are determined on an actuarial basis. The Company’s policy is to fund these costs accrued over 15 years and obligations arising due to plan amendments over the period benefited. The assets and liabilities are adjusted annually based on actuarial results. Disclosures regarding the components of net periodic benefit cost and contributions of pension plans are required for interim financial statements and are included below.

Components of Net Periodic Benefit Cost:
	Salaried Employees Plan				Hourly Employees Plan
	Three Month Period Ended June 30,				Three Month Period Ended June 30,
	2006		2005		2006		2005
Service cost	$	-	$	-	$	36	$	37
Interest cost		69		69		103		109
Expected return on plan assets		(63)		(51)		(93)		(65)
Amortization of prior service cost		-		-		13		14
Amortization of loss		29		25		86		92
Net periodic benefit cost	$	35	$	43	$	145	$	187

	Salaried Employees Plan				Hourly Employees Plan
	Nine Month Period Ended June 30,				Nine Month Period Ended June 30,
	2006		2005		2006		2005
Service cost	$	-	$	-	$	108	$	111
Interest cost		207		207		309		327
Expected return on plan assets		(189)		(153)		(279)		(195)
Amortization of prior service cost		-		-		39		42
Amortization of loss		87		75		258		276
Net periodic benefit cost	$	105	$	129	$	435	$	561

The Company expects total contributions to its pension plans in fiscal 2006 to be $1,404. As of June 30, 2006, the Company has made contributions of $1,031 and will make the remaining contributions of $373 in July 2006.

The Company also provides health care and life insurance benefits for certain of its retired employees. These benefits are subject to deductibles, co-payment provisions and other limitations. Disclosures regarding the components of net periodic benefit cost and contributions of the Company’s post-retirement plan are required for interim financial statements and are included below. The Company did not make any contributions to the post-retirement plan for the three and nine month periods ended June 30, 2006 and 2005.

11

Components of Net Periodic Benefit Cost:
	Post-Retirement Plan
	Three Month Period Ended June 30,				Nine Month Period Ended June 30,
	2006		2005		2006		2005
Service cost	$	1	$	2	$	3	$	6
Interest cost		50		65		150		195
Amortization		(7)		6		(21)		18
Net periodic benefit cost	$	44	$	73	$	132	$	219

Note 13. Related Parties

As part of the 2004 recapitalization transaction, the Company entered into a put/call option agreement with American Industrial Partners Capital Fund III, L.P. (“AIP”). The put option agreement gave AIP the right to require the Company to repurchase, in whole or in part, up to a maximum of 1,166,666 shares of the Company’s common stock held by AIP (the “Put”) during the period commencing on September 30, 2006 and ending on September 30, 2007 at the lesser of $6.00 per share or the average of the closing trading prices of the Company’s common stock for the 30 trading days immediately preceding the third business day before the notice of exercise of the Put is delivered by AIP. The call option granted the Company a right to elect to purchase from AIP on October 31, 2007 all of the shares of the Company’s common stock then held by AIP, up to a maximum of 1,166,666 shares, at a price of $12.00 per share.

During the first quarter of fiscal 2006, AIP sold all of its shares of stock in the Company to three purchasers: (i) the Company; (ii) Dolphin Offshore Partners L.P. (“Dolphin”), an affiliate of Dolphin Advisors, LLC (“Dolphin Advisors”); and (iii) an investment group arranged by Taglich Brothers, Inc. The Company repurchased 416,666 shares at $7.68 per share. Dolphin purchased 355,420 shares at $7.68 per share. The investment group arranged by Taglich Brothers, Inc. purchased 355,420 shares also at $7.68 per share. Peter E. Salas, a member of the Board of Directors of the Company, manages Dolphin and Carlos P. Salas, also a member of the Board of Directors of the Company, is a member of Dolphin Advisors. Douglas E. Hailey, also a member of the Board of Directors of the Company, is the Vice President of the Investment Banking Division of Taglich Brothers, Inc. In conjunction with these sales by AIP, the put/call option agreement was terminated and the parties were released from their obligations under this agreement.

Effective with the 2004 recapitalization transaction, the Company entered into an Amended and Restated Management Services Agreement (the “Agreement”) with American Industrial Partners (“AIP Advisor”) and Dolphin Advisors. AIP Advisor is an affiliate of AIP, and Dolphin Advisors is an affiliate of Dolphin Offshore Partners, L.P. and Dolphin Direct Equity Partners, L.P. Under the restated management services agreement, the Company was required to pay annually $80 to AIP Advisor and $120 to Dolphin Advisors. The Company’s obligation to pay the annual fee to AIP Advisor or Dolphin Advisors was to terminate automatically as of August 1, 2007. In conjunction with AIP’s sale of stock, the obligation under the agreement to pay the management fee to AIP Advisor terminated as of October 1, 2005. Additionally, the Agreement with respect to Dolphin Advisors was amended to reduce the annual management fee to $60 and to extend the Agreement one year to August 1, 2008.

During the first quarter of fiscal 2006, the Company paid bonuses related to fiscal 2005. As part of the employment agreement with Patrick W. Cavanagh, President and Chief Executive Officer, the Company has the option to pay Mr. Cavanagh a portion of his bonus in shares of common stock of the Company as approved by the board of directors. The Company paid $60 of Mr. Cavanagh’s bonus in shares of common stock equal to 6,223 shares at a price of $9.66 per share. Additionally, in the third quarter of fiscal 2006, the Company elected to pay 7% of Mr. Cavanagh’s fiscal 2006 salary in common stock of the Company and issued 1,306 shares of restricted common stock at $12.86 per share. Also during the third quarter of fiscal 2006, the Company paid approximately $5 of Dennis E. Bunday’s, Executive Vice President and Chief Financial Officer, salary in common stock of the Company and issued 388 shares of restricted common stock at $12.86 per share.

In June 2005, the Company issued 12,722 shares of restricted common stock to its President and Chief Executive Officer at $7.86 per share. As part of his employment agreement, he was entitled to a one-time signing bonus payable in May 2005, of which $100 would be paid in shares of common stock, valued at the average trading price for the preceding 30 days and $100 payable in cash. Additionally, this agreement grants the Company the option to pay up to 7% of his annual base salary in shares of common stock. In June 2005, the Company elected to pay 7% of his fiscal 2005 salary in common stock of the Company and issued 2,137 shares of restricted stock at $7.86 per share.

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Note 14. Segment Information

The Company accounts for its segments in accordance with SFAS No. 131 “Disclosures about Segments of an Enterprise and Related Information.” During the three and nine month periods ended June 30, 2006 and 2005, the Company operated in one segment: vehicle components.

Note 15. Contingencies

The Company and its subsidiaries are parties to various pending judicial and administrative proceedings arising in the ordinary course of business. The Company’s management and legal counsel have reviewed the probable outcome of these proceedings, the costs and expenses reasonably expected to be incurred, the availability and limits of the Company’s insurance coverage, and the Company’s established liabilities. While the outcome of the pending proceedings cannot be predicted with certainty, based on its review, the Company believes that any liability that may result is not reasonably likely to have a material effect on the Company’s liquidity, financial condition or results of operations.

The soil and groundwater at our Portland, Oregon facility contains certain contaminants, which were deposited from approximately 1968 through 1995. Some of this contamination has migrated offsite to a neighboring property. The Company has retained an environmental consulting firm to investigate the extent of the contamination and to determine what, if any, remediation will be required and the associated costs. During the third quarter of fiscal 2004, we entered into the Oregon Department of Environmental Quality’s voluntary clean-up program and during fiscal 2004 we established a liability of $950 for this matter. As of June 30, 2006, this liability has been reduced to $561 to reflect expenditures made to complete portions of the investigation. The Company has made contribution claims for investigation and remediation costs against both prior operators of the property and a former owner of the property under the Federal Superfund Act and the Oregon Cleanup Law. The Company believes it also has a contractual right to indemnification from one of the prior operators of the property for a portion of the investigation and remediation costs and has notified the prior operator of this indemnity claim. The Company is exploring the possibility of cooperative settlement with both prior operators and the prior owner of the property. The Company intends to pursue legal action against the prior owner and these prior operators if settlements cannot be reached in a reasonable time. During the second quarter of fiscal 2006, Dana Corporation (“Dana”), the prior owner from whom the Company has a contractual right to indemnification, filed a Chapter 11 bankruptcy petition in the United States Bankruptcy Court for the Southern District of New York. At this time it is uncertain how this petition will impact the ultimate recovery from Dana, however, the Company has not previously reflected any potential recovery in its consolidated financial statements. The Company believes that even with a resolution of the claims against the prior operators and owner of the property, the Company will be liable for some portion of the ultimate costs.

On October 1, 2004, the Company was named as a co-defendant in a product liability case (Cuesta v. Ford, et al, District Court for Bryant, Oklahoma) that seeks class action status. The complaint seeks an unspecified amount of damages on behalf of the class. The Company believes the claims to be without merit and intends to vigorously defend against this action. There can be no assurance, however, that the outcome of the lawsuit will be favorable to the Company or will not have a material adverse effect on the Company’s business, consolidated financial condition and results of operations. The Company cannot reasonably estimate the possible loss or range of loss at this time. In addition, the Company has incurred and will continue to incur substantial litigation expenses in defending this litigation.

On August 1, 2005, Mr. Thomas Ziegler, our former president and chief executive officer, filed a suit against the Company, American Industrial Partners, L.P.; American Industrial Partners Fund III, L.P., and American Industrial Partners Fund III Corporation in the Circuit Court of the 15th Judicial Circuit in and for Palm Beach County, Florida. This suit is similar to a suit filed by Mr. Ziegler on May 12, 2003 against the same defendants. The 2003 suit was dismissed without prejudice for failure to prosecute. In the suit, Mr. Ziegler alleges that we breached an “oral agreement” with Mr. Ziegler to pay him additional compensation, including a bonus of "at least" $500 for certain tasks performed by Mr. Ziegler while he was the Company's president and chief executive officer and seeks additional compensation to which he claims he is entitled. We dispute the existence of any such agreement and any resulting liability to Mr. Ziegler and are vigorously defending this action.

13

Williams Controls, Inc.

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

(Dollars in thousands, except share and per share amounts)

This section summarizes the significant factors affecting our consolidated results of operations, financial condition and liquidity position for the three and nine month periods ended June 30, 2006 and 2005. This section should be read in conjunction with our consolidated financial statements and related notes appearing elsewhere in this document. Statements in this report that relate to future results and events are based on our current expectations. Actual results in future periods may differ materially from those currently expected or desired because of a number of risks and uncertainties. For a discussion of factors affecting our business, see “Risk Factors” later in this document.

Overview

We design, manufacture and sell electronic throttle and pneumatic control systems for heavy trucks, transit busses and off-road equipment. Electronic throttle controls send a signal proportional to throttle position to adjust the speed of electronically controlled engines. The use of electronically controlled engines is influenced primarily by emissions regulations, because these engines generally produce lower emissions. The original applications of electronic engines and electronic throttle controls were in heavy trucks and transit busses in the United States and Europe in the late 1980’s. As a result of the continuing implementation of more stringent emissions standards worldwide, demand for electronically controlled engines and electronic throttle control systems is expanding. Both China and India have announced plans to require more stringent emissions standards for heavy trucks and transit busses. Additionally, worldwide emissions regulations have been enacted that increase the use of electronic throttle controls in off-road equipment. We also produce a line of pneumatic control products, which are sold to the same customer base as our electronic throttle controls. These pneumatic products are used for vehicle control system applications. We believe that the demand for our products will be driven by worldwide emissions legislation and the economic cycles for heavy trucks, transit busses and off-road equipment.

As we continue to move forward in fiscal 2006 and beyond, we will continue to work closely with our existing and potential customers to design and develop new products and adapt existing products to new applications, and to improve the performance, reliability and cost-effectiveness of our products.

Critical Accounting Policies and Estimates

Management's discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, sales, cost of sales and expenses and related disclosure of contingent assets and liabilities. We evaluate our estimates on an on-going basis. 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 value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe the following critical accounting policies and the related judgments and estimates affect the preparation of our consolidated financial statements.

Revenue recognition

Revenue is recognized at the time of product shipment, which is when title and risk of loss transfers to customers, and when all of the following have occurred: a firm sales agreement is in place, pricing is fixed or determinable, and collection is reasonably assured. Revenues are reported net of estimated returns, rebates and customer discounts. Discounts and rebates are recorded during the period they are earned by the customer.

Warranty

We provide a warranty covering defects arising from products sold. The product warranty liability is based on historical return rates of products and amounts for significant and specific warranty issues. The warranty is limited to a specified time period, mileage or hours of use, and varies by product, application and customer. The Company has recorded a warranty liability, which in the opinion of management is adequate to cover such costs. While we believe our estimates are reasonable, they are subject to change and such change could be material.

14

Legal

We are involved in various claims, lawsuits and other proceedings from time to time. Such litigation involves uncertainty as to possible losses we may ultimately realize when one or more future events occur or fail to occur. In connection with such claims and lawsuits, we estimate the probability of losses based on advice of legal counsel, the outcomes of similar litigation, legislative development and other factors. Due to the numerous variables associated with these judgments and assumptions, both the precision and reliability of the resulting estimates of the related loss contingencies are subject to substantial uncertainties. We regularly monitor our estimated exposure to these contingencies and, as additional information becomes known, may change our estimates significantly. A significant change in our estimates, or a result that materially differs from our estimates, could have a significant impact on our financial position, results of operations and cash flows.

Environmental

We estimate the costs of investigation and remediation for certain soil and groundwater contaminants at our Portland, Oregon facility. The ultimate costs to the Company for the investigation, remediation and monitoring of this site cannot be predicted with certainty due to the often unknown magnitude of the pollution or the necessary cleanup, the varying costs of alternative cleanup methods, the amount of time necessary to accomplish such cleanups and the evolving nature of cleanup technologies and governmental regulations. The Company has recognized a liability for environmental remediation costs for this site in an amount that management believes is probable and reasonably estimable. When the estimate of a probable loss is within a range, the minimum amount in the range is accrued when no estimate within the range is better than another. In making these judgments and assumptions, the Company considers, among other things, the activity to-date at the site and information obtained through consultation with applicable regulatory authorities and third party consultants and contractors. The Company regularly monitors its exposure to environmental loss contingencies. As additional information becomes known, it is at least reasonably possible that a change in the estimated liability accrual will occur in the near future.

Pensions and Post-Retirement Benefit Obligations

Pension and post-retirement benefit obligations and net period benefit cost are calculated using actuarial models. The most important assumptions that affect these computations are the discount rate, expected long-term rate of return on plan assets, and healthcare cost trend rates. We evaluate these assumptions at least annually. Other assumptions involve demographic factors such as retirement, mortality and turnover. These assumptions are evaluated at least annually and are updated to reflect our experience. Actual results in any given year will often differ from actuarial assumptions because of economic and other factors.

Our discount rate assumption is intended to reflect the rate at which retirement benefits could be effectively settled based upon the assumed timing of the benefit payments. To determine our discount rate, we choose a rate benchmarked on the widely accepted Moody’s Aa index and our assumed rate does not differ significantly from this benchmark rate. To determine the expected long-term rate of return on pension plan assets, we consider the current asset allocations and the historical and expected returns on various categories of plan assets obtained from our investment portfolio manager. Our post-retirement plan does not contain any plan assets.

Stock-Based Compensation Expense

As of October 1, 2005, we adopted SFAS No. 123R, which requires us to measure compensation cost for all outstanding unvested share-based awards, and awards we grant, modify, repurchase or cancel in the future, at fair value and recognize compensation over the requisite service period for awards expected to vest. The estimation of stock awards that will ultimately vest requires judgment, and to the extent actual results differ from our estimates, such amounts will be recorded as a cumulative adjustment in the period estimates are revised. We consider many factors when calculating fair value including estimated stock price volatility, expected term and expected forfeitures. Factors considered in estimating forfeitures include the types of awards, employee class, and historical experience. Actual results may differ substantially from these estimates. We recorded $102 and $325 of stock-based compensation expense for the three and nine month periods ended June 30, 2006. Stock-based compensation expense recorded in the three month period ended June 30, 2006 included $13 in cost of sales, $7 in research and development, $12 in selling and the remaining $70 in administration expense. Stock-based compensation expense recorded in the nine month period ended June 30, 2006 included $37 in cost of sales, $19 in research and development, $36 in selling and the remaining $233 in administration expense.

15

Income Taxes

For each jurisdiction that we operate in, we are required to estimate our annual effective tax rate together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in our consolidated balance sheet. We must also assess the likelihood that our deferred tax assets will be recovered from future taxable income and unless we believe that recovery is more likely than not, a valuation allowance is established. Our income tax provision on the consolidated statement of operations would be impacted by changes in the valuation allowance. This process is complex and involves significant management judgment in determining our provision for income taxes, deferred tax assets and liabilities and any valuation allowances recorded against our net deferred tax assets.

Forward-Looking Statements

This report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, without limitation, those statements relating to development of new products, the financial condition of the Company and the ability to increase distribution of our products. Forward-looking statements can be identified by the use of forward-looking terminology, such as “may”, “will”, “should”, “expect”, “anticipate”, “estimate”, “continue”, “plans”, “intends”, or other similar terminology. Although we believe that the expectations reflected in such forward-looking statements are reasonable, such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those indicated by the forward-looking statements. These risks and uncertainties are beyond our control and, in many cases, we cannot predict the risks and uncertainties that could cause our actual results to differ materially from those indicated by the forward-looking statements.

The forward-looking statements are made as of the date hereof, and, except as otherwise required by law, we disclaim any intention or obligation to update or revise any forward-looking statements or to update the reasons why the actual results could differ materially from those projected in the forward-looking statements, whether as a result of new information, future events or otherwise.

Investors are cautioned to consider the risk factors identified below and in our other SEC filings when considering forward-looking statements. If any of these items actually occur, our business, results of operations, financial condition or cash flows could be materially adversely affected.

Results of Operations

Financial Summary

(Dollars in Thousands)

	Three Month Period Ended June 30,			Nine Month Period Ended June 30,
	2006	2005	% Change	2006	2005	% Change
Net sales	$19,898	$17,192	15.7%	$54,826	$49,928	9.8%
Cost of sales	12,801	11,348	12.8%	35,583	32,901	8.2%
Gross profit	7,097	5,844	21.4%	19,243	17,027	13.0%
Research and development	898	855	5.0%	2,560	2,445	4.7%
Selling	522	364	43.4%	1,501	974	54.1%
Administration	1,235	1,577	(21.7%)	4,024	4,397	(8.5%)
Realignment of operations	229	-	100.0%	353	-	100.0%
Operating income	$ 4,213	$ 3,048	38.2%	$10,805	$ 9,211	17.3%

16

As a percentage of net sales:
Cost of sales	64.3%	66.0%	64.9%	65.9%
Gross margin	35.7%	34.0%	35.1%	34.1%
Research and development	4.5%	5.0%	4.7%	4.9%
Selling	2.6%	2.1%	2.7%	2.0%
Administration	6.2%	9.2%	7.3%	8.8%
Realignment of operations	1.2%	-	0.6%	-
Operating income	21.2%	17.7%	19.7%	18.4%

Comparative – Three month periods ended June 30, 2006 and 2005

NM = Not Meaningful

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Net sales	$19,898	$17,192	15.7%

Net sales increased $2,706 in the third quarter of fiscal 2006 compared to the third quarter of fiscal 2005, primarily due to increased sales volumes of electronic throttle control systems, specifically in the North American, Asian and European markets, and to a lesser extent increases in sales of our pneumatic control systems.

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Gross profit	$7,097	$5,844	21.4%

Gross profit was $7,097, or 35.7% of net sales in the third quarter of 2006, an increase of $1,253 compared to the gross profit of $5,844, or 34.0% of net sales, in the comparable fiscal 2005 period.

The increase in gross profit in the third quarter of fiscal 2006 is primarily driven by a 15.7% increase in sales of electronic throttle and pneumatic control systems to heavy truck and transit bus customers and a decrease in overhead expenses as a percentage of net sales. Gross profit was negatively impacted by actual overhead expenses increasing over the prior year as a result of costs associated with our manufacturing facility in Suzhou, China, which was opened during the second quarter of fiscal 2005 and an overall increase in labor costs to support higher sales volumes.

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Research and development	$898	$855	5.0%

Research and development activity for the third fiscal quarter of 2006 remained relatively constant when compared to the comparable period in 2005, increasing by $43. The increase in research and development expense is attributable to a larger number of projects under development during fiscal 2006. The Company’s research and development expenditures will fluctuate based on the products under development at any given point in time. Overall, we expect research and development expenses to increase over fiscal 2005 levels due to additional new product design projects and continued sensor development efforts.

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Selling	$522	$364	43.4%

Selling expenses increased $158 during the three month period ended June 30, 2006 as compared with the three month period ended June 30, 2005. In the second half of fiscal 2005 and the first nine months of fiscal 2006, the Company took several steps in expanding its sales efforts, including the addition of sales personnel in the United States and increased promotional materials. Selling expenses for our European and China sales offices also increased over the third quarter in the prior year as we continue to increase the sales and marketing efforts in these offices. We expect to continue to incur increased expenses associated with our current foreign customers and expanded selling and marketing efforts worldwide.

17

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Administration	$1,235	$1,577	(21.7%)

Administration expenses for the three month period ended June 30, 2006 decreased $342 when compared with the same period in fiscal 2005. The decrease in administration expenses is primarily a result of decreased legal costs associated with the class action lawsuit discussed in Note 15 to our unaudited condensed consolidated financial statements and other legal costs, a reduction in management fees as discussed in Note 13, and to a lesser extent fiscal 2005 included one time compensation costs associated with the commencement of employment of our President and Chief Executive Officer. Offsetting these decreases was an increase in information technology expenses to support our international operations and stock option compensation expense as a result of adopting SFAS No. 123R in the current fiscal year.

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Realignment of operations	$229	$      -	100.0%

The Company recorded expenses of $229 related to its realignment of operations as discussed in Note 3 of the Unaudited Condensed Consolidated Financial Statements.

					Percent Change
For the Three Month Period Ended June 30:	2006		2005		2006 to 2005
Interest income	$	(13)	$	(13)	0%
Interest expense	$	323	$	312	3.5%

Interest expense increased $11 in the third quarter of fiscal 2006 as compared to the third quarter of fiscal 2005 primarily due to higher overall interest rates. We expect interest expense to decrease in fiscal 2006 when compared to fiscal 2005 due to the continued reduction of debt levels resulting from scheduled debt payments each quarter.

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Loss on put/call option agreement	$ -	$59	NM

The Company recorded a $59 loss in the third quarter of fiscal 2005 related to the change in the net value of the Put and Call option agreement as discussed in Note 13 of the Unaudited Condensed Consolidated Financial Statements. As discussed in Note 13, the Put and Call option agreement was terminated during the first quarter of fiscal 2006 with no significant gain or loss.

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Other (income) expense, net	$ (151)	$ 1	NM

Other (income) expense was income of $151 in the third quarter of fiscal 2006 compared to expenses of $1 in third quarter of fiscal 2005. This increase in other income is primarily due to recording a gain of $161 for the reversal of old accounts payable related to closed insolvent subsidiaries of the Company as discussed in Note 9 of the Unaudited Condensed Consolidated Financials Statements.

			Percent Change
For the Three Month Period Ended June 30:	2006	2005	2006 to 2005
Income tax expense	$1,285	$1,079	19.1%

Tax expense reflects an effective tax rate of 31.7% for the three month period ended June 30, 2006 compared to an effective tax rate of 40.1% for the comparable three month period in fiscal 2005.

18

The reduction in the tax rate was primarily caused by the following factors: a significant reduction in the amount of foreign entity losses for which no tax benefit is provided; a reduction in the state tax rate due to the Oregon “kicker” refund; and the inclusion of the manufacturing production deduction, which became effective in fiscal 2006 for the first time.

Comparative – Nine month periods ended June 30, 2006 and 2005

NM = Not Meaningful

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Net sales	$54,826	$49,928	9.8%

Net sales increased $4,898 in the first nine months of fiscal 2006 compared to the first nine months of fiscal 2005, primarily due to increased sales volumes of electronic throttle control systems, specifically in the North American, Asian and European markets, and to a lesser extent increases in sales of our pneumatic control systems.

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Gross profit	$19,243	$17,027	13.0%

Gross profit was $19,243, or 35.1% of net sales in the first nine months of 2006, an increase of $2,216 compared to the gross profit of $17,027, or 34.1% of net sales, in the comparable fiscal 2005 period.

The increase in gross profit in fiscal 2006 is primarily driven by a 9.8% increase in sales of electronic throttle and pneumatic control systems to heavy truck and transit bus customers and a reduction in our warranty liability of $184 as discussed in Note 11 to our unaudited condensed consolidated financial statements, and reductions in pension and post-retirement benefit costs. Gross profit was negatively impacted by overhead expenses increasing over the prior year as a result of costs associated with our manufacturing facility in Suzhou, China, which was opened during the second quarter of fiscal 2005 and increased labor costs to support higher sales volumes.

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Research and development	$2,560	$2,445	4.7%

Research and development expenses increased $115 for the first nine months of fiscal 2006 compared to the comparable period in fiscal 2005. The increased research and development expense is largely attributable to an increase in development efforts for new products, markets and sensors, resulting in higher staffing levels and an overall increase in project expenses. The Company’s research and development expenditures will fluctuate based on the products under development at any given point in time. Overall, we expect research and development expenses to increase over fiscal 2005 levels due to additional new product design projects and continued sensor development efforts.

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Selling	$1,501	$974	54.1%

Selling expenses increased $527 for the nine month period ended June 30, 2006 as compared with the nine month period ended June 30, 2005. In the second half of fiscal 2005 and the first nine months of fiscal 2006, the Company took several steps in expanding its sales efforts, including the addition of sales personnel in the United States, China and Europe and increased promotional materials. Additionally, we opened our Europe and China sales offices in mid-fiscal 2005, and accordingly we did not incur significant costs associated with these offices during the first nine months of fiscal 2005 as compared to the first nine months of fiscal 2006. We expect to continue to incur increased expenses associated with our current foreign customers and expanded selling and marketing efforts worldwide.

19

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Administration	$4,024	$4,397	(8.5%)

Administration expenses for the first nine months of fiscal 2006 decreased $373 as compared to the same period in fiscal 2005. Included in administration expenses for the nine month period ended June 30, 2005 were one time compensation and relocation costs incurred in the first nine months of fiscal 2005 with the commencement of employment of our President and Chief Executive Officer and management fees, which were reduced as discussed in Note 13 to our unaudited condensed consolidated financial statements. Additionally, legal costs associated with the class action lawsuit discussed in Note 15 and other legal costs decreased from the prior year. Offsetting these reductions was an increase in information technology expenses to support our international operations and stock option compensation expense as a result of adopting SFAS No. 123R in the current fiscal year.

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Realignment of operations	$353	$      -	100.0%

The Company recorded expenses of $353 related to its realignment of operations as discussed in Note 3 of the Unaudited Condensed Consolidated Financial Statements.

					Percent Change
For the Nine Month Period Ended June 30:	2006		2005		2006 to 2005
Interest income	$	(53)	$	(33)	60.6%
Interest expense	$	955	$	1,134	(15.8%)

Interest expense decreased $179 in the first nine months of fiscal 2006 as compared to the same period in fiscal 2005 due to reductions in debt levels, partially offset by higher overall interest rates. We expect interest expense to continue to decrease in fiscal 2006 when compared to fiscal 2005 due to the continued reduction of debt levels resulting from scheduled debt payments each quarter.

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Gain on put/call option agreement	$ -	($323)	NM

The Company recorded a $323 gain in the nine month period ended June 30, 2005 related to the change in the net value of the Put and Call option agreement as discussed in Note 13 of the unaudited condensed consolidated financial statements. As discussed in Note 13, the Put and Call option agreement was terminated during the first quarter of fiscal 2006 with no significant gain or loss.

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Other (income) expense, net	$ (317)	$ (23)	NM

Other (income) expense was income of $317 in the first nine months of fiscal 2006 compared to income of $23 in the comparable period in fiscal 2005. This increase in other income is primarily due to recording a gain of $339 in the nine month period ended June 30, 2006 compared to a gain of $53 for the same period in fiscal 2005 for the reversal of old accounts payable related to closed insolvent subsidiaries of the Company as discussed in Note 9 of the Unaudited Condensed Consolidated Financials Statements.

			Percent Change
For the Nine Month Period Ended June 30:	2006	2005	2006 to 2005
Income tax expense	$3,486	$3,357	3.8%

Tax expense reflects an effective tax rate of 34.1% for the first nine months of fiscal 2006 compared to an effective tax rate of 39.7% for the comparable period in fiscal 2005.

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The reduction in the tax rate was primarily caused by the following factors: a significant reduction in the amount of foreign entity losses for which no tax benefit is provided; a reduction in the state tax rate due to the Oregon “kicker” refund; and the inclusion of the manufacturing production deduction, which became effective in fiscal 2006 for the first time.

Financial Condition, Liquidity and Capital Resources

Cash generated by operating activities was $4,013 for the first nine months of fiscal 2006, a decrease of $5,471 from the cash generated by operating activities of $9,484 during the first nine months of fiscal 2005. Cash flows from operations for the nine month period ended June 30, 2006 included net income of $6,734 and a non-cash deferred tax provision of $760 related to utilization of the remaining net operating loss. Cash flows from operations for the nine month period ended June 30, 2005 included net income of $5,099 and a non-cash deferred tax provision of $3,047 related to utilization of a portion of the net operating loss.

Cash flows from operations primarily decreased in the nine month period ended June 30, 2006 compared to the corresponding prior year period due to an increase in inventories, a decrease in accounts payable and an increase in tax payments as we utilized our remaining federal net operating loss carryforwards in the first quarter of fiscal 2006. The higher inventory levels are associated primarily with additional safety stock to facilitate changing suppliers, the transfer of some manufacturing from our Portland, Oregon to Suzhou, China facility, increased lead times associated with sourcing of components from overseas suppliers and additional inventory levels to support our China operations. In addition, cash flows from operations for the nine month period ended June 30, 2006 included payments to our pension plans of $1,031. For the nine month period ended June 30, 2005, we made payments of $795 to fund our pension plans. We believe we will continue to generate positive cash from continuing operations.

Cash used in investing activities was $1,734 for the nine month period ended June 30, 2006 and was comprised solely of purchases of property, plant and equipment. For the nine month period ended June 30, 2005, cash used in investing activities was $2,311 and was comprised solely of purchases of property, plant and equipment. We expect our cash use for investing activities to increase throughout the fiscal year as we continue to make purchases of capital equipment.

Cash used in financing activities was $6,361 for the nine month period ended June 30, 2006, compared to cash used in financing activities of $5,601 for the nine month period ended June 30, 2005. The use of cash for financing activities for the first nine months of fiscal 2006 primarily relates to the repurchase of common stock from AIP of $3,200, scheduled debt payments on our Merrill Lynch term loan and the payment of $2,074 related to the excess cash flow requirement of our loan agreement with Merrill Lynch. Offsetting these uses of cash were net borrowings on our revolving credit facility of $1,000 and proceeds from the exercise of stock options. The cash used for financing activities in the first nine months of fiscal 2005 primarily relates to scheduled debt payments on our Merrill Lynch term loan and the payoff of our then existing revolving credit facility with Merrill Lynch.

Contractual Obligations as of June 30, 2006

At June 30, 2006, our contractual obligations consisted of bank debt, operating lease obligations, a service agreement and a license agreement. We do not have any material letters of credit, purchase commitments, or debt guarantees outstanding at June 30, 2006. Maturities of these contractual obligations consist of the following:

	Payments due by period
	Total		Less than 1 year		1 – 3 years		3 – 5 years		More than 5 years
Term loan	$	9,252	$	2,847	$	6,405	$	-	$	-
Revolver		1,000		-		1,000		-		-
Operating leases		1,416		345		879		192		-
MMT license - minimum royalties		365		-		65		150		150
Management Services Agreement		120		-		120		-		-
	$	12,153	$	3,192	$	8,469	$	342	$	150

Certain liabilities, including those related to our pension and post-retirement benefit plans, are reported in the accompanying consolidated balance sheets but are not reflected in the table above due to the absence of stated maturities. The Company has net obligations at June 30, 2006 related to its pension plans and post-retirement medical plan of $4,563 and

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$3,243, respectively. The Company funded $1,031 to its pension plans during the first nine months of fiscal 2006 compared to contributions of $795 for the first nine months of fiscal 2005. We expect to make payments of approximately $373 throughout the rest of fiscal 2006.

At June 30, 2006, we had $7,000 available under our revolving credit facility with Merrill Lynch plus cash and cash equivalents of $970. We believe these resources, when combined with cash provided by operations, will be sufficient to meet our working capital needs on a short-term and long-term basis.

Included in the accompanying consolidated balance sheet is approximately $987 of accounts payable related to closed insolvent subsidiaries of the Company. In accordance with SFAS No. 140 “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities”, a debtor can only relieve itself of a liability if it has been extinguished. A liability is considered extinguished if (a) the debtor pays the creditor and is relieved of its obligation for the liability or (b) the debtor is legally released from being the primary obligor under the liability, either judicially or by the creditor. During the three and nine month periods ended June 30, 2006, the Company was judicially released from and reversed $161 and $339, respectively, of old accounts payable related to closed insolvent subsidiaries of the Company resulting in a gain, which has been recorded in other (income) expense in the accompanying condensed consolidated statements of operations. During the three and nine month periods ended June 30, 2005, the Company was judicially released from and reversed $2 and $53, respectively. The Company expects to reverse amounts in future periods based on the recognition of the liabilities being judicially released in accordance with SFAS No. 140 of $222 remaining in fiscal 2006; $731 in fiscal 2007; and $34 in fiscal 2010.

Recently Issued Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”), an interpretation of SFAS No. 109, “Accounting for Income Taxes”, which clarifies the accounting uncertainty in income taxes recognized in the financial statements in accordance with SFAS No. 109. The interpretation prescribes a recognition threshold of more-likely-than-not and a measurement attribute on all tax positions taken or expected to be taken in a tax return in order to be recognized in the financial statements. FIN 48 is effective for fiscal years beginning after December 15, 2006. Accordingly, the Company will adopt FIN 48 on October 1, 2007 and the Company is currently assessing the impact FIN 48 will have on its financial statements.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Market risk is the potential loss arising from adverse changes in market rates and prices, such as interest rates, foreign currency exchange rates and changes in the market value of investments. The Company’s primary market risk results from fluctuations in interest rates.

Interest Rate Risk:

• The Company has a five-year revolving and term loan agreement with its primary lender Merrill Lynch. Interest rates under the agreements are variable and are based on the election of the Company of either a LIBOR rate or Prime rate.

• As of June 30, 2006, the outstanding balance on the term loan was $9,252 and the outstanding balance on the revolving loan was $1,000. The effective annual interest rate on the term loan and revolving loan was 9.9% and 8.9%, respectively, as of June 30, 2006. The Company does not believe that a hypothetical 10% change in end of the period interest rates or changes in future interest rates on these variable rate obligations would have a material effect on its financial position, results of operations, or cash flows. The Company has not hedged its exposure to interest rate fluctuations.

Foreign Currency Risk:

• We sell our products to customers in the heavy truck, transit bus and off-road equipment industries. For the nine month periods ended June 30, 2006 and 2005, the Company had foreign sales of approximately 35.4% and 34.6% of net sales, respectively. All of the worldwide sales in the first nine months of fiscal 2005 and all but $163 of sales in the first nine months of fiscal 2006 were denominated in U.S. dollars. During fiscal 2005, we established a manufacturing facility in Suzhou, China and we opened sales offices in Shanghai, China and Ismaning (which is near Munich), Germany. The Company does not believe that changes in future exchange rates would have a

22

material effect on its financial position, results of operations, or cash flows as the majority of its foreign sales transactions are currently denominated in U.S. dollars and the investments in China and Germany are relatively small at this time in relation to our United States operations; however, we anticipate that in future years a higher percentage of our sales will be denominated in currencies other than the U.S. dollar. As a result, the Company has not entered at this time into forward exchange or option contracts for transactions to hedge against foreign currency risk. The Company will continue to assess its foreign currency risk as its international operations and sales increase.

Investment Risk:

• The Company does not use derivative financial or commodity instruments. The Company’s financial instruments include cash and cash equivalents, accounts and notes receivable, accounts payable and long-term obligations. The Company’s cash and cash equivalents, accounts receivable and accounts payable balances are short-term in nature, and, thus, the Company believes they are not exposed to material investment risk.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

The Company’s Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report pursuant to Rule 13a-15(b) under the Securities Exchange Act of 1934 (the “Exchange Act”)). Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures are effective in ensuring that information required to be disclosed in our Exchange Act reports is (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Controls

There has been no change in the Company’s internal controls over financial reporting that occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.

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Part II. Other Information

Item 1. Legal Proceedings

We are parties to various pending judicial and administrative proceedings arising in the ordinary course of business. Our management and legal counsel have reviewed the probable outcome of these proceedings, the costs and expenses reasonably expected to be incurred, the availability and limits of our insurance coverage, and our established liabilities. While the outcome of the pending proceedings cannot be predicted with certainty, based on our review, we believe that any liability that may result is not reasonably likely to have a material effect on our liquidity, financial condition or results from operations.

Item 1A. Risk Factors

An investment in our common stock involves a high degree of risk. You should carefully consider the risks discussed below and the other information in this report on Form 10-Q before deciding whether to invest in our common stock. There are no material changes to risk factors as previously disclosed in our most recent annual report on Form 10-K.

Risks related to our business:

A significant portion of our sales are derived from a limited number of customers, and results of operations could be adversely affected and stockholder value harmed if we lose any of these customers.

A significant portion of our revenues historically have been derived from a limited number of customers. For the years ended September 30, 2005, 2004 and 2003, Freightliner, LLC accounted for 18%, 20% and 21%, The Volvo Group accounted for 18%, 16% and 14%, Paccar, Inc. accounted for 17%, 16% and 10%, Navistar International Corporation accounted for 7%, 8% and 11%, and Caterpillar, Inc. accounted for 5%, 5% and 4%, respectively, of net sales from continuing operations. The loss of any significant customer would adversely affect our revenues and stockholder value.

Demand for equipment on which our products are installed may decrease, which could adversely affect our revenues and stockholder value.

We sell our products primarily to manufacturers of heavy trucks, transit busses and off-road equipment. If demand for our customers’ vehicles and equipment decreases, demand for our products would decrease as well. This decrease in demand would adversely impact our revenues and stockholder value.

Our products could be recalled, which could increase our costs and decrease our revenues.

Our vehicle component products must comply with the National Traffic and Motor Vehicle Safety Act of 1966, as amended, and regulations promulgated thereunder, which are administered by the National Highway Traffic Safety Administration (“NHTSA”). If NHTSA finds that we are not in compliance with its standards or regulations, it may, among other things, require that we recall products found not to be in compliance, and repair or replace such products. Such a recall could increase our costs and adversely impact our reputation in our industry, both of which would adversely affect our revenues, profit margins, results from operations and stockholder value. We experienced such a recall with respect to certain of our products in fiscal 2001.

We purchase raw materials and component parts from suppliers and changes in the relationships with such suppliers, as well as increases in the costs of such raw materials and/or component parts, would adversely affect our ability to produce and market our products, which would adversely affect our profit margins, results from operations and stockholder value.

We purchase raw materials and component parts from suppliers to be used in the manufacturing of our products. If a supplier is unable or unwilling to provide us with such raw materials and/or component parts, we may be unable to produce certain products, which could result in a decrease in revenue and adversely impact our reputation in our industry. Also, if prices of such raw materials and/or component parts increase and we are not able to pass on such increase to our customers, our profit margins would decrease. The occurrence of either of these would adversely affect our results from operations and stockholder value.

Our products could be subject to product liability claims by customers and/or consumers, which would adversely affect our profit margins, results from operations and stockholder value.

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A significant portion of our products are used on heavy trucks and transit busses. If our products are not properly designed or built and/or personal injuries are sustained as a result of our equipment, we could be subject to claims for damages based on theories of product liability and other legal theories. The costs and resources to defend such claims could be substantial, and if such claims are successful, we could be responsible for paying some or all of the damages. Also, our reputation could be adversely affected, regardless of whether such claims are successful. Any of these results would adversely affect our profit margins, results from operations and stockholder value.We are currently named as a co-defendant in a product liability case that seeks class action.

Work stoppages or other changes in the relationships with our employees could make it difficult for us to produce and effectively market our products, which would adversely affect our profit margins, results from operations and stockholder value.

If we experience significant work stoppages, as we did in fiscal 2003, we likely would have difficulty manufacturing our products. Also, our labor costs could increase and we may not be able to pass such increase on to our customers. The occurrence of either of the foregoing would adversely affect profit margins, results from operations and stockholder value.

Our defined benefit pension plans are under-funded and, therefore, we may be required to increase our contributions to the plans, which would adversely affect our cash flows.

We maintain two defined benefit pension plans among the retirement plans we sponsor. No new employees are being admitted to participate in these two plans. Participants in these two plans are entitled to a fixed formula benefit upon retirement. Although we make regular contributions to these two plans in accordance with minimum ERISA funding requirements, investment earnings may be less than expected, and we may be required to increase contributions to the under-funded plan(s), which would adversely affect our cash flows.

Risks related to environmental laws:

The soil and groundwater at our Portland, Oregon facility contains certain contaminants that may require us to incur substantial expense to investigate and remediate, which would adversely affect our profit margins, results from operations and stockholder value.

The soil and groundwater at our Portland, Oregon facility contains certain contaminants. Some of this contamination has migrated offsite to a neighboring property and potentially to other properties. We have retained an environmental consulting firm to investigate the extent of the contamination and to determine what, if any, remediation will be required and the associated costs. During the third quarter of fiscal 2004, we entered the Oregon Department of Environmental Quality’s voluntary clean-up program and during fiscal 2004 we established a liability of $950 for this matter. As of June 30, 2006, this liability was $561. Our costs could exceed this liability. We may incur substantial expenses if we are required to remediate the contamination, which would adversely affect our profit margins, results from operations and stockholder value.

We are required to comply with federal and state environmental laws, which could become increasingly expensive and could result in substantial liability if we do not comply.

We produce small quantities of hazardous waste in our operations and are subject to federal and state air, water and land pollution control laws and regulations. Compliance with such laws and regulations could become increasingly costly and the failure to comply could result in substantial liability. Either of these results could increase expenses, thereby adversely affecting our profit margins and stockholder value.

Risks related to foreign operations:

Fluctuations in the value of currencies could adversely affect our international sales, which would result in reduced revenues and stockholder value.

We sell products in Canada, Belgium, Sweden, Mexico, South America, the Pacific Rim nations, Australia, China and certain European nations, and have a manufacturing and sales operation in China, and a sales and technical center in Germany. For both the first nine months of fiscal 2006 and 2005, foreign sales were approximately 35% of net sales. For the fiscal years ended September 30, 2005, 2004 and 2003, foreign sales were approximately 35%, 33%, and 31% of net sales, respectively. Although currently virtually all of our sales and purchases are made in U.S. dollars, we anticipate that over time more of our sales will be denominated in foreign currencies. We do not presently engage in any hedging of foreign currency

25

risk. In the future, our operations in the foreign markets will likely become subject to fluctuations in currency values between the U.S. dollar and the currency of the foreign markets. Our results from operations and stockholder value could be adversely affected if currency of any of the foreign markets increases in value relative to the U.S. dollar.

Complying with the laws applicable to foreign markets may become more difficult and expensive in the future, which could adversely affect our results from operations and stockholder value.

Our operations in foreign markets are subject to the laws of such markets. Compliance with these laws may become more difficult and costly in the future. In addition, these laws may change and such change may require us to change our operations. Any of these results could adversely affect our results from operations and stockholder value by increasing expenses and reducing revenues, thereby reducing profits.

Political and economic instability in the foreign markets may make doing business there more difficult and costly, which could adversely affect our results from operations and stockholder value.

Economic and political instability may increase in the future in foreign markets. Such instability may make it more difficult to do business there and may make it more expensive to do so. If our operations were nationalized by the government of China, this could cause us to write off the value of our operations in such foreign markets and eliminate revenues generated by such operations. Any of these results could result in onetime charges or increased expenses as well as lower revenues, which would adversely affect our results of operations and harm stockholder value.

Risks Related to our Capital Structure:

The market price of our stock has been and may continue to be volatile, which could result in losses for stockholders.

Our common stock is listed on the OTC and is thinly traded. Volatility on the OTC is typically higher than the volatility of stocks traded on the Nasdaq stock market or other major exchanges. Stocks traded on the OTC are typically less liquid than stocks traded on the Nasdaq stock market or other major exchanges. The market price of our common stock has been and, in the future, could be subject to significant fluctuations as a result of the foregoing, as well as variations in our operating results, announcements of technological innovations or new products by us or our competitors, announcements of new strategic relationships by us or our competitors, general conditions in our industries or market conditions unrelated to our business and operating results. Any of these results would adversely impact stockholder value.

The expenses associated with becoming compliant with Section 404 of the Sarbanes-Oxley Act of 2002 could be significant, and therefore could adversely affect our results from operations and cash flows.

Our Company currently qualifies as a non-accelerated filer in accordance with Rule 12b-2 of the Securities Exchange Act of 1934. We are therefore not currently subject to the requirements of Section 404 of the Sarbanes-Oxley Act of 2002(“SOX 404”). If we were to become an accelerated filer under Rule 12b-2 of the Securities Exchange Act of 1934, or meet other criteria requiring us to comply with SOX 404, which under current SEC rules we would have to comply with SOX 404 beginning in the fiscal year ended September 30, 2007, we could incur significant costs and expenses in becoming compliant and continuing to comply with SOX 404. Such costs and expenses would include, without limitation, internal expenses associated with the development and implementation of tests and processes relating to our internal controls, as well as increased expenses payable to our external auditors. Such costs and expenses may adversely affect our results from operations and cash flows.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3. Defaults Upon Senior Securities

None

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

None

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Item 5. Other Information

None

Item 6. Exhibits

3.01	Certificate of Incorporation of the Registrant as amended. (Incorporated by reference to Exhibit3.1 to the Registrant’s annual report on form 10-K for the fiscal year ended September30, 1995)
3.02	Restated By-Laws of the Registrant as amended July 1, 2002. (Incorporated by reference to Exhibit3.6 to the Registrant’s quarterly report on Form 10-Q for the quarter ended June30, 2002)
4.01	Specimen Unit Certificate (including Specimen Certificate for shares of Common Stock and Specimen Certificate for the Warrants). (Incorporated by reference to Exhibits1.1 and 1.2 to the Registrant’s Registration Statement on Form 8-A, Commission File No. 0-18083, filed with the Commission on November1, 1989)
4.02	Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series A Preferred Stock, 71/2% Redeemable Convertible Series (Incorporated by reference to Exhibit3.1 to the Registrant’s quarterly report on form 10-Q for the quarter ended March31, 1998)
4.03	Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series A-1 Preferred Stock, Non-Redeemable Convertible Series. (Incorporated by reference to Exhibit3.3 to the Registrant’s quarterly report on Form 10-Q for the quarter ended June30, 2002)
4.04	Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series B Preferred Stock, 15% Redeemable Convertible Series (Incorporated by reference to Exhibit(d)(v) to the Schedule TO-I/A filed on July5, 2002)
4.05	Certificate of Elimination for Mandatory Preferred Stock (Incorporated by reference to Exhibit(d)(vi) to the Schedule TO-I/A filed on July5, 2002)
4.06	Certificate of Amendment to the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series A-1 Preferred Stock, Non-Redeemable Convertible Series (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004)
4.07	Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series C Preferred Stock, 15% Redeemable Non-Convertible Series (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004)
4.08	Certificate of Amendment to the Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series B Preferred Stock, 15% Redeemable Convertible Series (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004)
10.01(a)	Form of Indemnification Agreement for H. Samuel Greenawalt. (Incorporated by reference to Exhibit 10.1(c) to the Registrant’s annual report on Form 10-K for the fiscal year ended September 30, 1993)
10.01(b)	Form of Indemnification Agreement for Douglas E. Hailey (Incorporated by reference to Exhibit 10.1(a) to the Registrant’s quarterly report on Form 10-Q for the quarter ended December31, 2001)

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10.02	The Company’s 1995 Stock Option Plan for Non-Employee Directors. (Incorporated by reference to Exhibit 10.3 to the Registrant’s quarterly report on Form 10-Q for the quarter ended March31, 1995)
10.03	The Registrant’s 1993 Stock Option Plan as amended to date. (Incorporated by reference to Exhibit 10.4(b) to the Registrant’s annual report on Form 10-k for the fiscal year ended September30,1998)
10.06	Dolphin Side Letter, dated as of July 1, 2002 (Incorporated by reference to Exhibit (d)(xi) to the Schedule TO-I/A filed on July 5, 2002)
10.07	Form of Amended and Restated Subordinated Debenture Due July 1, 2004 (Incorporated by reference to Exhibit (d)(xii) to the Schedule TO-I/A filed on July5, 2002)
10.08	Amended and Restated Credit Agreement, including Promissory Notes for the Revolving Credit Loan and Terms Loans A and B, dated July 1, 2002 (Incorporated by reference to Exhibit (d)(xiii) to the Schedule TO-I/A filed on July5, 2002)
10.09	Put/Call Option Agreement, dated September 30, 2004, between Williams and American Industrial Partners Capital Fund III, L.P. (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004)
10.10	Credit Agreement, dated September 27, 2004, among Williams, Williams Controls Industries, Inc., a wholly-owned subsidiary of Williams, and Merrill Lynch Capital, a division of Merrill Lynch Business Financial Services, Inc. (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004)
10.11	Amended and Restated Management Services Agreement, dated September 30, 2004, among Williams, American Industrial Partners and Dolphin Advisors, LLC (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004)
31.01	Certification of Chief Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a) (Filed herewith)
31.02	Certification of Chief Financial Officer required by Rule 13a-14(a) or Rule 15d-14(a) (Filed herewith)
32.01	Certification of Patrick W. Cavanagh pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.02	Certification of Dennis E. Bunday pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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SIGNATURES

Pursuant to the requirements 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.

WILLIAMS CONTROLS, INC.

Date: August 10, 2006	/s/ PATRICK W. CAVANAGH Patrick W. Cavanagh President and Chief Executive Officer
Date: August 10, 2006	/s/ DENNIS E. BUNDAY Dennis E. Bunday Chief Financial Officer

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