Overview

We operate in two segments: repair, remanufacturing and manufacturing, and construction and engineering services.

The repair, remanufacturing and manufacturing segment is primarily engaged in providing maintenance and repair services to the electric motor industry, repairing, remanufacturing and manufacturing industrial lifting magnets for the steel and scrap industries, locomotives and locomotive engines for the rail industry and power assemblies, engine parts, and other components related to large diesel engines for the rail, utilities and offshore drilling industries. The construction and engineering services segment provides a wide range of electrical contracting services, mainly to industrial, commercial and institutional customers.

We evaluate the performance of our business segments based on net income or loss. Corporate administrative and support services for MISCOR are not allocated to the segments but are presented separately.

Recent Developments

On January 14, 2008, we entered into a credit facility with Wells Fargo Bank, National Association ("Wells Fargo"). The credit facility is comprised of a $1,250,000 real estate term note and a $13,750,000 revolving note. On January 16, 2008, we borrowed $7,500,000 under the revolving note and used the net proceeds of the loans for working capital and to acquire all of the outstanding shares of common stock of American Motive Power, Inc. discussed below. The original maturity date of the notes is January 1, 2011, at which time the notes will automatically renew for one-year periods until terminated. The notes are secured by (1) a first priority lien on the assets of the Company; (2) a mortgage on certain real property; and (3) the pledge of the equity interests in MISCOR's subsidiaries. The term note bears interest at an annual rate equal to the rate of interest most recently announced by Wells Fargo at its principal office as its prime rate (the "Prime Rate"), subject to certain minimum annual interest payments. The revolving note bears interest at an annual rate of either
(i) the Prime Rate, or (ii) Wells Fargo's LIBOR rate plus 2.8%, depending on the nature of the advance. Interest is payable monthly, in arrears, under the revolving note beginning on February 1, 2008. The term note requires monthly principal payments of $10,000, plus interest, beginning on June 1, 2008, the first day of the month following receipt of the advance. The term note was funded in April 2008.

On January 14, 2008, we amended our Amended and Restated Articles of Incorporation to effect a 1-for-25 reverse stock split of our issued and outstanding and authorized but unissued shares of common stock (the "Reverse Stock Split"). Pursuant to the Reverse Stock Split, each 25 shares of our common stock, whether issued and outstanding, held by MISCOR as treasury stock, or authorized but unissued, was combined into one share of common stock. Any shareholder who held a fractional share of common stock after giving effect to the Reverse Stock Split received in cash, in lieu of such fractional share, an amount equal to the product of (i) $0.566, which was the mean of the average of the closing bid and ask prices of our common stock as quoted on the OTC Bulletin Board for the five business days before the effective date of the Reverse Stock Split, multiplied by (ii) 25, multiplied by (iii) the fractional share. As a result of the Reverse Stock Split, the symbol assigned to MISCOR's common stock for quotation on the OTC Bulletin Board was changed from "MCGL" to "MIGL". The Reverse Stock Split was approved by our Board of Directors on November 30, 2007 and became effective on January 14, 2008 by the filing of articles of amendment to our Amended and Restated Articles of Incorporation with the Indiana Secretary of State. Under Indiana law, the Reverse Stock Split did not require shareholder approval.

On January 16, 2008, we acquired 100% of the outstanding shares of common stock of American Motive Power, Inc. ("AMP"). Accordingly, the results of operations are included in the Company's consolidated financial statements from that date forward. AMP is engaged in the business of repairing, remanufacturing, and rebuilding locomotives and locomotive engines and providing related goods and services to the railroad industry.

On February 8, 2008, we amended our Amended and Restated Articles of Incorporation to increase the number of authorized shares of common stock from 12,000,000 to 20,000,000 shares (the "First Stock Increase"). The First Stock Increase was approved by our shareholders at a special meeting on February 7, 2008, and became effective on February 8, 2008, by the filing of articles of amendment to our Amended and Restated Articles of Incorporation with the Indiana Secretary of State.

In February 2008, certain debenture holders exercised their options under the debenture offering to convert $2,690,000 into 316,013 shares of our common stock at a price of $8.512316 per share (see Note H to the Financial Statements). In accordance with the provisions of the debenture offering, the debenture holders did not receive any payment of accrued interest. In 2008, we redeemed the remaining outstanding debentures in the amount of $342,000 including interest of $52,000.

In May 2008, AMP formed a subsidiary in Montreal, Canada named AMP Rail Services Canada, ULC ("AMP Canada"). AMP Canada repairs, remanufactures and rebuilds locomotives.

On May 20, 2008, we amended our Amended and Restated Articles of Incorporation to further increase the number of authorized shares of our common stock from 20,000,000 to 30,000,000 shares (the "Second Stock Increase"). The Second Stock Increase was approved by our shareholders at the annual meeting of shareholders on May 15, 2008, and became effective on May 20, 2008, by the filing of articles of amendment to our Amended and Restated Articles of Incorporation with the Indiana Secretary of State.

In September 2008, the Company acquired certain business assets of Visalia Electric Motor Shop Inc. ("VEMS"). VEMS provides maintenance and repair services for both alternating current and direct current electric industrial motors and generators. The acquisition of net assets was made for the purpose of expanding the Company's market penetration into the repair, remanufacturing and manufacturing segment. The aggregate purchase price of $1,000,000 was paid in cash at closing and was financed through borrowings under the credit facility. Concurrent with this acquisition, the Company leased approximately $800,000 of equipment from VEMS.

In September 2008, we amended our credit facility with Wells Fargo. The second amendment revised a financial covenant which increased the maximum amount of capital expenditures for 2008 to $2 million, no more than $1.25 million of which could be paid from working capital. The amendment also limited the investment and loans from American Motive Power, Inc. to AMP Rail Services Canada, ULC to $1 million.

Critical Accounting Policies and Estimates

We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.

Principles of consolidation. The consolidated financial statements for the three and nine months ended September 28, 2008 and September 30, 2007 include our accounts and those of our wholly-owned subsidiaries, Magnetech Industrial Services, Inc., Martell Electric, LLC, HK Engine Components, LLC, and Magnetech Power Services LLC. The consolidated financial statements for the three and nine months ended September 28, 2008 also include the accounts of Ideal Consolidated, Inc. ("Ideal"), 3-D Service, Ltd. ("3-D"), and AMP. All significant intercompany balances and transactions have been eliminated.

Use of estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires our management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Significant estimates are required in accounting for inventory costing, asset valuations, costs to complete and depreciation. Actual results could differ from those estimates.

Revenue recognition. Revenues in our repair, remanufacturing and manufacturing segment consist primarily of product sales and service of industrial magnets, electric motors, and diesel power assemblies. Product sales revenue is recognized when products are shipped and both title and risk of loss transfer to the customer. Service revenue is recognized when all work is completed and the customer's property is returned. For services to a customer's property provided at our site, property is considered returned when the customer's property is shipped back to the customer and risk of loss transfers to the customer. For services to a customer's property provided at the customer's site, property is considered returned upon completion of work. We provide for an estimate of doubtful accounts based specific identification of customer accounts deemed to be uncollectible and on historical experience. Our revenue recognition policies are in accordance with Staff Accounting Bulletins No. 101 and No. 104.

Revenues from Martell Electric, LLC's electrical contracting business, Ideal's mechanical contracting business, and long term contracts from the remanufacturing and rebuilding of locomotives and locomotive engines at AMP are recognized on the percentage-of-completion method in accordance with Statement of Position No. 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts, measured by the percentage of costs incurred to date to estimated total costs to complete for each contract. Costs incurred on contracts in excess of customer billings are recorded as part of other current assets. Amounts billed to customers in excess of costs incurred on contracts are recorded as part of other current liabilities.

Earnings per share. We account for earnings (loss) per common share under the provisions of SFAS No. 128, Earnings Per Share, which requires a dual presentation of basic and diluted earnings (loss) per common share. Basic earnings (loss) per common share excludes dilution and is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding for the year. Diluted earnings (loss) per common share is computed assuming the conversion of common stock equivalents, when dilutive.

Segment information. We report segment information in accordance with Statement of Financial Accounting Standards ("SFAS") No. 131, Disclosures about Segments of an Enterprise.

Inventory. We value inventory at the lower of cost or market. Cost is determined by the first-in, first-out method. We periodically review our inventories and make adjustments as necessary for estimated obsolescence and slow-moving goods. The amount of any markdown is equal to the difference between cost of inventory and the estimated market value based upon assumptions about future demands, selling prices and market conditions.

Property, plant and equipment. Property, plant and equipment are stated at cost less accumulated depreciation. Depreciation is computed over the estimated useful lives of the related assets using the straight-line method. Useful lives of property, plant and equipment are as follows:

  Buildings                       30 years
  Leasehold improvements          Shorter of lease term or useful life
  Machinery and equipment         5 to 10 years
  Vehicles                        3 to 5 years
  Office and computer equipment   3 to 10 years

Long-lived assets. We assess long-lived assets for impairment whenever events or changes in circumstances indicate that an asset's carrying amount may not be recoverable.

Goodwill and other intangible assets. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, Goodwill and Other Intangible Assets, intangible assets other than goodwill are amortized over their useful lives, unless the useful lives are determined to be indefinite.

Goodwill represents the excess cost of companies acquired over the fair value of their net assets at the dates of acquisition. Goodwill, which is not subject to amortization, is required to be tested for impairment, at least annually, and written down when impaired. In accordance with SFAS No. 142, goodwill is tested for impairment using a two-step process. The first step is to identify a potential impairment and the second step measures the amount of the impairment loss, if any. Goodwill is deemed to be impaired if the carrying amount of the asset exceeds its estimated fair value.

Debt issue costs. We capitalize and amortize costs incurred to secure senior debt financing over the term of the senior debt financing. We also capitalize and amortize costs incurred to secure subordinated debenture financing over the term of the subordinated debentures, which initially was two years. However, in April 2006, the debenture holders agreed to extend the maturity of the debentures from February 28, 2007 to February 28, 2008. Beginning in April 2006, the unamortized costs related to the debenture financing were amortized through the extended maturity date.

Warranty costs. We warrant workmanship after the sale of our products. We record an accrual for warranty costs based upon the historical level of warranty claims and our management's estimates of future costs.

Income taxes. We account for income taxes in accordance with SFAS No. 109, Accounting for Income Taxes and FASB Interpretation No. 48.

Stock-based compensation. Effective January 1, 2006, we adopted SFAS No. 123R, Share-Based Payments (revised 2004), using the Modified Prospective Approach. SFAS 123R revises SFAS No. 123, Accounting for Stock-Based Compensation and supersedes Accounting Principles Opinion ("APB") No. 25, Accounting for Stock Issued to Employees. SFAS No. 123R requires the cost of all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based upon their fair values at grant date, or the date of later modification, over the requisite service period. In addition, SFAS No. 123R requires unrecognized cost (based on the amounts previously disclosed in our pro forma footnote disclosure) related to options vesting after the initial adoption to be recognized in the financial statements over the remaining requisite service period.

Under the Modified Prospective Approach, the amount of compensation cost recognized includes (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS No. 123, and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS No. 123R. Prior to the adoption of SFAS No. 123R, we accounted for our stock-based compensation plans under the recognition and measurement provisions of APB No. 25.

New Accounting Standards. In September 2006, the FASB issued SFAS No. 157, Fair Value Measurement ("SFAS 157"). SFAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. In February 2008, the FASB issued FASB Staff Position No. 157-2, which deferred the effective date of SFAS 157 for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually) until January 1, 2009. Accordingly, our adoption of this standard on January 1, 2008 was limited to financial assets and liabilities. The adoption of SFAS 157 did not have a material effect on our financial condition or results of operations. We are still in the process of evaluating this standard with respect to its effect on non-financial assets and liabilities and therefore has not yet determined the impact that it will have on our financial statements upon full adoption in 2009. Non-financial assets and liabilities for which we have not applied the provisions of SFAS 157 include those measured at fair value in impairment testing and those initially measured at fair value in a business combination.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities-including an amendment of FASB Statement No. 115 ("SFAS 159"). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Entities that elect the fair value option will report unrealized gains and losses in earnings at each subsequent reporting date. The fair value option may be elected on an instrument-by-instrument basis, with few exceptions. SFAS 159 also establishes presentation and disclosure requirements to facilitate comparisons between companies that choose different measurement attributes for similar assets and liabilities. The adoption of SFAS 159 did not have an effect on our financial condition or results of operations as we did not elect this fair value option, nor is it expected to have a material impact on future periods as the election of this option for our financial instruments is expected to be limited.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations ("SFAS No. 141(R)"). In SFAS No. 141(R), the FASB retained the fundamental requirements of SFAS No. 141 to account for all business combinations using the acquisition method (formerly the purchase method) and for an acquiring entity to be identified in all business combinations. However, the new standard requires the acquiring entity in a business combination to recognize all (and only) the assets acquired and liabilities assumed in the transaction; establishes the acquisition-date fair value as the measurement objective for all assets acquired and liabilities assumed; requires transaction costs to be expensed as incurred; and requires the acquirer to disclose to investors and other users all of the information they need to evaluate and understand the nature and financial effect of the business combination. SFAS No. 141(R) is effective for annual periods beginning on or after December 15, 2008. Accordingly, any business combinations will be recorded and disclosed following existing GAAP until January 1, 2009. We expect that SFAS No. 141(R) will have an impact on our consolidated financial statements when effective, but the nature and magnitude of the specific effects will depend upon the nature, terms and size of the acquisitions consummated after the effective date.

In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statements - an amendment of Accounting Research Bulletin No. 51" ("SFAS 160"). SFAS 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent's ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. SFAS 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS 160 is effective for fiscal years beginning after December 15, 2008. We do not expect the adoption of this standard on January 1, 2009 to have a material impact on our consolidated financial statements.

In March 2008, the FASB issued SFAS No. 161, "Disclosures about Derivative Instruments and Hedging Activities" ("SFAS 161"). SFAS No. 161 changes the disclosure requirements for derivative instruments and hedging activities. We will be required to provide enhanced disclosures about (a) how and why derivative instruments are used, (b) how derivative instruments and related hedged items are accounted for under Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Certain Hedging Activities ("SFAS 133"), and its related interpretations, and (c) how derivative instruments and related hedged items affects our financial position, financial performance, and cash flows. This statement is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. We are currently evaluating the impact of the adoption of SFAS 161 on our consolidated financial statements.

In April 2008, the FASB issued FSP FAS 142-3, "Determination of the Useful Life of Intangible Assets", ("FSP 142-3"). FSP 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142, "Goodwill and Other Intangible Assets". FSP 142-3 is effective for fiscal years beginning after December 15, 2008. We are currently evaluating the impact of FSP 142-3 on our consolidated financial statements.

In May 2008, the FASB issued SFAS No. 162, "The Hierarchy of Generally Accepted Accounting Principles" ("SFAS 162"). SFAS 162 identifies the sources of accounting principles and the framework for selecting the principles used in the preparation of financial statements. SFAS 162 is effective 60 days following the SEC's approval of the Public Company Accounting Oversight Board amendments to AU
Section 411, "The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles". The adoption of this standard is not expected to have a material impact on our consolidated financial statements.

Results of Operations

Three Months Ended September 28, 2008 Compared to Three Months Ended September 30, 2007

Revenues. Total revenues increased by $13.8 million or 78% to $31.5 million in 2008 from $17.7 million in 2007. The increase in revenues resulted from increases in repair, remanufacturing and manufacturing segment revenue of $8.1 million or 60% and construction and engineering services segment revenues of $5.7 million or 140%.

The increase in repair, remanufacturing and manufacturing segment revenue of $8.1 million in 2008 resulted from an increase in revenue from sales of motors, magnets and other industrial products and services of $4.8 million or 48% due mainly to the acquisition of 3-D in November 2007, $4.5 million in revenue from locomotive and locomotive engine rebuild and remanufacturing from the acquisition of AMP in January 2008, less declines in revenue from diesel engine components of $0.2 million or 7% and intercompany sales of $1.0 million. The increase in construction and engineering services revenue of $5.7 million in 2008 resulted from an increase in electrical contracting services of $2.5 million or 67% due to continued market penetration and a strong local construction market, and increases in service revenues of $3.2 million from the acquisition of Ideal in October 2007.

Cost of Revenues. Total cost of revenues in 2008 was $26.5 million or 84% of total revenues compared to $14.7 million or 83% of total revenues in 2007. The increase of $11.8 million in cost of revenues was due primarily to the overall corresponding increase in our total revenue.

Gross Profit. Total gross profit in 2008 was $5.0 million or 16% of total revenues compared to $3.0 million or 17% of total revenues in 2007. The increase of $2.0 million or 67% was due to increased consolidated revenues. Although gross profit as a percentage of total revenue was nearly the same in 2008 and 2007, gross profit on repair, remanufacturing and manufacturing segment revenue declined 3% and gross profit on construction and engineering services revenue increased 7%. Gross profit on repair, remanufacturing and manufacturing revenues declined due to unabsorbed overhead costs at AMP due to AMP's overcapacity. Gross profit on construction and engineering services revenue increased due to improved gross profit on a few larger electrical contracts.

Selling, General and Administrative Expenses. Selling, general and administrative expenses were $4.3 million in 2008 compared to $2.7 million in 2007. The increase of $1.6 million was due to increases in selling expenses of $0.5 million and general and administrative expenses of $1.2 million. Selling expenses increased 36% to $1.5 million in 2008 from $1.1 million in 2007 primarily due to the acquisitions of Ideal, 3-D and AMP. General and administrative expenses increased 75% to $2.8 million in 2008 from $1.6 million in 2007, due to the aforementioned acquisitions, including related professional fees, and increases in compensation.

Interest Expense and Other Income. Interest expense decreased in 2008 to $0.2 million from $0.3 million in 2007 as a result of the payoff of the remaining subordinated debentures and lower interest rates, partially offset by higher principal outstanding related to the notes payable to former 3-D stockholders and the real estate and equipment term loans from Wells Fargo. Interest on principal debt increased to $0.2 million from $0.1 million. Interest related to the amortization of debt issue costs and debt discount costs on subordinated debentures and senior secured debt decreased $0.2 million in 2008 compared to 2007.

Provision for Income Taxes. Prior to 2008, we experienced net operating losses in each year since we commenced operations. In January 2007, an ownership change occurred that will limit the amount of net operating loss that we will be able to use in future periods in accordance with Section 382 of the Internal Revenue Code, as amended. We are uncertain as to whether we will be able to utilize these tax losses before they expire. Accordingly, we provided a valuation allowance for the income tax benefits associated with these net future tax assets that primarily relates to cumulative net operating losses, until such time profitability is reasonably assured and it becomes more likely than not that we will be able to utilize such tax benefits.

Net Income. Net income in 2008 was $0.5 million compared to $0.1 million in 2007. The $0.4 million improvement was due to the increase in revenues and correspondingly smaller increase in expenses described above.

Nine Months Ended September 28, 2008 Compared to nine Months Ended September 30, 2007

Revenues. Total revenues increased by $41.2 million or 81% to $91.8 million in 2008 from $50.6 million in 2007. The increase in revenues resulted from increases in repair, remanufacturing and manufacturing segment revenue of $25.9 million or 68% and construction and engineering services segment revenues of $15.3 million or 121%.

The increase in repair, remanufacturing and manufacturing segment revenue of $25.9 million in 2008 resulted from an increase in revenue from sales of motors, magnets and other industrial products and services of $15.9 million or 58% mainly due to the acquisition of 3-D, an increase in revenue of diesel engine components of $0.8 million or 7%, and increases in service revenues of $11.3 million from the acquisition of AMP, less intercompany sales of $2.1 million. The increase in construction and engineering services revenue of $15.3 million in 2008 resulted from an increase in electrical contracting services of $6.5 million or 59% due to continued market penetration and a strong local . . .