Summary of ZBB ENERGY CORP

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Introduction

The following information should be read in conjunction with the financial statements and notes thereto in Part I,
Item 1 of this Quarterly Report and with Management's Discussion and Analysis of Financial Condition and Results of
Operations contained in our Annual Report on Form 10-KSB for the year ended June 30, 2008.

Forward-Looking and Cautionary Statements

Information provided by us or statements made by our employees may, from time to time, contain "forward-looking" information that involves risks and uncertainties. In particular, statements contained in this Quarterly Report that are not historical facts constitute forward-looking statements and are made under the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve substantial risks and uncertainties. You can identify these statements by forward-looking words such as "may", "expect", "anticipate", "believe", "estimate", "continue", and similar words. You should read and use our forward-looking statements carefully because they:
(1) discuss our future expectations; (2) contain projections of our future operating results or financial condition; or (3) state other "forward-looking" information. Various factors described below, as well as any other instances of cautionary language in this Quarterly Report, refer to or provide examples of risks, uncertainties and events that may cause our actual results to be materially different than the expectations described in our forward-looking statements. You should be aware that the occurrence of any of the events or factors described below and elsewhere in this Quarterly Report could materially and adversely affect our business. All forward-looking statements included in this Quarterly Report are based on information available to us on the date hereof, and we assume no obligation to update any such forward-looking statements.

In addition to the risks and uncertainties faced generally by participants in the renewable energy industry, we face
the following risks and uncertainties:

· We have incurred losses and anticipate incurring continuing losses for the immediate future.

· Undetected and unanticipated defects in our energy storage systems could increase our costs and harm our reputation.

· We will be required to regularly devote capital to updating, refining and expanding our energy storage systems technology and there is no assurance that we will have the resources to make improvements to remain competitive with new technologies.

· The market for our products is currently evolving and may take longer to develop than we anticipate.

· Our products must compete against both existing and newly developed technologies.

· We face competition from larger, more well-established companies and technologies.

· We may not be able to protect important intellectual property.

· We face risks associated with our plans to market, distribute and service our products internationally.

· Sales of our common stock by a major stockholder may have an adverse effect on the market price of our common stock.

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Overview

Company Background

We design, develop, manufacture and distribute renewable energy storage systems under the recently trademarked names, ZESS 50 and ZESS 500. Our ZESS systems are built using a proprietary process based upon our zinc-bromide rechargeable electrical energy storage technology. The modular nature of our zinc-bromide regenerative fuel cells allows it to be sized and packaged into fully customized, large format energy storage systems. Our systems combine these modules with computer hardware and software that interface with a customer's power source to recharge during off peak times and discharge power as needed.

The Company completed a public offering on the Australian Stock Exchange (the "ASX") in March of 2005. Our securities traded on the ASX from March 2005 to August 9, 2007 when they were delisted in connection with our United States public offering.

On June 18, 2007, in connection with our initial United States public offering of 3,333,333 shares of our common stock at an initial offering price of $6.00 per share, our shares began trading on the NYSE:AMEX (formerly the American Stock Exchange) under the symbol "ZBB".

Since our inception, until fiscal 2005, when we completed the Australian public offering and began our first major production contract, we were primarily a research and development company with little or no revenues. We have historically funded our operations primarily through debt and equity financings, government grants and joint ventures.

In 2008 we completed production under a multi-year contract with the California Energy Commission ("CEC") to produce the first two ZESS 500 kWh commercial energy storage systems for utility use. We also developed, produced, and shipped the first ZESS 50, a smaller capacity modular version of the ZESS 500 energy storage system.

In the current quarter we are in production on multiple ZESS 50 and ZESS 500 kWh renewable energy systems for delivery under various domestic contracts as well as international contracts to ship systems to destinations in Ireland, South Africa, and Australia within the next few months.

Wisconsin based initiatives include an agreement signed during the quarter with the Wisconsin Energy Independence Fund to secure $230,000 in support grant funding for the development of our own proprietary power conversion systems for both AC to DC and DC to DC renewable energy applications. We have contracted with a Wisconsin based partner to build and package the power electronics components for two ZESS 50 units that are required to be built under this grant.

Our production capacity has substantially increased through the delivery of new production equipment received in the last two quarters. This new equipment, along with manufacturing ramp-up and automation plans are underway that would enable a significant increase in production capability within several months. Since our IPO we have continued implementation of our business plan including the repayment of certain indebtedness, initiating manufacturing commercialization and capacity increases, ISO certification and UL listings, and commenced initial commercial marketing of our products into target markets.

We are currently working in the California energy market, in association with the California Energy Commission, Pacific Gas & Electric and the US Department of Energy amongst others, to install products into the local transmission and distribution network. In addition we are currently addressing numerous opportunities in the renewable energy markets within the United States along with a diverse international marketplace with the intention of introducing products and services into these markets.

The Company is actively involved in submitting proposals to the Federal Government in response to Funding Opportunity announcements issued as a result of the American Recovery and Reinvestment Act. These proposals cover opportunities for plant expansion, Smart Grid initiative, Renewable Energy Initiatives as well as research and development opportunities for applications where the Company's technology could bring a transformational change to market applications that we currently do not address.

On January 26, 2009 we filed an S-3 Registration Statement with the Securities and Exchange Commission. We took this action as a proactive measure in anticipation of our possible future needs for additional working capital and further capital expenditures. Although the registration statement has yet to be declared effective, it will provide us with some flexibility when we come to consider various debt and equity financing arrangements.

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Results of Operations

Nine months ended March 31, 2009 and 2008:

Revenue and Other income:

Our revenues for the nine months ended March 31, 2009 and 2008 were $733,738 and $1,114,537, respectively, a decrease of $380,799. This was result of a decrease in revenues of $303,063 from the CEC contract which was completed in March 2008, and a $77,737 decrease in revenues resulting from the Australian AEST project as compared to the nine month period ending March 31, 2009. Revenues include estimates based on the percentage-of-completion method of accounting for long-term contracts.

Other income for the nine months ended March 31, 2009 reflects a decrease in interest income of $313,265 compared to the nine months ended March 31, 2008, and a decrease of $50,329 in other income, primarily due to a reduction of $37,500 in rental income. The decrease in interest income is a result of decreasing cash balances invested from the proceeds of the Company's U.S. public offering in June 2007. Interest income is expected to continue to decrease in future periods as proceeds from the public offering are utilized for capital expenditures and operational purposes and from lower interest rates on the funds invested.

Cost and Expenses and Other Expense:

Total costs and expenses for the nine months ended March 31, 2009 and 2008 were $4,859,390 and $4,397,044, respectively. This increase of $462,346 in the nine months ended March 31, 2009 was primarily due to increased Australian (AEST) contract activities which began in July 2007 resulting in increases of $456,183 in advanced engineering and development expenses compared to the nine month period ended March 31, 2008 and increases in selling, general, and administrative costs of $357,015. These increases in costs were offset by a $283,837 reduction in cost of product sales and a decrease of $67,015 in depreciation expense.

Other expenses for the nine months ended March 31, 2009 and 2008 were $144,501 and $182,974, respectively. The decrease of $38,473 in other expenses for nine month period ending March 31, 2009 was primarily due to the decrease in finance costs incurred during the comparable nine month period of the prior fiscal year which included a early debt retirement charges from the proceeds of the public offering. Also, there were increases to interest expense of $10,174 in the period ending March 31, 2009 resulting from additional equipment financing. A foreign currency translation loss of $11,685 was realized during the March 31, 2009 period resulting from the application of the proceeds from an Euros based contract.

Cost of product sales. Our cost of product sales for the nine months ended March 31, 2009 and 2008 were $-0- and $283,837, respectively. The decrease in expense in the nine month period ended March 31, 2009 was due to the completion of the CEC sales contract which expired March 31, 2008.

Selling, General and Administrative. Our selling, general and administrative expense for the nine months ended March 31, 2009 and 2008 was $2,554,341 and $2,197,326, respectively. The expense during the current nine month period reflected an increase of $357,015 compared to the nine month period ending March 31, 2008. This was primarily result of establishing a sales and marketing department, and non-cash charges related to share based compensation to key management and directors, in addition to overall cost increases.

Travel costs were approximately $175,307 and $238,292 for the nine month periods ending March 2009 and 2008, respectively. The 2008 costs included travel related to installation and testing of energy storage systems sold in California, investor relations activities, and additional travel between Australian and U.S. operations. We expect overall travel related to marketing and business development to increase as our sales efforts and installations increase, but decrease as a percentage of sales.

Insurance costs include insurance benefits for employees of $94,435, general insurance of $41,355, and directors and officers insurance of $30,375. During the comparable nine month period ending March 31, 2008, insurance costs include insurance benefits for employees of $91,005, general insurance of $45,946 and $29,625 in directors and officers insurance costs were incurred.
Advanced engineering and development. Our engineering and development costs for the nine months ended March 31, 2009 and 2008 were $2,118,346 and $1,662,163, respectively. The increase during the nine month period ending March 31, 2009 of $456,183 from the comparable 2008 period was primary due to the increase in advanced engineering and development costs and materials under the AEST project contract which commenced in July 2007. Expenses were partially offset by $126,997 received from the Australian government during the nine months ended March 31, 2009 as tax concession funding for research and development expenditures. The costs incurred under the current AEST contract have been classified as advanced engineering and development expenditures, and have not been allocated or included in cost of sales.

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Net Loss. Our net loss for the nine months ended March 31, 2009 and 2008 was $4,151,123 and $2,995,686, respectively, resulting in a $1,155,437 increase in net loss as compared to the nine months ended March 31, 2008. In summary, this increase in loss was primarily the result of a $380,799 decrease in revenues, a $462,346 increase in operating costs, and a reduction of $313,265 in interest income.

Three months ended March 31, 2009 and 2008:

Revenue and Other income:

Our revenues for the three months ended March 31, 2009 and 2008 were $219,853 and $552,856, respectively. The decrease in revenues of $333,003 in the three months ended March 31, 2009 is attributable to a $151,295 decrease in revenues from the AEST project with an Australian government agency which began in July 2007 and a reduction in revenues of $181,708 in the contract with CEC was substantially completed in prior periods. Revenues include estimates based on the percentage-of-completion method of accounting for long-term contracts.

Other income for the three months ended March 31, 2009 and 2008 was $24,428 and $119,871, respectively. The decrease of $95,443 in the three months ended March 31, 2009 resulted primarily from a decrease of $83,682 in interest income from the investment of proceeds from the Company's public offering in June 2007 and a $12,500 reduction in rental income. Interest income is expected to decrease in future periods as proceeds from the public offering are utilized for capital expenditures and operational purposes and from lower interest rates on the funds invested, based on current market rates.

Cost and Expenses and Other expense:

Total operating expenses for the three months ended March 31, 2009 and 2008 were $1,697,040 and $1,834,253, respectively. The total operating expense decrease of $137,213 in three months ended March 31, 2009 included increases of $158,028 in selling, general and administrative expense, and offset by decreases in advanced engineering and development costs of $65,829, a decrease of $180,862 in the cost of products sales, and a decrease of $48,550 in depreciation expense.

Other expenses for the three months ended March 31, 2009 and 2008 were $71,574 and $35,855, respectively. The increase of $35,719 in the three month period ending March 31, 2009 was primarily due to increased interest expense of $24,062 on additional equipment financings, and $11,685 in realized losses on foreign currency transactions.

Cost of product sales. Our cost of product sales for three months ended March 31, 2009 and 2008 was $-0- and $180,862, respectively. The decrease in expense in the three month period ended March 31, 2009 resulted from completion of the final tasks related to the CEC contract in prior periods.

Selling, general and administrative. Our selling, general and administrative expense for the three months ended March 31, 2009 and 2008 was $887,523 and $729,495, respectively. This expense during the current three month period was $158,028 higher than the three month period ending March 31, 2008 primarily due to implementation of our equity incentive plans, start-up of the sales and marketing department, and overall cost increases.

Travel costs were approximately $50,000 and $78,000 for the three month periods ending March 2009 and 2008, respectively. Decreases are related to reductions in investor relations activities, and reduced travel to the "CEC" contract installation. We expect travel related to marketing and business development to increase as our sales efforts and installations increase.

Insurance costs include insurance benefits for employees of $33,550, general liability insurance of $18,384 and $10,125 in directors and officers insurance during the three months ended March 31, 2009. During the comparable three month period ending March 31, 2008, insurance costs include insurance benefits for employees of $28,500, general liability insurance of $17,088 and $9,875 in directors and officers insurance costs were incurred.

Advanced engineering and development. Our engineering and development costs for the three months ended March 31, 2009 and 2008 were $757,680 and $823,509, respectively. The decrease during the three month period ending March 31, 2009 of $65,829 from the comparable 2008 period was primary due to decreased materials costs consumed under the AEST project contract. The AEST project will continue to affect future expenditures through June 2010, the term of the contract; to the extent the costs are allowable and required under the contract. We intend to maintain our Australian staff and facility for the purposes of facilitating further marketing in Australia and Asia and for advanced engineering and development projects as needed.

Net loss. Our net loss for the three months ended March 31, 2009 and 2008 was $1,524,333 and $1,197,381, respectively. In the three months ended March 31, 2009 there was a $326,952 increase in net loss, resulting from a $333,003 decrease in revenues, a 131,162 decrease in other income; offset by a $137,213 decrease in costs and expenses.

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Liquidity and Capital Resources

Since our inception, our research, advanced engineering and development, and operations were primarily financed through debt and equity financings, government grants and joint ventures. Total paid in capital as of March 31, 2009 was $45,467,965. We had a cumulative deficit of $35,877,918 as of March 31, 2009 compared to a cumulative deficit of $31,726,795 as of June 30, 2008. At March 31, 2009 we had a working capital surplus of $5,010,292 and as of June 30, 2008 a working capital surplus of $8,611,872. Our shareholders' equity as of March 31, 2009 and June 30, 2008 was $7,882,362 and $12,016,118, respectively.

As a result of consummation of our initial U.S. public offering and our receipt of $18,410,000 proceeds (net of underwriter's costs) on June 20, 2007, our working capital increased by $17,267,365 (net proceeds less $1,142,635 in capital raising costs).

Other sources of funding have been provided by research and development grants such as the funding which continues to be generated from the AEST agreement entered into on June 29, 2007 by ZBB Technologies, Ltd, our subsidiary based in Western Australia, and the Commonwealth of Australia (administered by the Department of Environment and Water Resources), whereby, among other things, the Department has agreed to provide funding to us for the development and delivery of an energy storage system to be used to store and supply renewable energy generated from photovoltaic solar panels and wind turbines. The AEST agreement provides for $2.2 million (A$3.1 million) in project funding through June 2010 totaling $1.1 million in year one, $0.9 million in year two and $0.2 million in year three, as certain development progress "milestones" are met by us.

We believe that we will have sufficient capital necessary to meet our immediate future operating and capital commitments. This is based on our conservative business plan that includes current sales contracts which generate positive cash flows, and a rate of expenditure that supports our current operations, including product development and production readiness without additional funding from project financing or equity transactions. However, we believe additional capital is necessary to continue our mid-to-long term growth plans. Under current economic conditions and absent a substantial increase in new orders, the board of directors has requested that management implement increased cost containment measures. Actions taken by the board of directors and management in this quarter include: 1.) increase in cost saving measures to preserve cash resources; 2.) actively pursue fund raising arrangements, including engaging investment bankers to assist with equity based financing; 3.) focusing the Chief Executive Officer efforts on fund raising and federal stimulus spending plan opportunities; and
4.) filing a "shelf" S-3 Registration Statement to assist in fund raising efforts.

We are actively involved in submitting proposals to the Federal Government in response to Funding Opportunity announcements issued as a result of the American Recovery and Reinvestment Act. These proposals cover opportunities for plant expansion, Smart Grid initiative, renewable energy initiatives as well as research and development opportunities for applications where the Company's technology could bring a transformational change to market applications that we currently do not address.

Operating Activities

For the nine months ended March 31, 2009, net cash used in operations was $3,447,703. Cash used in operations resulted from a net loss of $4,151,123, reduced by $817,175 in non-cash adjustments. Net working capital changes increased the cash used in operations by $113,755 from decreases in accrued compensation of $48,231, deferred revenues of $2,415; and increases to inventory of $321,801, and prepaid and other current assets of $325. Cash used in operations was reduced by an increase in accounts payable of $230,325; and reductions in other receivables of $26,970, and accounts receivable of $1,722. Non-cash adjustments to operations included equipment of $210,855 charged to advanced engineering and development costs, $150,000 of non-cash consulting fees, $201,567 of stock based compensation expense, a $68,050 change in inventory allowance, and $186,703 of depreciation expense.

For the nine months ended March 31, 2008, net cash used in operations was $4,248,690. Cash used in operations resulted from decreases in accounts payable of $125,240; accrued expenses and loss on contracts of $93,756; deferred revenues of $176,305; increase to inventory of $633,423; an increase in accounts receivable of $284,195; and an increase in other assets of $128,538. Other non-cash adjustments to cash included long-term assets of $118,000 expensed to costs of engineering and development contracts and $150,000 of non-cash consulting fees.

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Investing Activities

For the nine months ended March 31, 2009, net cash used in investing activities was $1,729,795. Cash used in investing activities resulted from $713,470 in purchases of property and equipment, and $1,016,325 in net increases in bank certificates of deposits with maturities greater than three months.

For the nine months ended March 31, 2008, net cash used in investing activities was $345,281 due to purchases of manufacturing equipment and computer hardware.

Financing Activities

For the nine months ended March 31, 2009, net cash used in financing activities was $866,433 consisting of repayments of $203,567 principal on notes payable, and $1,070,000 in additional financing on manufacturing equipment.

For the nine months ended March 31, 2008, net cash used in financing activities was $4,219,420 consisting primarily of $4,047,823 in repayments of principal on notes payable, additional public offering costs of $100,000 and $71,598 reduction in principal on bank loans.

Known Trends, Market Opportunities and Challenges

We believe that there are specific existing and rapidly emerging market opportunities for the Company's energy storage products.
We believe that in North America the electric utilities markets' increasing energy demands on an increasingly fragile transmission and distribution network is forcing both utilities and commercial and industrial customers to adopt distributed storage and delivery systems to increase the reliability and the capacity of the electrical grid. We have designed our products to meet these needs in that they can be combined for use in larger storage applications. Federal and State Government initiatives to lessen the United States greenhouse gas emissions and dependency on oil and increasing concerns surrounding CO2 emissions are also driving this market sector. We believe that solar and wind energy has grown over the past five years and will continue to grow for so long as fossil fuel prices are increasing. Because both solar and wind are intermittent primary energy sources, both grid connected and off-grid installations require energy storage devices to optimize their capabilities.

We continue to advance the sales and marketing process in the areas of sales network structure, direct key accounts, strategic relationships, marketing and industry/policy involvement.

We continue to build a direct market pipeline of opportunities which include several electric utilities; companies involved in renewable energy; large renewable energy integrators involved in on-grid and off-grid applications, government facilities and other commercial and industrial opportunities such as "big box" store chains.

We have advanced the ZBB presence and awareness in the market through involvement in various market conferences (energy storage, wind, and solar, electric utility), direct marketing, marketing materials and web content, as well as continued efforts in media channels and highly visible applications such as the Future House USA installation in Beijing, China, the LifeVillage power systems to remote areas in Central and West Africa, and the sale of the first large scale wind/storage facility on a college campus at the Dundalk Institute of Technology in the Republic of Ireland. ZBB is in the process of furthering these marketing and networking efforts with additional marketing activities that will continue to raise the profile of ZBB and the ZESS brands.

We continue to work in the California energy and utility markets through the California Energy Commission and pursue opportunities with Pacific Gas & Electric and the U.S. Department of Energy amongst others, to install products into the local transmission and distribution network. In November 2008 the State of California amended certain renewable energy rebate programs to include energy storage systems, such as those manufactured and sold by us, when our systems are incorporated as part of either new or existing renewable energy installation.

We are currently addressing opportunities and engaged in fulfilling orders targeted to renewable energy markets in the United States, Europe, Australia, and Africa with the intention of introducing products and services into these markets. The United States and governments throughout the world are implementing renewable energy mandates, tax credits, investments, and other incentives . . .