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advancing communications

xG Technology, Inc. Annual Report and Accounts 2008

xg technology, inc. is an ip-centric developer of advanced, innovative technologies that enhance wired and wireless communication. These technologies substantially reduce the capital investment and operating costs required to deploy broadband wireless networks.

xg’s commercial products are powered by xg flash signal, a patented technology that enables the delivery of long range, low power voice and data services.

02 ChairmanandChiefExecutiveOfficer’sStatement08 Directors10 Directors’Report12 StatementofDirectors’Responsibilities13 IndependentAuditors’Report14 income statement15 BalanceSheet16 StatementofChangesinEquity17 CashFlowStatement18 NotestotheFinancialStatements28 Advisors

Revenue

$16.4m(2007: $250,000)

Profit

$2.0m(2007: $12m loss)

The xMax product suite has been optimised to allow for the delivery of high quality, low-cost mobile and fixed VoIP, as well as broadband Internet services. These will include a wide range of competitively-priced, flat-rate, unlimited use consumer service plans.

Mobile VoIP Fixed VoIP Mobile Broadband

xG TECHNOLOGY, iNC. ANNuAL REpORT ANd ACCOuNTs 2008 01

Recorded sales of a total of 327 base stations, resulting in $16.4 million in revenues (2007: $0.3 million). Operating profit before interest and share-based compensation was $7.7 million (2007: $6.2 million loss) and xG made a net profit of $2.0 million (2007: $12.0 million loss).

The Company remains well-financed, with year-end net cash and cash equivalents of $15.8 million (2007: $32.7 million).

The initial phase of deployment of the xMax BSN250 base stations in the Southern Florida market has begun, xG took delivery of the first fully commercial, production-ready TX60 handsets designed and developed by Cambridge Consultants Ltd. and completed testing the integration of the TX60 handset with the BSN250 base station, enabling xMax mobile VoIP calls between the TX60 handsets and base stations.

Signed an agreement with Treco International, S.A. to act as its exclusive infrastructure partner in the United States, allowing xMax carriers to finance, by equipment lease, a substantial part of the capital costs needed to deploy xMax networks.

Continued patent filing activity, enhancing xG’s portfolio of intellectual property. The patent portfolio now comprises a total of 47 United States matters (10 patents issued, 18 pending utility applications and 19 pending provisional applications) and a total of 82 foreign matters (8 issued, 64 pending applications and 10 applications).

xMax is the Economical Wireless Network Solution

2008 HiGHLiGHTs

xG TECHNOLOGY, iNC. ANNuAL REpORT ANd ACCOuNTs 2008 03xG TECHNOLOGY, iNC. ANNuAL REpORT ANd ACCOuNTs 200802 xG TECHNOLOGY, iNC. ANNuAL REpORT ANd ACCOuNTs 2008 03xG TECHNOLOGY, iNC. ANNuAL REpORT ANd ACCOuNTs 200802

CHAiRmAN ANd CHiEfExECuTivE OffiCER’s sTATEmENT

iNTROduCTiONIn 2008, xG Technology, Inc. (“xG” or the “Company”) successfully began its transi-tion from pure technology development to the profitable commercial exploitation of its intellectual property, through direct sales to new xMax carriers and by forging an infrastructure partnership in the United States with Treco International, S.A. (“Treco”).

In the year ended 31 December 2008, xG recorded sales of 327 base stations, resulting in $16.4 million in revenues (2007: $0.3 million). By virtue of the Company’s low fixed cost, outsourced business model, I am very pleased to report that, for 2008, xG made a net profit of $2.0 million (2007: $12.0 million loss), after deducting $6.3 million related to non-cash stock-based compensation costs (2007: $7.1 million). As a result, the Company remains well financed, with net cash of $15.8 million as at 31 December 2008 (31 December 2007: $32.7 million).

RiCHARd mOOERsChAIrMAn AnD ChIef exeCUTIVe OffICer

summaryb xG accelerated efforts toward the full commercialisation

of its xMax wireless network solution.

b During 2008, xG recorded sales of $16.4 million (2007: $0.3 million).

b xG continued to enhance the Company’s substantial body of technology innovation, while intensifying its focus on commercial product development.

During the course of the year, the Company achieved a number of impressive milestones.


During the year, the Company made significant strides in augmenting its IP-centric technology base, while expanding its commercial activities in the following areas: production and delivery of the BSn250 base station and Tx60 handset, supply chain ramp-up and development of carrier sales program. xG made significant enhancements to its end-to-end xMax family of products, which consists of BSn250 base stations, mobile switching centers and Tx60 handsets. This product suite will allow carriers to deliver high quality, low-cost mobile and fixed VoIP, as well as broadband Internet services. These ongoing developments and optimisations will enable xMax carriers to offer compel-ling, value-based mobile VoIP solutions to the market, as well as advanced applica-tions, services and innovative battery solutions in the future.

mARKET BACKGROuNd ANd xG’s mARKET OppORTuNiTYAs general economic conditions wors-ened and credit markets tightened in 2008, a considerable impact was felt in the wireless industry. Wireless operators, already facing onerous spectrum and equipment costs and long deployment cycles, also had to contend with a contracted supply of credit available for funding their operations and their network and capacity expansions.

Viewed in this context, xMax networks are incrementally more compelling because they offer an affordable and efficient way for xMax carriers to build and deploy wireless networks. xMax is based on xG flash Signal, a proprietary low-power, long-range system design which operates independently from legacy cellular networks. Together with the xG-developed and patent-pending xMAC (Media Access Control) data communica-tion technology, this system allows carriers to own and deploy their own mobile VoIP, fixed VoIP and data broadband networks without the prohibitive cost of buying spec-trum licences. xMax networks will be less

expensive to build, quicker to deploy and easier and less costly to maintain than traditional alternatives. for xMax carriers, this means a lower total cost of ownership, faster return on investment and nearer-term positive cash flows.

xG has also taken into consideration the funding needs of its xMax carriers. In an effort to ease infrastructure financing requirements, help alleviate credit con-straints and stimulate interest in xMax, xG has signed an agreement with Treco to act as xG’s exclusive infrastructure partner in the United States. Under the agreement, Treco purchases base stations and mobile switching centers from xG and leases the equipment to xMax carriers, allowing them to finance a substantial part of the capital costs needed to deploy their networks. This relationship resulted in the sale of 177 base station units during the second half of 2008, an 18% increase over the 150 base stations sold in the first half of the year.

xMax BSN250 Base StationThe proprietary, high-capacity xMax BSn250 base station has been engineered to deliver exceptional operational efficiencies and capabilities. By helping reduce total network costs, xMax base stations allow carriers to enhance revenues and meet the exploding demand for low-cost wireless voice and data services.


CHAiRmAN ANd CHiEf ExECuTivEOffiCER’s sTATEmENT COnTInUeD

mARKET BACKGROuNd ANd xG’s mARKET OppORTuNiTY COnTInUeDAnother significant industry trend wit-nessed in 2008 was the considerable increase in the number of subscribers choosing flat-rate, unlimited minute wire-less calling plans, particularly prepaid plans. The shift in preference for such plans is a direct result of the economic downturn and they are expected to gain even more attraction in 2009 as consumers look to tighten their budgets while maintaining their cellular service. xG, through its com-mercial product offering xMax, is strategi-cally positioned to take advantage of this trend by empowering its xMax carriers to package a wide range of end user service plans featuring competitively priced, flat-rate, unlimited mobile calling and text features. xMax carriers will have the ability to offer both all-you-can-talk national wireless plans and prepaid payment options as well as unlimited inbound and outbound international calling options.

These features are expected to have con-siderable appeal in the sizeable foreign national markets found across the United States. Bundled service plans that package broadband Internet and home phone will also be offered in the future.

As United States Government initiatives, such as the opening of unlicensed “white space” spectrum and the broadband wireless stimulus plan (part of the recently-passed broader economic stimulus package), are put into effect, additional scenarios may arise for which xMax network deployments would be very well suited. xG continues to monitor these policy trends closely and evaluates poten-tial opportunities on an ongoing basis.

OpERATiONsIn 2008, xG continued to leverage its patent portfolio and enhance the Company’s substantial body of technology innovation, while intensifying its focus on commercial product development and engagement with its target market. During the course of the year, the Company achieved a number of milestones, including the following:

xMax TX60 HandsetThe xMax Tx60 handset is xG’s first mass-produced mobile phone. It is a versatile, full-featured handset that has been designed to provide exceptional call quality, with both domestic and international service options. The Tx60 supports calls over the xMax network, as well as over the public internet using standard home, office and hotspot Wifi connections.


• completed the transition to the xMax BSn250 base station series. The BSn250 is a proprietary, high-capacity base station that has been optimised for use with the xMax Tx60 handset and will be capable of supporting advanced serv-ices, including 4G applications;

• began the initial phase of deployment of the xMax BSn250 base stations in the Southern florida market, took delivery of the first fully commercial, production-ready Tx60 handsets de-signed and developed by Cambridge Consultants Ltd. (“CC”) and completed testing the integration of the Tx60 handset with the BSn250 base station, enabling xMax mobile VoIP calls between the Tx60 handsets and base stations;

• incorporated additional refinements to the xMax network architecture to allow deployment of a high-availability and modular regional system;

• made further technology enhancements in support of the xMax VoIP application, including enhancements made to the xG-developed protocols (air-interface and MAC), as well as other network-related extensions that will enable increased performance and capacity;

• signed an agreement with Treco to act as xG’s exclusive infrastructure partner in the United States. This agreement allows xMax carriers to finance, by equipment lease, a substantial part of the capital costs needed to deploy xMax networks. We also received our first order from Treco under the agreement for 1,000 BSn250 base stations, with a total order value of $75.0 million. The order also included an option for the delivery of a further 4,000 base stations, with an additional order value of $300.0 million;

• released xDrive, a software and hard-ware toolkit which allows for fast and efficient mapping of xMax mobile VoIP cell coverage areas;

• created the xMax Authorized Carrier Partner Program, which provides a com-prehensive template for enterprise firms doing business with xG;

• engaged CC to complete development and manufacturing integration of the Tx60 handset. Building on their success-ful design and concept development phase, CC was contracted to provide turnkey development of the Tx60, includ-ing industrial, electronic and mechanical design, and user interface software, as well as full integration with the Company’s contract manufacturer; and

• continued patent filing activity, enhanc-ing the Company’s portfolio of intellec-tual property. The patent portfolio now comprises a total of 47 United States matters (10 patents issued, 18 pending utility applications and 19 pending provisional applications) and a total of 82 foreign matters (8 issued, 64 pending applications, and 10 applications).

In 2008, xG continued to leverage its patent portfolio and enhance the Company’s substantial body of technology innovation, while intensifying its focus on commercial product development and engagement with its target market.

CHAiRmAN ANd CHiEf ExECuTivEOffiCER’s sTATEmENT COnTInUeD

FINANCIAL REVIEWBuilding on a successful first half of the year, xG recorded sales of 177 base stations in the second half. This gave xG total sales of 327 base stations during the year, resulting in $16.4 million in revenues (2007: $0.3 million) with a gross profit margin of 92.5%. As the Company increas-ingly transitioned toward commercial operations, operating expenses rose 1.5% to $13.7 million (2007: $13.5 million), of which $6.3 million (2007: $7.1 million) were related to non-cash stock-based compen-sation costs. Operating profit before interest and share-based compensation was $7.7 million (2007: $6.2 million loss) and we achieved a net profit for the year of $2.0 million (2007: $12.0 million loss).

The Company continues to be in a strong cash position, with cash and cash equiva-lents of $15.8 million at year end. During 2008, the Company received operating cash inflows of $6.2 million from sales of base stations, as well as cash inflows of $1.0 million from option exercises. The net cash used during the year was $16.9 million. The primary use of cash during the year was product development ($14.9 million).

OuTLOOKxG continued to reach important mile-stones as it transitioned its focus in the past year from technology development to commercially-driven initiatives targeting enterprise sales. This process is expected to result in the implementation of multi-stage network deployments and product rollouts through its infrastructure and xMax carrier partners in 2009, including fulfilling the Treco order.

Looking ahead, it is clear that the prospects for xG, its products and its technology have never been better. In our analysis, no al-ternative to the xMax mobile VoIP solution exists, and our core technology attributes give our product offering a commercially available path to robust, mobile 4G per-formance. Beyond mobile VoIP, our strategy is to exploit a promising roadmap of ad-vanced products, including a smartphone enabling mobile broadband and a modem enabling fixed VoIP and broadband, through to video and other content solutions. Our strategy of enabling the delivery of value-based services has been validated by the significant shift in demand for such services seen recently in the market.

Looking ahead, it is clear that the prospects for xG, its products and its technology have never been better.

xG TECHNOLOGY, iNC. ANNuAL REpORT ANd ACCOuNTs 2008 07xG TECHNOLOGY, iNC. ANNuAL REpORT ANd ACCOuNTs 200806

furthermore, the ability for the Company’s xMax carriers to lease network equipment through our partnership with Treco will be a key factor in securing future product revenues, despite the challenging eco-nomic environment.

We recognise and share the anticipation and enthusiasm on the part of our partners and investors to see the proving of our superior technology in the market. At the same time, we continue to be committed to refining our mobile VoIP solution to the highest standards as well as to the delivery of the best user experience and quality of service when our carrier partners launch their full commercial xMax branded services. To this end, we are continually improving product optimisation and performing ad-vanced interoperability, performance and quality testing. In parallel, we have created the xMax Authorized Carrier Partner Program and are actively talking to inter-ested parties and building our pipeline of customers.

We remain very pleased with the progress being made in all of xG’s areas of activity and, with the groundwork now laid for full commercial expansion, we look forward to the future with confidence.

RiCHARd mOOERsChAIrMAn AnD ChIef exeCUTIVe OffICer30 MArCh 2009

xMax Network DeploymentxMax networks offer an affordable and efficient way for xMax carriers to build and deploy wireless networks.

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diRECTORs

Richard MooersChairman and Chief Executive OfficerIn 1985, richard graduated summa cum laude from the University of Maine, United States, with a bachelor of science degree in business administration. he trained as a certified public accountant and subsequently worked at various accounting firms, including Kenneth foster & Co CPAs and MacDade Abbot & Co CPAs, in the northeast United States from his graduation until 1991. In late 1991 richard joined Dominion Group Limited, an investment/merchant bank which specialised in the technology, agriculture and environmental industries, initially as Director of corporate finance. he sub-sequently became CeO of that company. In these roles he gained a wide range of both international and United States experience, including being involved with a number of busi-nesses in various stages of development, including start ups, commercialisations and public offerings.

richard co-founded Mooers Branton & Company and MB Merchant Group, LLC with roger Branton in 1997. Mooers Branton & Company is an international merchant bank which provides early-stage financing to emerging businesses in the technology, hospitality and real estate sectors. Mooers Branton & Company manages its portfolio of investments through the privately held company, MB Merchant Group, LLC. richard’s merchant banking work has given him a wide range of inter-national experience, including experience in restructurings, turnarounds and mergers and acquisitions. Together with roger Branton and Joseph Bobier, richard co-founded xG Technology, Inc. in August 2002.

Roger BrantonChief Operating Officer and Chief Financial OfficerIn 1989, roger graduated from West Chester University in Pennsylvania with a bachelor of science degree in accounting. he trained as a certified public accountant and worked for horty & horty in Wilmington, Delaware, United States from his graduation until 1993. roger went on to become an associate at Dominion Group Limited, an investment/merchant bank which specialised in the technology, agriculture and environmental industries, where he worked until 1997. his work at Dominion Group Limited included, but was not limited to, acting as Interim Chief financial Officer for several companies within its investment portfolio.

roger co-founded Mooers Branton & Company and MB Merchant Group, LLC with richard Mooers in 1997. Mooers Branton & Company is an international merchant bank which provides early-stage financing to emerging businesses in the technology, hospitality and real estate sectors. Mooers Branton & Company manages its portfolio of investments through the privately held company, MB Merchant Group, LLC. Together with richard Mooers and Joseph Bobier, roger co-founded xG Technology, Inc. in August 2002.


Victor Sunö Non-Executive DirectorVictor has a bachelor’s degree from the University of Lund, Sweden and has been a Swedsec licensed security dealer since 2001. Victor worked at fischer Partners fondkommission AB for five years until 2002, where he was an asset manager for high net worth individuals and institutions. his experience there also included helping to launch an equity fund specializing in invest-ing in pre-IPO and newly-listed companies. he subsequently joined ACh Securities S.A. (ACh), a Swiss-registered securities dealer which was active in helping small and medium sized companies with pre-IPO financing and worked for them until January 2009. Victor serves on the xG Technology, Inc. Board of Directors’ Audit and remuneration Committees.

James Woodyatt Deputy Chief Executive OfficerJames is a British citizen currently based in florida, United States. he has worked in the financial markets industry since 1990 and held various positions in institutions, including nomura Bank (Japanese equities, convertible and warrant bond sales), Tradition SA (interest rate swaps, inter-bank dealing) and Decillion AG (convertible arbitrage fund market-ing). In 2001, James joined Optimal Investment Services SA, the hedge fund arm of Spain’s Grupo Santander where he was a Senior Vice President, head of International Sales and Marketing and a member of the company’s management committee. In 2006, James co-founded and became the president of Veegoo holding and Managing Director of Veegoo Capital Services SA, a group which is active in business advisory and private equity.

Mats Wennberg Senior Non-Executive Directorfrom 1986 to 2002, Mats worked for Microsoft Corporation where he was the Managing Director for the nordic and Baltic region, based in Stockholm. In 1999, he was assigned to London as Vice-President for europe, the Middle east and Africa, where he was responsible for various sales operations for Microsoft until September 2002. he has subsequently been working as a senior advisor for nordic venture capital firms which focus on accelerating the growth of nordic early and expansion stage technology companies. he is currently the Chief executive Officer of Wennberg Industries AB, a company which he founded in 2002 and which has invested in a number of early stage software focused com-panies. Mats was also Chief executive Officer of xG Technology, Inc. from January 2004 to September 2005. Mats serves as the Chairman of the xG Technology, Inc. Board of Directors’ Audit and remuneration Committees .

Palmi Sigmarsson Non-Executive DirectorPalmi has been a licensed securities broker since 1989. for the last 18 years, he has been working as an investment advisor to several pension funds and large corporations in Iceland. Palmi graduated from the University of Iceland in 1986 with a degree in business administration. from 1987 to 1990, Palmi served as head of an institutional securities brokerage at Iceland Investment Corporation, which was the first listed securities company in Iceland. from 1991 to 1995, Palmi was the Managing Director of reykjavik Securities (handsal hf.), a licensed securities company. from 1991 to 1993, Palmi was also appointed as a representative of Icelandic securities companies to a committee formed by the Icelandic securities industry, tasked with reviewing the Icelandic securities law. he moved on to work at Spectra Kapitalforvaltning AB, a licensed securities company, from 1996 until 2004, where he headed the Icelandic branch of the company. he currently runs his own advisor company, PS Consulting ehf, which focuses on providing advice to both private and corporate professional investors. Palmi serves on the xG Technology, Inc. Board of Directors’ Audit and remuneration Committees.

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DIRECTORS’ REPORT

The Directors present their Annual Report on the affairs of the Company, together with the financial statements and auditors’ report, for the year ended 31 December 2008.

Principal activitiesThe principal activity of xG Technology, Inc. during the period was the further development and commercialisation of xMax, an all IP-based mobile VoIP, fixed VoIP and data broadband service. xMax is the first vertical application based on the Company’s core intellectual property and will be sold through carrier partners seeking to deliver mobile and fixed voice and data services directly to consumers.

Business reviewA review of the Company’s business and its future prospects is given in the Chairman and Chief Executive Officer’s statement.

Directors and their interests in the shares of the CompanyThe Directors who held office at 31 December 2008 had the following interests in the shares of the Company: As at As at 31 December 31 December Number of common shares 2008 2007

Richard Mooers1 56,721,902 56,721,902

Roger Branton1 56,721,902 56,721,902

Palmi Sigmarsson2 25,047,478 22,344,191

Mats Wennberg3 2,595,000 1,000,000

Victor Sunö 250,000 250,000

James Woodyatt 80,000 80,000

1 Richard Mooers holds no direct or indirect legal or beneficial interest in common shares in the Company but family entities or trusts for the benefit of his wife and minor children hold 80% of the issued share capital of MB Merchant Group, LLC, which is the beneficial owner of the shares disclosed above.

Roger Branton holds no common shares directly but has indirect interests in the Company through trusts and entities for the benefit of himself, his wife and minor children which hold 20% of the issued share capital of MB Merchant Group, LLC, which is the beneficial owner of the shares disclosed above.

MB Merchant Group, LLC also controls the voting rights attached to 5,025,000 common shares held by Joseph Bobier, having acquired those rights from him.

2 Palmi Sigmarsson has an indirect 58.7% interest in Stormur Holding AB through companies fully or partly owned by him and shareholders’ agreements. Stormur Holding AB beneficially owns 22,344,191 shares in the Company. He also holds a 70% direct interest in Baejarlind Holding ehf, which beneficially owns 2,453,287 shares in the Company. In addition, 250,000 shares in the Company are also held directly in his own name.

3 Mats Wennberg has a direct beneficial interest in 1,095,000 shares in the Company. He also has a beneficial interest in 1,500,000 shares in the Company through his wholly owned company, Wennberg Industries AB.

Share optionsThe Directors who held office at 31 December 2008 held the following options to subscribe for common shares as at 31 December 2008: Exercise price Date of Date from which Expiry Number of per share grant exercisable date options

Richard Mooers* $0.55 2 January 2005 2 January 2008 2 January 2015 1,075,000

Roger Branton** $0.55 2 January 2005 2 January 2008 2 January 2015 1,075,000

Mats Wennberg $0.55 2 January 2005 2 January 2008 2 January 2015 250,000

Richard Mooers* $2.00 19 January 2006 19 January 2009 19 January 2016 2,750,000

Roger Branton** $2.00 19 January 2006 19 January 2009 19 January 2016 2,750,000

Palmi Sigmarsson $2.00 19 January 2006 19 January 2009 19 January 2016 1,250,000

Mats Wennberg $2.00 19 January 2006 19 January 2009 19 January 2016 1,000,000

Victor Sunö $2.00 19 January 2006 19 January 2009 19 January 2016 750,000

James Woodyatt $5.50 10 January 2007 10 January 2010 10 January 2017 750,000

* Mooers Partners, LLC holds the above-indicated options. Although Richard Mooers holds no share options nor has any direct or indirect legal or beneficial interest in any options, family entities or trusts for the benefit of his wife and minor children together are interested in Mooers Partners, LLC.

** Branton Partners, LLC holds the above-indicated options. Although Roger Branton holds no share options directly himself, he holds an indirect interest in these options through family entities and trusts for the benefit of himself, his wife and minor children that together are interested in Branton Partners, LLC.


Significant shareholdingsAs of 30 March 2009 the Company had been notified that the following shareholders held 3% or more of the issued share capital of the Company: Number of Percentage of common issued share Shareholder shares capital

MB Merchant Group, LLC 56,721,902 43.02%

Palmi Sigmarsson1 25,047,478 19.00%

ACH Securities, en liquidation2 14,924,198 11.32%

Treco International Limited3 6,065,704 4.60%

Perrystone Trading Ltd. 5,270,000 4.00%

Joseph Bobier4 5,025,000 3.81%

1 Palmi Sigmarsson has an indirect 58.7% interest in Stormur Holding AB through companies fully or partly owned by him and shareholders’ agreements. Stormur Holding AB beneficially owns 22,344,191 shares in the Company. He also holds a 70% direct interest in Baæjarlind Holding ehf, which beneficially owns 2,453,287 shares in the Company. In addition, 250,000 shares in the Company are also held directly in Palmi Sigmarsson’s own name.

2 Neither ACH Securities, en liquidation, nor any of its clients singly beneficially owns 3% or more of the share capital of the Company.

3 Formerly known as Casper Holdings Limited.

4 MB Merchant Group, LLC controls the voting rights attached to the shares owned by Joseph Bobier.

Going concernAfter making enquiries, the Directors have formed a judgement, at the time of approving the financial statements, that there is a reasonable expectation that the Company has adequate resources to continue in operational existence for the foreseeable future. For this reason, the Directors continue to adopt the going concern basis in preparing the financial statements.

RiskOne customer represents more than 50% of amounts receivable due after more than one year; however, after making enquiries, the Directors have formed a judgement, at the time of approving the financial statements, that the Company does not face any significant credit, liquidity, market price or interest rate risk.

Supplier payment policyThe Company’s policy is to settle terms of payment with suppliers when agreeing the terms of each transaction, ensure that suppliers are made aware of the terms of payment and abide by the terms of payment. Trade payables at 31 December 2008 were equivalent to 41 (2007: 44) days’ purchases, based on the average daily amount invoiced by suppliers during the year.

Approved by the Board of Directors on 30 March 2009.

Signed on behalf of the Board of Directors:

ROGER BRANTONCHIEF OPERATING OFFICER AND CHIEF FINANCIAL OFFICER30 MARCH 2009


STATEMENT Of DIRECTORS’ RESPONSIBILITIES

The Directors are responsible for preparing the annual report and financial statements. The Directors are required to prepare the financial statements is for the Company in accordance with International Financial Reporting Standards (“IFRS”).

International Accounting Standard 1 requires that financial statements present fairly for each financial year the Company’s finan-cial position, financial performance and cash flows. This requires the faithful representation of the effects of transactions, other events and conditions in accordance with the definitions and recognition criteria for assets, liabilities, income and expenses set out in the International Accounting Standards Board’s “Framework for the Preparation and Presentation of Financial Statements”. In virtually all circumstances, a fair representation will be achieved by compliance with all IFRS. Directors are also required to:

• properly select and apply accounting policies;

• present information, including accounting policies, in a manner that provides relevant, reliable, comparable and understandable information; and

• provide additional disclosures when compliance with the specific requirements in IFRS is insufficient to enable users to under-stand the impact of particular transactions, other events and conditions on the entity’s financial position and financial performance.

The Directors are responsible for keeping proper accounting records which disclose with reasonable accuracy at any time the financial position of the Company, for safeguarding the assets and for taking responsible steps for the prevention and detection of fraud and other irregularities.


INDEPENDENT AUDITORS’ REPORTto the shareholders of xG Technology, Inc.

We have audited the financial statements of xG Technology, Inc. for the year ended 31 December 2008 which comprise the Income Statement, the Balance Sheet, the Statement of Changes in Equity, the Cash Flow Statement and the related notes. These financial statements have been prepared under the accounting policies set out therein.

This report is made solely to the Company’s shareholders, as a body, in accordance with the terms of our engagement letter. Our audit work has been undertaken so that we might state to the Company’s shareholders those matters we are required to state to them in an auditors’ report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the Company and the Company’s shareholders as a body, for our audit work, for this report, or for the opinions we have formed.

Respective responsibilities of Directors and auditorsThe Directors’ responsibilities for preparing the annual report and the financial statements in accordance with applicable law and International Financial Reporting Standards as adopted by the European Union are set out in the Statement of Directors’ Responsibilities.

Our responsibility is to audit the financial statements in accordance with relevant legal and regulatory requirements and International Standards on Auditing (UK and Ireland).

We report to you our opinion as to whether the financial statements give a true and fair view in accordance with International Financial Reporting and Accounting Standards. We also report to you if the Company has not kept proper accounting records, if we have not received all the information and explanations we require for our audit, or if information specified by law regarding Directors’ remuneration and transactions with the Company is not disclosed.

We read other information contained in the annual report and consider whether it is consistent with the audited financial state-ments. The other information comprises only the Chairman and Chief Executive Officer’s Statement and the Directors’ Report. We consider the implications for our report if we become aware of any apparent misstatements or material inconsistencies with the financial statements. Our responsibilities do not extend to any other information.

Basis of audit opinionWe conducted our audit in accordance with International Standards on Auditing (UK and Ireland) issued by the Auditing Practices Board. An audit includes examination, on a test basis, of evidence relevant to the amounts and disclosures in the financial statements. It also includes an assessment of the significant estimates and judgements made by the Directors in the preparation of the financial statements, and of whether the accounting policies are appropriate to the Company’s circumstances, consistently applied and adequately disclosed.

We planned and performed our audit so as to obtain all the information and explanations which we considered necessary in order to provide us with sufficient evidence to give reasonable assurance that the financial statements are free from material misstatement, whether caused by fraud or other irregularity or error. In forming our opinion we also evaluated the overall adequacy of the presentation of information in the financial statements.

OpinionIn our opinion the financial statements give a true and fair view of the state of affairs of the Company as at 31 December 2008 and of the results for the year then ended and have been properly prepared in accordance with International Financial Reporting Standards.

CHANTREY VELLACOTT DfK LLPCHARTERED ACCOUNTANTSREGISTERED AUDITORSLONDON30 MARCH 2009


INCOME STATEMENTfor the year ended 31 December 2008

2008 2007 Notes $’000 $’000

Revenue 16,350 250

Cost of sales (1,221) (14)

Gross profit 15,129 236

Administration expenses (7,416) (6,446)

Operating profit/(loss) before interest and shared-based payments 7,713 (6,210)

Interest receivable and similar income 6 536 1,256

Profit/(loss) before share-based payments 8,249 (4,954)

Share-based payments 17 (6,257) (7,061)

Profit/(loss) on ordinary activities before taxation 1,992 (12,015)

Taxation 7 — —

Profit/(loss) for the financial year 1,992 (12,015)

Profit/(loss) per share 9

Basic $0.015 $(0.10)

Diluted $0.014 $(0.10)


BALANCE SHEET as at 31 December 2008

2008 2007 Notes $’000 $’000

Assets

Non-current assets

Intangible fixed assets 10 35,714 21,692

Fixtures and equipment 11 1,457 546

37,171 22,238

Current assets

Trade receivables and other current assets 12 205 374

Trade receivables due after more than one year 12 10,192 –—

Inventory 13 5,129 2,132

Cash and cash equivalents 14 15,830 32,718

31,356 35,224

Total assets 68,527 57,462

Current liabilities

Trade payables and other current liabilities 15 (3,457) (1,662)

Net assets 65,070 55,800

Shareholders’ equity

Share capital 16 1,318 1,290

Share premium account 66,589 65,462

Preferred equity 2,000 2,000

Other reserve 21,170 16,385

Accumulated losses (26,007) (29,337)

Total equity 65,070 55,800

Approved by the Board of Directors on 30 March 2009.

Signed on behalf of the Board of Directors:

ROGER BRANTONCHIEF OPERATING OFFICER AND CHIEF FINANCIAL OFFICER


STATEMENT Of CHANGES IN EqUITYfor the year ended 31 December 2008

Share Share Preferred Other Retained capital premium equity reserves* profit/(losses) Total $’000 $’000 $’000 $’000 $’000 $’000

Balance at 31 December 2006 1,224 29,363 — 9,526 (17,475) 22,638

Changes in equity for 2007

Loss for the period — — — — (12,015) (12,015)

Issue of preferred equity (net of issue costs) — (1,975) 40,000 — — 38,025

Conversion of preferred equity 66 37,934 (38,000) — — —

Exercise of options — 128 — (49) — 79

Issue of shares for services — 12 — — — 12

Share-based transactions — — — 6,908 153 7,061

Balance at 31 December 2007 1,290 65,462 2,000 16,385 (29,337) 55,800

Changes in equity for 2008

Profit for the period — — — — 1,992 1,992

Exercise of options 28 1,127 — (615) 481 1,021

Share-based transactions — — — 5,400 857 6,257

Balance at 31 December 2008 1,318 66,589 2,000 21,170 (26,007) 65,070

* Other reserves consist of the cumulative amount attributable to share-based transactions.


CASH fLOw STATEMENTfor the year ended 31 December 2008

2008 2007

$’000 $’000 $’000 $’000

Cash flows from operating activities

Profit/(loss) for the period 1,992 (12,015)

Interest received (536) (1,256)

Depreciation 180 66

Amortisation 842 45

Issue of shares for services — 12

Share-based payments:

Employees 5,896 6,581

Non-employees 361 480

Operating cash flows before movement in working capital 8,735 (6,087)

(Increase) in trade receivables and other current assets (10,023) (295)

(Increase) in inventory (2,997) (2,132)

Increase in trade payables and other current liabilities 1,795 890

Net cash used by operating activities (2,490) (7,624)

Investing activities

Interest received 536 1,256

Purchase of fixtures and equipment (1,091) (537)

Purchase of intangible assets (14,864) (6,497)

Net cash used by investment activities (15,419) (5,778)

Financing activities

Issue of capital (net of issue costs) 1,021 79

Issue of preferred equity (net of issue costs) — 38,025

Net cash inflow from financing activities 1,021 38,104

Net (decrease)/increase in cash and cash equivalents (16,888) 24,702

Cash and cash equivalents at beginning of year 32,718 8,016

Cash and cash equivalents at end of year 15,830 32,718


NOTES TO THE fINANCIAL STATEMENTSfor the year ended 31 December 2008

1. NATURE Of BUSINESS AND CORPORATION INfORMATIONxG Technology, Inc. was originally organised as a Delaware limited liability company on 26 August 2002 under the name JTS Acquisition, LLC. On 8 November 2006 the Company converted to a Delaware corporation under the name xG Technology, Inc. The registered office is disclosed on page 28 of this report. The Company’s principal activities are described on page 10.

2. BASIS Of PRESENTATIONThe financial statements have been prepared in accordance with International Financial Reporting and Accounting Standards adopted by the European Union (“IFRS”) and therefore comply with Article 4 of the European Union IAS Regulation.

The financial statements are presented in United States dollars since this is the currency in which the majority of the Company’s transactions are denominated.

At the date of authorisation of the financial information, there were Standards and Interpretations, which have not been applied in the financial information, that were in issue but were not yet effective. The Directors anticipate that the adoption of these Standards and Interpretations in future periods will have no material impact on the accounts of the Company, except for additional disclosures when the relevant Standards and Interpretations come into effect.

3. SUMMARY Of SIGNIfICANT ACCOUNTING POLICIESBAsIs of ACCouNTINGThe financial information has been prepared in accordance with IFRS.

The financial information has been prepared on the historical cost basis. The principal accounting policies adopted are set out below.

The Company’s business activities, together with the factors likely to affect its future development, performance and position are set out in the Chairman and Chief Executive Officer statement on pages 2 to 7. This statement also describes the financial position of the Company, its cash flows and its liquidity position. In addition, the Directors’ Report includes the Company’s exposure and the Directors’ judgement on the risks faced by the Company.

The Company has considerable financial resources together with contracts with key customers and suppliers. As a consequence, the Directors believe that the Company is well placed to manage its business risks successfully despite the current uncertain economic outlook. After making enquiries, the Directors have a reasonable expectation that the Company has adequate resources to continue in operational existence for the foreseeable future. Accordingly, they continue to adopt the going concern basis in preparing the annual report and accounts.

PATeNTs AND lICeNCesPatents and licences are measured initially at purchase cost and are amortised on a straight-line basis over their useful lives of between 18.5 to 20 years.

INTerNAlly-GeNerATeD INTANGIBle AsseTs – reseArCh AND DeveloPmeNT exPeNDITureResearch costs are expensed as incurred. The Company expensed $747,000 in research costs in financial year 2008.

An internally generated intangible asset arising from the Company’s proprietary technologies for use in wired and wireless communication is recognised only if all of the following conditions are met:

• an asset is created that can be identified (such as software and new processes);

• it is probable that the asset created will generate future economic benefits; and

• the development cost of the asset can be measured reliably.

The Company only capitalises expenditure that is directly attributable to the development of the intangible asset such as:

• costs of materials and services used in generating the intangible asset;

• costs of employee benefits arising from the generation of the intangible asset; and

• selling, administrative and other general overhead expenditure that can be directly attributed to preparing the asset for use.

Internally generated intangible assets are amortised on a straight-line basis over their useful lives from the point the asset is available for use.

Where no internally generated intangible asset can be recognised, development expenditure is recognised as an expense in the period in which it is incurred.


3. SUMMARY Of SIGNIfICANT ACCOUNTING POLICIES CONTINUEDfIxTures AND equIPmeNTFixtures and equipment, which are stated at cost, consist principally of computer equipment used in the Company’s research and development activities. Depreciation is charged so as to expense the cost of the assets, less their residual value, over their estimated useful lives, using the straight-line method ranging from three years to seven years commencing in the month following the purchase.

ImPAIrmeNTAt each Balance Sheet date, the Company reviews the carrying amount of its tangible and intangible assets to determine whether there is any indication that those assets have suffered an impairment loss. If any such indication exists, the recoverable amount of the asset is estimated in order to determine the extent of the impairment loss (if any). Where it is not possible to estimate the recoverable amount of an individual asset, the Company estimates the recoverable amount of the cash-generating unit to which the asset belongs.

If the recoverable amount of an asset is estimated to be less than its carrying amount, the impairment loss is recognised as an expense.

Where an impairment loss subsequently reverses, the carrying amount of the asset is increased to the revised estimate of its re-coverable amount, but so that the increased carrying amount does not exceed the carrying amount that would have been determined had no impairment loss been recognised for the asset. A reversal of an impairment loss is recognised as income immediately.

shAre-BAseD PAymeNTs – emPloyee servICes The fair value of employee services received in exchange for the grant of options or shares is recognised as an expense. The total amount to be expensed rateably over the vesting period is determined by reference to the fair value of the options or shares determined at the grant date, excluding the impact of any non-market vesting conditions (for example, profitability and sales growth targets). Non-market vesting conditions are included in assumptions about the number of options that are ex-pected to become exercisable and the number of shares that the employee will ultimately receive. This estimate is revised at each Balance Sheet date and the difference is charged or credited to the Income Statement. Proceeds received on exercise of options, net of any directly attributable transaction costs, are credited to equity.

shAre-BAseD PAymeNTs – oTher GooDs or servICesGoods or services (other than employee services) received in exchange for share-based payments are measured directly at their fair value and are recognised as an expense. Proceeds received on exercise of options, net of any directly attributable transaction costs, are credited to equity.

CurreNCIesTransactions in currencies other than United States dollars are recorded at the rates of exchange prevailing on the dates of the transactions. At each Balance Sheet date, monetary assets and liabilities that are denominated in foreign currencies are retranslated at the rates prevailing on the Balance Sheet date. Non-monetary assets and liabilities carried at fair value that are denominated in foreign currencies are translated at the rates prevailing at the date when the fair value was determined. Gains and losses arising on retranslation are included in the Income Statement for the period.


NOTES TO THE fINANCIAL STATEMENTS CONTINUEDfor the year ended 31 December 2008

3. SUMMARY Of SIGNIfICANT ACCOUNTING POLICIES CONTINUEDTAxATIoNThe tax expense represents the sum of the tax currently payable and deferred tax.

The tax currently payable is based on taxable profit for the year. Taxable profit differs from net profit as reported in the Income Statement because it excludes items or expense that are taxable or deductible in other years and it further excludes items that are never taxable or deductible. The Company’s liability for current tax is calculated using tax rates that have been enacted or substantively enacted by the Balance Sheet date.

Deferred tax is the tax expected to be payable or recoverable on differences between the carrying amounts of assets and liabilities in the financial statements and the corresponding tax bases used in the computation of taxable profit and is accounted for using the Balance Sheet liability method. Deferred tax liabilities are generally recognised for all taxable temporary differences and deferred tax assets are recognised to the extent that it is probable that taxable profits will be available against which deductible temporary differences can be utilised. Such assets and liabilities are not recognised if the temporary difference arises from the initial recognition of goodwill or from the initial recognition (other than in a business combination) of other assets and liabilities in a transaction that affects neither the tax profit nor the accounting profit.

The carrying amount of deferred tax assets is reviewed at each Balance Sheet date and reduced to the extent that it is no longer probable that sufficient taxable profits will be available to allow all or part of the asset to be recovered.

Deferred tax is calculated at the tax rates that are expected to apply in the period when the liability is settled or the asset is realised. Deferred tax is charged or credited in the Income Statement, except when it relates to items charged or credited directly to equity, in which case the deferred tax is also dealt with in equity.

fINANCIAl INsTrumeNTsFinancial assets and financial liabilities are recognised in the Company’s Balance Sheet when the Company has become party to the contractual provisions of the instrument.

CAsh AND CAsh equIvAleNTsCash and cash equivalents comprise cash in hand and demand deposits, and other short-term deposits and liquid investments that are readily convertible to a known amount of cash and are subject to an insignificant risk of changes in value.

fINANCIAl lIABIlITIes AND equITyFinancial liabilities and equity instruments are classified according to the substance of the contractual arrangements entered into. An equity instrument is any contract that creates a residual interest in the assets of the Company.

Equity instruments issued by the Company are recorded at the proceeds received, net of direct issue costs.

TrADe PAyABlesTrade payables are stated at their nominal value less any discount or rebate received.

ProvIsIoNsProvisions are recognised when the Company has a present obligation as a result of a past event from which it is likely that an outflow of economic benefits will occur which can be reasonably quantified.

JuDGemeNTs AND key AssumPTIoNsThe preparation of financial statements in conformity with generally accepted accounting principles requires the use of estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Although the estimates are based on management’s best knowl-edge of the amount, actual results ultimately may differ from those estimates.

reveNue reCoGNITIoNRevenue is measured at the fair value of the consideration received or receivable and represents amounts receivable for goods and services provided in the normal course of business, net of discounts and other sales-related taxes. Sales of goods are recognised when goods are delivered and title has passed.


4. STAff COSTSThe costs of employing staff were: 2008 2007 $’000 $’000

Charged to the Income statement

Wages and salaries 2,461 1,518

Payroll taxes 118 98

2,579 1,616

Capitalised as development costs

Wages and salaries 3,137 1,688

Payroll taxes 177 118

3,314 1,806

5,893 3,422

The average number of employees (including Directors)* was: No. No.

Sales and administration 16 10

Research and development 44 22

60 32

* Actual number of employees and full-time consultants at 31 December 2008 was 66 (15 sales and administration and 51 research and development).

The Directors have identified six (2007: six) key management personnel, including three Directors (2007: three), whose compensation was as follows: 2008 2007 $’000 $’000

Short-term employment benefits 1,328 1,119

Share-based payments 3,483 4,169

4,811 5,288

5. DIRECTORS’ REMUNERATION 2008 2007 $’000 $’000

Short-term employment benefits 769 629

Share-based payments 4,781 5,626

5,550 6,255



6. INTEREST RECEIVABLE AND SIMILAR INCOME 2008 2007 $’000 $’000

Interest receivable and similar income 536 1,256

7. TAxATIONThe difference between the $nil tax charge shown in the Income Statement and the amount calculated by applying the standard rate of tax applicable to the Company in the United States to the loss before tax is as follows: 2008 2007 $’000 $’000

Profit/(loss) from continuing operations before taxation 1,992 (12,015)

Tax on profit/(loss) from continuing operations at the standard:

Federal tax rate of 34% 479 (4,281)

State tax at effective rate of 3.63% 51 (457)

Effects of:

Research and development credit carryforward (166) (62)

Other timing differences 19 12

Losses (used)/carried forward (383) 4,788

Total tax charge for the year — —

8. DEfERRED TAxAt the Balance Sheet date, the Company had unused tax losses of $23,254,000 and unused tax credits of $442,000 available for offset against future profits. No deferred tax asset has been recognised in respect of these losses due to the unpredictability of future profit streams.

9. EARNINGS PER SHAREThe calculations of the basic and diluted profit/(loss) per share are based on the following data: 2008 2007 $’000 $’000

Profit/(loss) for the purpose of basic and diluted profit/(loss) per share 1,992 (12,015)

No. of shares No. of shares

Weighted average number in issue during the year – basic 130,872,144 126,224,240

Weighted average number in issue during the year – diluted 143,331,565 n/a


10. INTANGIBLE fIxED ASSETS2008 Development Patents and costs licences Total $’000 $’000 $’000

Cost:

At 1 January 2008 20,772 1,059 21,831

Additions 14,582 282 14,864

At 31 December 2008 35,354 1,341 36,695

Amortisation:

At 1 January 2008 — 139 139

Charge for the year 800 42 842

At 31 December 2008 800 181 981

Net book value:

At 31 December 2008 34,554 1,160 35,714

2007 Development Patents and costs licences Total $’000 $’000 $’000

Cost:

At 1 January 2007 14,505 829 15,334

Additions 6,267 230 6,497

At 31 December 2007 20,772 1,059 21,831

Amortisation:

At 1 January 2007 — 94 94

Charge for the year — 45 45

At 31 December 2007 — 139 139

Net book value:

At 31 December 2007 20,772 920 21,692

The capitalised development costs represent proprietary technologies for use in wired and wireless communications.



11. fIxTURES AND EqUIPMENT 2008 2007 $’000 $’000

Cost:

At 1 January 733 196

Additions 1,091 537

At 31 December 1,824 733

Depreciation:

At 1 January 187 121

Charge for the year 180 66

At 31 December 367 187

Net book value:

At 31 December 1,457 546

12. TRADE RECEIVABLES AND OTHER CURRENT ASSETS 2008 2007 $’000 $’000

Trade receivables due within one year — 250

Prepayments 200 113

Other receivables 5 11

Trade receivables and other current assets 205 374

Trade receivables due after more than one year 10,192 —

The Directors consider that the carrying amount of trade receivables and other current assets approximates to their fair value.

13. INVENTORYDuring the year ended 31 December 2008, there was no write down of inventories (2007: $1,084,000).

14. CASH AND CASH EqUIVALENTSCash and cash equivalents comprise cash held by the Company and short-term bank deposits with an original maturity of three months or less. The carrying value of these assets approximates their fair value. The credit risk on liquid funds is limited because the counterparties are banks with high credit ratings assigned by international credit-rating agencies.

15. TRADE PAYABLES AND OTHER CURRENT LIABILITIES 2008 2007 $’000 $’000

Trade payables 2,977 1,525

Accruals 480 87

Other liabilities — 50

3,457 1,662

Trade payables and other current liabilities principally comprise amounts outstanding for trade purchases and ongoing costs. The average credit period taken for trade payables was 41 days (2007: 44 days).

The Directors consider that the carrying amount of trade payables and other current liabilities approximates to their fair value.


16. SHARE CAPITAL $’000 No. of shares

2008

Authorised:

Common shares of $0.01 each 2,500 250,000,000

Called up, allotted and fully paid:


2007

Authorised:


Called up, allotted and fully paid:


CommoN shAres IssueDCommon shares issued during the year were entirely due to the exercise of options; see note 17 for details.

CoNverTIBle PreferreD equITy shAresThere was no activity during the year in relation to the Convertible Preferred Equity Shares.

17. SHARE-BASED PAYMENTSThe movement in the number of share options over the year are as follows: 2008 2007 No. of options No. of options

At 1 January 22,269,574 21,728,648

Granted 270,000 915,000

Forfeited (746,858) (270,000)

Exercised (2,827,678) (104,074)

Unexercised as at 31 December 18,965,038 22,269,574

The weighted average exercise prices at 31 December 2008 and 31 December 2007 were $1.97 and $1.40, respectively.

2008 ACTIvITy: Fair value Strike Shares issued expensed Plan price Exercised upon exercise Forfeited Granted $’000

2004(a) $0.27 2,152,037 2,152,037 50,000 — —

2005(b) $0.55 350,000 350,000 100,000 — 90

2006(c) $2.00 121,724 121,724 533,344 — 4,941

2006(d) $3.50 692 692 28,514 — 339

2006(e) $7.28* — — — — 312

2006(f) $4.13 — — 35,000 120,000 90

2007(g) $5.50 — — — — 255

2007(h) $5.00 — — — 150,000 96

Various(i) Various 203,225 177,818 — — 134

Total 2,827,678 2,802,271 746,858 270,000 6,257



17. SHARE-BASED PAYMENTS CONTINUED2007 ACTIvITy: Fair value Strike Shares issued expensed Plan price Exercised upon exercise Forfeited Granted $’000

2004(a) $0.27 74,074 74,074 — — 6

2005(b) $0.55 — — 100,000 — 1,093

2006(c) $2.00 30,000 30,000 50,000 — 5,169

2006(d) $3.50 — — 115,000 — 407

2006(e) $7.28* — — 5,000 165,000 79

2007(g) $5.50 — — — 750,000 307

Total 104,074 104,074 270,000 915,000 7,061

(a) On 1 March 2004, 5,000,000 member unit options** were granted to officers, key employees and consultants under the xG Technology 2004 incentive plan (“2004 plan”). Each option has an exercise price of $0.27 and vests on a straight-line basis over three years from the grant date.

(b) On 2 January 2005, 5,000,000 member unit options** were granted to officers, employees and consultants under the xG Technology 2005 incentive plan (“2005 plan”). Each option has an exercise price of $0.55 and vests on a straight-line basis over three years from the grant date.

(c) On 19 January 2006, 10,000,000 member unit options** were granted to officers, employees and consultants under the xG Technology 2006 incentive plan (“2006 plan”). Each option has an exercise price of $2.00 and vests on a straight-line basis over three years from the grant date.

(d) On 6 September 2006, 570,000 member unit options** were granted to employees and consultants under the 2006 plan. Each option has an exercise price of $3.50 and vests on a straight-line basis over three years from the grant date.

(e) At various times during 2007, a total of 165,000 share options were granted to employees under the 2006 plan. Each option has an exercise price between $7.13 and $8.25 and vests on a straight-line basis over three years from the grant date.

(f) On 3 March 2008, 120,000 share options were granted to employees under the 2006 plan. Each option has an exercise price of $4.13 and vests on a straight-line basis over three years from the grant date. Management estimated the fair value of these options, once vested, to be $3.32 per option, totalling $398,000 at the date of grant. The value of these options was determined using the Black-Scholes option-pricing model with assumptions of the risk-free rate of 2.75%, the average term of four years, share price at time of granting of $4.13 and volatility of 126%.

(g) On 10 January 2007, 750,000 share options were granted to Directors under the xG Technology 2007 incentive plan (“2007 plan”). Each option has an exercise price of $5.50 and vests on a straight-line basis over three years from the grant date.

(h) On 16 July 2008, 150,000 share options were granted to employees under the 2007 plan. Each option has an exercise price of $5.00 and vests on a straight-line basis over three years from the grant date. Management estimated the fair value of these options, once vested, to be $4.14 per option, totalling $621,000 at the date of grant. The value of these options was determined using the Black-Scholes option-pricing model with assumptions of the risk-free rate of 3.375%, the average term of four years, share price at time of granting of $5.00 and volatility of 133%.

(i) On 12 February 2008, the Company issued 177,818 common shares upon the exercise of 203,225 options for no cash consid-eration. The options consisted of 135,000 under the 2004 Plan (strike: $0.27), 64,931 under the 2006 Plan (strike: $2.00) and 3,294 under the 2006 Plan (strike: $3.50). As part of this cashless exercise of options, the Company expensed $133,566.

* Weighted average strike price

** Each member unit option converted to one common share option at the point the Company converted to xG Technology, Inc.

The assumptions in respect of all options granted are based on:

• Volatility – in 2008, historical volatility was calculated using weekly prices over the period from date of placement on AIM to the date of grant (prior to placement, calculation based on latest prices achieved);

• Expected life – the average of the vesting period and management’s expectation of optionee’s holding period; and

• Risk-free rate of return – the yield on five-year United States Treasury shares at issue date.


18. OPERATING LEASE COMMITMENTSAt the Balance Sheet date, the Company had outstanding commitments for future minimum lease payments under non-cancellable operating leases, which fall due as follows:

lAND AND BuIlDINGsTotal rentals payable on leases expiring: 2008 2007 $’000 $’000

Within one year 214 246

Between one year and two years 96 214

Between two and five years 113 209

423 669

19. RELATED PARTY TRANSACTIONSmooers BrANToN & Co., INCorPorATeDOn 2 March 2006, the Company entered into a management agreement (the “Management Agreement”) with Mooers Branton & Co. Incorporated (“MBC”), a Florida corporation, pursuant to which MBC agreed to provide certain management and financial services to the Company for a monthly fee of $80,000 in 2008 and $70,000 in 2007. The Management Agreement was effective 1 January 2006 and is ongoing. MBC is beneficially controlled and operated by two of the Company’s Directors.

Pursuant to the Management Agreement, MBC will provide services to the Company, which will include, but are not limited to, financial advice, strategic and financial planning, capital structure analysis and planning and business development. In addition, MBC will provide certain office facilities, telephone and back-office administration as well as the services of a full-time office manager and administrator with other part-time assistance from time to time.

The Company incurred fees related to the Management Agreement for the years ended 31 December 2008 and 2007 of $960,000 and $840,000 respectively.

WeNNBerG INDusTrIes ABThe Company incurred consultants’ fees payable to Wennberg Industries AB (“WIAB”) in the amount of $45,000 and $59,000 for the years ended 31 December 2008 and 2007 respectively, of which $12,000 was outstanding at 31 December 2008 and 2007. WIAB is wholly owned by Mats Wennberg, a Director of the Company.

20. CAPITAL COMMITMENTSAs at 31 December 2008, the Company has contracted capital commitments of $653,000 (2007: $341,000).

21. CONTINGENT LIABILITIESOn 9 February 2007, a complaint was served on the Company, Richard Mooers and Roger Branton by Bank Hapoalim (Switzerland) Ltd, resulting in the filing of a formal action. Following the filing of a Notice of Voluntary Dismissal by Bank Hapoalim, the action was formally dismissed without prejudice on 1 July 2008.

Accordingly, the Company is not involved currently in any legal or arbitration proceedings (including any governmental proceedings which are pending or known to be contemplated) which may have, or have had in the twelve months preceding the date of this report, a significant effect on the financial position or profitability of the Company.

22. ULTIMATE CONTROLLING PARTY As of 28 February 2009, family entities or trusts respectively for the benefit of the wife and minor children of Richard Mooers and for the benefit of Roger Branton, his wife and minor children together hold 100% of the issued share capital of MB Merchant Group, LLC (“MBM”). MBM beneficially owns common shares carrying 43.02% of the Company’s voting rights and has additionally acquired by shareholders’ agreement the voting rights attached to the 5,025,000 common shares (representing 3.81% of total voting rights) held by Joseph Bobier.

xG TECHNOLOGY, INC. ANNUAL REPORT AND ACCOUNTS 2008 PBxG TECHNOLOGY, INC. ANNUAL REPORT AND ACCOUNTS 200828

ADVISORS

DirectorsRichard Mooers Roger Branton Victor Sunö Palmi Sigmarsson Mats Wennberg James Woodyatt

Secretary Roger Branton

Officers Richard Mooers Chairman and Chief Executive Officer

roger Branton Chief Operating Officer and Chief Financial Officer

Joseph Bobier President of Operations and Chief Technical Officer

Registered office 2711 Centreville Road Suite 400 Wilmington, DE 19808 USA

Nominated Advisor and Broker Cenkos Securities plc6.7.8 Tokenhouse Yard London EC2R 7AS

Principal bankersSunTrust Bank1777 Main Street Sixth Floor Sarasota, FL 34236 USA

SolicitorsUnited KingdomKirkpatrick & Lockhart Preston Gates Ellis LLP110 Cannon Street London EC4N 6AR

United StatesAbel Band, Chartered240 South Pineapple Avenue Tenth Floor Sarasota, FL 34236 USA

Auditor Chantrey Vellacott DFK LLP Chartered AccountantsRussell Square House 10/12 Russell Square London WC1B 5LF

RegistrarsCapita Registrars (Jersey) LimitedVictoria Chambers Liberation Square 1/3 The Esplanade St. Helier Jersey JE2 3QA

240 S. Pineapple Ave Suite 701 Sarasota, FL 34236 USA

T: +001 (0)941 953 9035 F: +001 (0)941 954 8595 W: www.xgtechnology.com

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