Note 6. Current Liabilities and Debt Obligations

Accounts Payable and Other Accrued Payables

As of September 30, 2011 and December 31, 2010, the accounts payable and other accrued payables consisted of $21.4 million and $22.6 million, respectively, in trade account payables and $12.5 million and $6.3 million, respectively, in accrued trade payables.

Senior Revolving Credit Facility

On May 17, 2010, we amended our $25 million revolving credit facility (the “Facility”) with Wells Fargo Capital Finance, Inc. (“Wells Fargo”). Under the amended terms, the maturity date of the Facility was extended to May 17, 2014 from September 30, 2011, the limit on the Facility was increased to $30 million from $25 million, and a term loan component of $7.5 million was added to the Facility. The principal of the term loan component will be repaid in quarterly installments of $93,750, with a final installment of the unpaid principal amount payable on May 17, 2014. The interest rate on the term loan component is the same as that on the revolving credit component of the Facility, which was changed to the higher of the Wells Fargo Bank “prime rate” plus 1%, the Federal Funds rate plus 1.5%, or the 3-month LIBOR rate plus 2%. In lieu of having interest charged at the foregoing rates, the Company may elect to have the interest on all or a portion of the advances on the revolving credit component be a rate based on the LIBOR Rate (as defined in the Facility) plus 3.75%. As of September 30, 2011, we have not elected the LIBOR Rate option. Borrowings under the Facility continue to be collateralized by substantially all of the Company's assets including inventory, equipment, and accounts receivable. The financial covenants were updated to include minimum EBITDA (as defined in the Facility), minimum recurring revenue and a limit on capital expenditures. The Facility's anniversary fee was discontinued and the collateral management fee was reduced. Additionally, the Facility was amended to permit the full repayment of the entire principal amount of the Notes (as defined below).

In accordance with the stated use of proceeds for the term loan component of the Facility, $4.2 million was paid concurrent with the closing of the amendment to each of the holders of the Notes (as defined below) in full repayment of the principal and accrued but unpaid interest on the Notes through May 17, 2010.

On September 27, 2010, the Facility was further amended to allow for the redemption of up to $2.5 million of the aggregate value of the Senior Redeemable Preferred Stock at a discount from par value of at least 10%. On September 27, 2010 and on April 8, 2011, a portion of the Senior Redeemable Preferred Stock was redeemed (see Note 7 – Redeemable Preferred Stock).

As of September 30, 2011, the interest rate on the Facility was 4.25%. We incurred interest expense in the amount of $0.2 million and $0.5 million each for the three and nine months ended September 30, 2011 and 2010, respectively, on the Facility.

The Facility has various covenants that may, among other things, affect our ability to merge with another entity, sell or transfer certain assets, pay dividends and make other distributions beyond certain limitations. As of September 30, 2011, we were in compliance with the Facility's financial covenants, including EBITDA covenants. The term loan component of the Facility amortizes at 5% per year, or $0.4 million, which is paid in quarterly installments and is classified as current on the condensed consolidated balance sheets. The remaining balance of the term loan, or $6.7 million, and the revolving component of the Facility mature over the period 2011 through 2014 and are classified as a noncurrent liability as of September 30, 2011.

At September 30, 2011, we had outstanding borrowings of $14.7 million on the Facility, which included the $7.0 million term loan, of which $0.4 million was due within one year. At December 31, 2010, we had outstanding borrowings of $14.2 million on the Facility, which included the $7.3 million term loan, of which $0.4 million was due within one year. At September 30, 2011 and December 31, 2010, we had unused borrowing availability on the Facility of $12.2 million and $9.1 million, respectively. The effective weighted average interest rates on the outstanding borrowings under the Facility were 6.6% and 7.4% for the nine months ended September 30, 2011 and 2010, respectively.

The following are maturities of the Facility presented by year (in thousands):

	2011		2012		2013		2014		Total
Short-term:
Term loan	$	375	$	----	$	----	$	----	$	375	1
Long-term:
Term loan	$	----	$	375	$	375	$	5,906	$	6,656	1
Revolving credit		----		----		---		7,643		7,643	2

Subtotal	$	----	$	375	$	375	$	13,549	$	14,299

Total	$	375	$	375	$	375	$	13,549	$	14,674

The principal will be repaid in quarterly installments of $93,750, with a final installment of the unpaid principal amount payable on May 17, 2014.

Balance due represents balance as of September 30, 2011, with fluctuating balances based on working capital requirements of the Company.

Notes payable – IT Logistics, Inc.

On July 1, 2011, we entered into, and concurrently completed the transactions contemplated by, the Asset Purchase Agreement (the “Agreement”) with IT Logistics Inc., an Alabama Corporation (“ITL”), and its sole stockholder. The Agreement provides for the purchase of certain assets relating to the operation of ITL's business of providing survey, design, engineering, and installation services of inside and outside plant secure networking infrastructure and program management expertise. Under the terms of the Agreement, Telos assumed certain liabilities of ITL, principally liabilities that accrue on or after July 1, 2011, under certain contracts assumed by Telos.

The purchase price for the assets (in addition to the assumed liabilities described above) consisted of (1) $8 million payable on July 1, 2011, (2) $7 million payable in ten monthly payments of $700,000, together with interest on the unpaid balance of such amount at the rate of 0.50% per annum, beginning on August 1, 2011 and on the first day of each subsequent month thereafter, and (3) a subordinated promissory note (the “Note”) with a principal amount of $15 million. The Note accrues interest at a rate of 6.0% per annum beginning November 1, 2012, and is payable on July 1, 2041. The entire unpaid principal balance plus accrued and unpaid interest is due and payable upon the occurrence of a Change in Control (as defined in the Note), provided that all “Senior Obligations” are satisfied prior to or concurrent with such Change in Control. For purposes of the Note, “Senior Obligations” means, collectively, all (1) outstanding indebtedness of Telos, and (2) amounts due to the holders of the outstanding shares of the Company's Series A-1 Redeemable Preferred Stock, Series A-2 Redeemable Preferred Stock, and 12% Cumulative Exchangeable Preferred Stock (or any securities redeemable or exchangeable for any of the foregoing) upon a Change in Control, upon the voluntary or involuntary liquidation, dissolution, or winding up of the affairs of Telos, or otherwise.

At September 30, 2011, the outstanding balance of the $7 million note was $5.6 million. Additionally, the $15 million subordinated promissory note was recorded at its fair value of $11.7 million and has been accreted to its current carrying value of $11.9 million as of September 30, 2011. The $15 million subordinated promissory note will be accreted to its face value over 60 months.

Senior Subordinated Notes

In 1995, we issued Senior Subordinated Notes (“Subordinated Notes”) to certain shareholders. Such Subordinated Notes are classified as either Series B or Series C. The Series B Subordinated Notes were secured by our property and equipment, but subordinate to the security interests of Wells Fargo under the Facility. The Series C Subordinated Notes were unsecured. The maturity date of such Subordinated Notes had been extended to December 31, 2011, with interest rates ranging from 14% to 17%, and paid quarterly on January 1, April 1, July 1, and October 1 of each year. The Subordinated Notes could be prepaid at our option; however, the Subordinated Notes contained a cumulative prepayment premium of 13.5% per annum payable upon certain circumstances, which included, but were not limited to, an initial public offering of our common stock or a significant refinancing (“qualifying triggering event”), to the extent that sufficient net proceeds from either of the above events were received to pay such cumulative prepayment premium. Due to the contingent nature of the cumulative prepayment premium, any associated premium expense could only be quantified and recorded subsequent to the occurrence of such a qualifying triggering event.

On May 17, 2010, the principal balances of the Subordinated Notes plus accrued interest totaling $4.2 million were paid in full, with the prepayment penalties on the repayment waived by the note holders. We incurred interest expense in the amount of $0 million and $0.2 million for the three and nine months ended September 30, 2010, respectively, on the Subordinated Notes.

Warranty Liability

We provide warranty services to our customers primarily in the Secure Networks business line. The majority of our warranty services involves contractual coverage with the Original Equipment Manufacturer (“OEM”) and primarily involves referrals to the OEM for service calls. Additionally, certain contracts and programs require that we provide an enhanced level of warranty coverage. The balance of our accrued warranty liability as of September 30, 2011 and December 31, 2010 was $1.0 million and $1.1 million, respectively.