<PAGE>
 
                    U.S. SECURITIES AND EXCHANGE COMMISSION
                           Washington, D.C. 20549


                                  FORM 10-KSB

Mark One:
     [X]  Annual Report Under Section 13 or 15(d) of the Securities Exchange
                                 Act of 1934.

                  For the fiscal year ended December 31, 1998

     [_]  Transition Report Pursuant to Section 13 or 15(d) of the Securities
                             Exchange Act of 1934.

                        Commission file number 1-11968


                            SAF T LOK INCORPORATED
                (Name of small business issuer in its charter)


              FLORIDA                                          65-0142837
     (State or other Jurisdiction                           (I.R.S. Employer
      of incorporation or organization)                    Identification No.)

            1101 NORTHPOINT PARKWAY, WEST PALM BEACH, FLORIDA 33407
                          Telephone No. (561) 478-5625
--------------------------------------------------------------------------------


Securities registered under Section 12(b) of the Exchange Act:  NONE

Securities registered under Section 12(g) of the Exchange Act: Common STOCK,
$0.01 PAR VALUE

Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days:   Yes X   No___
                                                               ---       

Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B if not contained in the form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of the Form 10-KSB
or any amendment to this Form 10-KSB. [_]

The Company's revenues for its fiscal year ended December 31, 1998 were
$1,652,469

The aggregate market value of the Company's voting stock held by non-affiliates
was approximately $17,946,202 based upon the average bid and asked prices of
such stock on March 31, 1999 as reported on the NASDAQ SmallCap Market.

On March 31, 1999 there were 13,749,957 shares of the registrant's common stock
outstanding.

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<PAGE>
 
          CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION:

     This document includes "forward looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. All statements other than
statements of material fact included in this document, including, without
limitation, the statements under "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and "Liquidity and Sources of
Capital" regarding the Company's strategies, plans, objectives, expectations,
and future operating results are forward-looking statements. Although the
Company believes the expectations reflected in such forward-looking statements
are reasonable at this time, it can give no assurance that such expectations
will prove to have been correct. Actual results could differ materially based
upon a number of factors including, but not limited to, risks detailed in the
Company's Securities and Exchange Commission filings.


                                     PART I

                      ITEM 1.  DESCRIPTION OF THE BUSINESS

GENERAL

Saf T Lok Incorporated (the "Company") through its subsidiary Saf T Lock,
Corporation, designs, develops, manufactures and distributes patented and
proprietary safety locks for guns.

ORGANIZATION, INITIAL PUBLIC OFFERING, AND MERGER

The Company was incorporated in Florida in July 1989 under the name of RGB Sales
and Marketing, Inc.  In October, 1989, the Company commenced business and
operated a retail store that sold Amiga computers and produced a series of
tutorial programs used with software written for the Amiga platform.  The
Company completed an initial public offering of its Common Stock on June 23,
1993.  In total, the Company sold 1,340,000 shares of its Common Stock at an
offering price to the public of $7.00 per share.

On February 13, 1996 the Company acquired Saf T Lok Corporation, a Florida
corporation ("STL"), through a merger, and changed its name to Saf T Lok
Incorporated.  This acquisition marked the end of the Company's involvement in
the video editing business and the commencement of the Company's involvement in
the gun lock business.

STL had been organized in 1989 by Franklin W. Brooks to develop a proprietary
gun locking device.  From 1989 until February 1996, STL, as a privately held
company, was a development stage company focused on developing the Saf T Lok(R)
gun lock and did not have revenues.

THE GUN LOCK BUSINESS

GENERAL

The business of the Company is to design, develop, manufacture, and market
proprietary combination gun locks to reduce the possibility of unauthorized use
of firearms, including unintentional discharge by children and assailants. The
Company's two product variations, the Grip Lock and the Magazine Lock are easily
installed, removed and operated by consumers.

As a development stage entity, STL was engaged in product and market research
and development from its incorporation in 1989 until its merger with the
Company.  STL dedicated six years to confirming the initial Saf T Lok(R) Grip
Lock concept and then developing and refining a prototype product that it could
use to demonstrate the appearance and functionality of its product to consumers
and retailers. Conceived in late 1996, the first Magazine lock prototype was
developed and produced in 1997. After several refinements, production and
shipments of the first Magazine Locks commenced in June 1998.

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<PAGE>
 
Product development of the Saf T Lok(R) gun locks included handgun dealer and
customer comments and suggestions concerning product design, appearance,
operation, and use.  After intensive assessment of component composition,
manufacturing costs, and projected retail pricing, the Company believed that the
Saf T Lok(R) would meet a serious need in the marketplace.

THE INITIAL PRODUCT - THE SAF T LOK(R) GRIP LOCK

The Saf T Lok(R) Grip Lock is a mechanical combination lock that attaches to a
handgun.  When unlocked, it does not hamper or interfere with the use of the
gun.  When the Saf T Lok(R) Grip Lock is engaged, it locks the "safety" in the
"no fire" position, blocking the normal operation of the gun and preventing the
gun from being fired.  Guns without safeties are locked using the basic Saf T
Lok(R) Grip Lock to block operation of other internal gun components.  There are
no keys, batteries or other gadgets to lose or fail.  The body of the lock is
positioned under and concealed by the gun grip. The combination mechanism is
located at the top of the grip, where it is easily accessible. Installation of
the Saf T Lok(R) Grip Lock requires no modification to the gun for which it is
designed.  It is mounted on a plate placed under the gun's grip.  The lock is
installed by removal of the grip, insertion of the mounting plate and
replacement of the original grip with custom rubber grips supplied with the Grip
Lock.  When locked, the Grip Lock engages an interlock on the mounting plate and
cannot be removed without special tools or damage, even if the grips are
removed.

To lock the gun, the operator needs only move the safety slide backward with one
finger while moving the reset slide forward with another finger.  The need for
this simultaneous action eliminates the possibility of accidental locking.  The
gun may be in a loaded condition when the operator locks the gun.

To unlock the gun, the operator enters the combination by depressing each of
three individually programmed buttons the correct number of times, in any order,
which can be undertaken without the need to look at the gun or the lock.  The
lock can be released in about three seconds while holding the gun in the firing
position.

Although each lock comes with a preset combination, the user may change the
combination.  The Company markets combination changing kits separate from the
lock and mounting hardware.

The Grip Lock is designed to ensure reliable operation and long lock life under
firing conditions. The casing is designed to prevent sand and dirt infiltration.
The lock mechanism's nickel plated zinc alloy composition makes it highly
corrosion resistant.  The design and layout of the mechanical parts shunt forces
from firing recoil and mishandling to the lock casing, diminishing the potential
for small parts breakage.  The Grip Lock has been mechanically cycled through
36,525 openings and closings without failure or indication of wear.  This is the
equivalent of one use per day for 100 years.  It was subjected to the firing of
5000 rounds while mounted on a .45 caliber semi-automatic pistol without
problem.  The Grip Lock has also passed numerous tests for impact resistance and
immersion in corrosive liquids and dirt.

THE SECOND PRODUCT - THE MAGAZINE LOCK

Historically, handguns have been made with a metal frame, which requires an
expensive multi-step machining process.  In the late 1980's an Austrian gun
manufacturer revolutionized the field by introducing plastic frame, semi-
automatic pistols.  The plastic frame guns are lighter and can accommodate
higher capacity cartridge magazines.  Law enforcement agencies worldwide
embraced the new design, which reportedly now accounts for over 60% of the
police handgun market in the U.S.  Virtually all gun manufacturers soon
thereafter entered the field of polymer frame pistols, resulting in the redesign
of traditional pistols to accommodate high capacity magazines through
enlargement of gun handles.

One piece molded plastic gun handles have no grips or screw holes to which the
Grip Lock mounting plate can be attached.  Mr. Brooks consequently proceeded to
invent a magazine mounted Saf T Lok(R) as the Company's second product.

The Magazine Lock is a precision miniaturized, all mechanical, combination lock
that functions the same as the Grip Lock.  It has two buttons that function in
both directions, yielding 10,000 combinations.  The Magazine Lock is housed in
the bottom of the magazine, occupying the space of four to six cartridges
depending on the caliber.  Otherwise, the magazine functions the same in feeding
cartridges as a magazine without the lock.  The user installs the Magazine Lock

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<PAGE>
 
merely by inserting the Saf T Lok(R) magazine into the gun. A lever runs from
the lock, up the side of the magazine. When the lock is in the locked position,
the lever will engage the trigger bar or another part of the firing mechanism,
and either pull it away from the sear mechanism or block its movement as
necessary and appropriate. A second lever locks over the trigger bar or frame
preventing the magazine from being removed.

When the four-digit combination is entered with the lock buttons and the manual
safety is turned, the lock snaps open allowing the levers to be disengaged.  The
gun can then be fired or the magazine removed.

Magazine Lock shipments commenced in June 1998 with four Glock models followed
shortly thereafter with two more Glock models and two Beretta models. Three
popular Sig Sauer pistol models are expected to be available for shipping in
April 1999 to be followed by four Smith & Wesson models.


THE MARKET

Many reported injuries and deaths from the accidental discharge of firearms
involve guns purchased for protection and stored loaded at home.  According to
statistics provided by the American Firearms Industry on its website,  half of
all U.S. households have at least one gun. According to a 1998 survey by the
Center to Prevent Handgun Violence, it has been estimated that nearly 1.2
million latch key children have access to loaded and unloaded guns.  A May 1997
study sponsored by the National Institute of Justice showed that 55% of all
handgun owners keep their guns loaded and that 34% of handgun owners keep their
handguns loaded and unlocked. According to unpublished data from the Vital
Statistics System, one child is killed and at least thirteen more are injured in
unintentional shootings each day in the U. S. Furthermore, police officers and
military personnel as well as individual gun owners are at risk of being shot by
their own weapons grabbed by assailants.

The American Firearms Industry, a trade association, estimates that there are
60-65 million handguns in the United States and that there are 30-35 million
handgun owners in the United States.  According to Bureau Of Alcohol, Tobacco
and Firearms and Department of Commerce data as reported by the American
Firearms Industry, for the years 1992-1996, an average of 2,816,000 new handguns
were sold annually in the United States.

The market for the Company's products consists of both new and previously
manufactured handguns in the United States (the "retrofit market"). The most
recent National Directory of Law Enforcement Agencies indicate that there are
over 13,500 police and sheriffs departments in the United States, representing
over 615,000 sworn officers.  It is estimated there are an additional 225,000 or
more officers in federal, state and private agencies. This Law Enforcement
segment of the market is estimated to have over 1,000,000 handguns in use, and
to purchase over 250,000 new handguns yearly. These handguns are generally
stored in the home ready for immediate use when these law enforcement officers
are off duty.

The Consumer segment of the market consists of non-law enforcement handgun
owners who bought or are planning to buy guns for home defense and self -
protection.  Each year, on average, they purchase 2,566,000 handguns to add to
the 60 to 65 million that have previously been purchased. Consumers purchasing
handguns must do so from federally licensed dealers, thus the consumers must be
served through the approximately 12,000 licensed firearms dealers in the U.S.

The market is being driven toward greater use of gun safety products by a
combination of forces: Presidential mandate, growing public concern for gun
safety, a number of lawsuits against gun manufacturers and gun users, and
increasing state and local legislation and regulatory activity.

President Clinton, in his February 1997 State of the Union Address, urged
passage of child safety lock legislation.  Following that, in March 1997
President Clinton directed all federal agencies to equip their handguns with
child safety locks.  Those agencies complied using a variety of then available
products, mostly trigger locks and padlocks. The Company believes that a number
of  federal agencies are actively evaluating Saf T Lok(R) gun locks.  See ----
"Product Distribution".

The Company believes that federal agencies' use of gun locks - whether it be
the Company's products or trigger locks 

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<PAGE>
 
and padlocks - will establish that safety locks on guns (even if limited to off
duty use) makes guns safer without compromising the effectiveness of the gun for
law enforcement purposes. The Company further believes that state and local law
enforcement agencies, in turn, will commence use of gun locks, either through
voluntary actions, legislative mandate or by financial losses associated with
lawsuits against them. In a landmark case, the City of Chicago, Illinois was
recently assessed damages of $1.575 million for negligent storage of a firearm
by an off duty police officer.

A number of law enforcement agencies such as the cities of Boston,
Massachusetts, Orland Park, Illinois and Key Biscayne, Florida as well as The
Harvard University Police & Security Department and the Cumberland County North
Carolina Sheriff's Dept. have evaluated and purchased Saf T Lok(R) locks for
mandatory use by their entire departments.

The Company has identified its target market as the "self protection" gun
market, which almost exclusively consists of handguns.  These guns are used
predominately for household protection or personal carry self-protection,
including law enforcement. The Company believes that the greatest demand for Saf
T Lok(R) gun locks will come from this market, and that this market is willing
to pay the price for a lock with the benefits conveyed by Saf T Lok(R). Those
who don't want their gun loaded and instantly available will probably opt for
less expensive devices. Excluded from this market category are large caliber
hunting guns and small caliber target guns that either by their larger size or
lack of adequate power are not usually used for self-protection. The Company's
market does not include the cheaper, small caliber, "Saturday Night Special"
category of handguns, as the Company's products might well cost more than the
gun itself.

Upon completion of the Saf T Lok(R) models for the Sig Sauer and Smith &
Wesson brands, together with the models the Company has already begun marketing,
the Company's Grip Locks and Magazine Locks will fit almost 40% or over 900,000
of the new handguns sold each year and, with respect to the retrofit market,
almost 30% or over 19,000,000 of the handguns ever sold in the United States.
Within the Company's target market, Saf T Lok(R) gun locks will then fit
approximately 66% of the new handguns sold each year and 76% of the guns in the
retrofit market.

MANUFACTURING

The Company minimizes overhead by subcontracting the component manufacturing of
the gun lock parts to specialists: die manufacturers cast the lock components, a
grip manufacturer injection molds gun grips to house the Grip Lock components.
The Magazine Lock tube and levers are currently being manufactured by a well-
known magazine manufacturer. The Company assembles the gunlocks in-house.  After
quality assurance testing, packaging, and handling, the Saf T Lok(R) is ready
for distribution. The Company has demonstrated its capability to assemble and
ship over 5,000 locks per week and has the ability to ramp up production to
approximately 10,000 units per week if needed.

Parts are die cast in zinc alloy, then nickel-plated for additional strength and
lubricity.  The lock housing is cast with channels to hold the individual
components.  Assembly requires the lock parts to be inserted in the housing in a
particular order such that the lock cannot be improperly assembled.

The lock and its parts are designed so that they could easily be integrated into
the handgun design and manufacturing process if desired by the handgun
manufacturer.

The Company believes that an ample supply of the raw materials used in the
manufacture of its products is available from numerous sources at reasonable
prices.

PRODUCT DISTRIBUTION

In 1996, the Company began marketing the Grip Lock.  The Company advertised in
certain gun magazines in order to create demand from end users. The Company
believed that this demand would "pull" the Saf T Lok(R) gun locks through the
gun dealers and that gun dealers would then actively promote the sale of Saf T
Lok(R) gun locks. While the Company signed up more than 1,350 gun dealers and
locksmiths in the United States, sales were disappointing, primarily because (i)
the law enforcement market was rapidly switching from revolvers to semi-
automatic models for which the Company had not yet developed locks; and (ii) the
Company lacked the resources for a sustained advertising campaign.

Seeing a need for a different type of lock to appeal to law enforcement, Frank
Brooks invented the Magazine Lock.  All resources were devoted to development of
the Magazine Lock, delaying any further promotional efforts until the product
line was completed.  Nearing completion of the Magazine Lock and lacking
adequate funds to develop the consumer market the Company split its marketing
effort into two portions, the retail consumer 

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<PAGE>
 
market and the law enforcement market. In early 1998 the Company entered a 
three-year distribution agreement with United Safety Action ("USA")with respect
to consumer marketing. (See ----"Distribution Agreement")

In June 1998, Saf T Lok(R) became the only gun locking device endorsed by the
FRATERNAL ORDER OF POLICE (FOP), the most prominent police labor organization in
the country with over 272,000 members.

The Company pays an annual licensing fee of $25,000 for a listing in the FOP
catalog.

Saf T Lok(R) has been endorsed as "one of the most important advancements this
century in firearm safety" by the SAFE AND VAULT TECHNICIANS ASSOCIATION, the
premier organization for security professionals.

Recent independent evaluation by the INSTITUTE FOR POLICE RESEARCH, a branch of
the International Union of Police Associations, AFL-CIO, concluded with a strong
recommendation for Saf T Lok(R) as well as a comment on trigger locks that they
"found to be of very little value".

Prior to purchasing Saf T Lok(R) gun locks for off-duty use by its officers, the
Boston Police Department had the devices field evaluated by seventy-seven of
their officers with 97% rating the lock easy to use.

Through sales to prominent law enforcement agencies, the Company intends to seek
other endorsements in order to create market awareness and market acceptance for
both the Grip Lock and the Magazine Lock.

In March of 1999, the U.S. General Services Administration (GSA), the purchasing
arm of the Federal government, awarded the Company a five-year contract for the
Company's products.  The contract with the GSA's Federal Supply Service runs
from March 1, 1999 through February 29, 2004.  The contract allows Federal law
enforcement and other agencies in all fifty states, Washington D.C., Puerto Rico
and the Virgin Islands to procure Saf T Lok (R) gun locks.  Federal agencies
will be able to order Saf T Lok(R) handgun safety locks electronically on the
Internet through GSA Advantage, a menu-driven database system.  The contract,
however, does not require the government to purchase any of the Company's
products.

The Company is also conducting a lobbying effort at the federal level in order
to inform legislators involved in gun control and safety legislation of current
gun safety issues.

The initial marketing strategy for the Magazine Lock is to focus on law
enforcement agencies at the federal, state and local levels for multi-unit
sales.  The Company believes, based on trade association meetings it has
attended, that the law enforcement agencies are interested in purchasing large
quantities of the Magazine Lock to equip their officers.  However, the Company
realizes that substantial purchases by such organizations often have a long
purchase cycle where the decision to purchase must first be made, the budget for
the purchase must then be approved and funds must be allocated for this purpose.
This purchasing process can take one year or more depending on the budgeting
cycle for these organizations.

The Company has signed up several independent sales representatives and law
enforcement equipment distributors to solicit the law enforcement agencies.  In
some cases, the Company will use employees to directly solicit these agencies.
The Company intends to expand its use of distributors and sales representatives.
<PAGE>
Law Enforcement sales are proceeding in the right direction albeit slowly, as
one would expect when selling to governmental bodies. The retail market is has
not yet developed its potential, with the political atmosphere compounded by
legal and legislative conflict. Six cities, New Orleans, Chicago, Miami,
Atlanta, Cleveland and Bridgeport, CT., have already filed suit against the gun
manufacturers for producing unsafe weapons or for irresponsible sales tactics.
More are likely to follow.  The gun manufacturers and the National Rifle
Association have taken a strong stand in opposition to any form of gunlock
legislation, equating the issue with the highly emotional issue of gun control
and confiscation. Saf T Lok(R) has been featured in several prominent TV and
newspaper articles as having the best answer to handgun safety but suffering
constant snubs from the gun manufacturers who claim that no technology exists to
reasonably make guns safer. Saf T Lok(R) was called to testify for the plaintiff
in a trial in California against Beretta. Even though Saf T Lok(R) did not
testify and Beretta prevailed, Saf T Lok(R) has been thrust into the role of the
enemy by the gun manufacturers. This is not likely to cause the gun
manufacturers to warmly embrace Saf T Lok(R). Thus, the picture is too cloudy to
predict with any degree of certainty what will happen to retail sales in 1999.
The only safe course it to presume that retail sales will 

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<PAGE>
 
develop slowly until legislative efforts and public pressure force the gun
manufacturers to act more responsibly about gun safety.

Nevertheless, the Law Enforcement segment of the gunlock market is believed to
be large enough to have the potential for the Company to achieve a sustainable
level of sales. The Company will continue to aggressively pursue this market
segment and use it as a springboard to attack the retail market.

In the retail market, the suggested selling price of the Grip Lock is $69.95 and
the Magazine Lock is $89.95.  The Company believes the average price of a new
handgun is approximately $300 to $400.  Thus, the purchaser of a new handgun has
to be seriously motivated about gun safety in order to add about 25% to the
price of the handgun.  Likewise, the person who has owned a handgun for several
years must make a serious economic decision to add a Saf T Lok(R) gun lock to
his handgun in order to provide the type of safety protection offered by the Saf
T Lok(R). Thus, it could be several years before consumer sales of the Grip Lock
or the Magazine Lock develop to any significant degree.


DISTRIBUTION AGREEMENT

On February 10, 1998, the Company accepted a purchase order from an independent
wholesaler, D&W Enterprises, Inc. ("D&W") for the purchase of $6,000,000 of the
Company's gun locks and received a $1,000,000 advance payment on the purchase
order.  The wholesaler is a well-established business, but has no prior
experience selling gun locking devices.  The terms of the purchase order
provided that $1,000,000 worth of gunlocks were to be shipped within 120 days of
the purchase order.  Upon the delivery of the first $1,000,000 of gunlocks under
the purchase order, the Company was to receive another advance payment of
$1,000,000 for the next $1,000,000 worth of gunlocks with deliveries to take
place at the rate of approximately $625,000 per month.  Thereafter, deliveries
of gunlocks were to be on a net 30-day payment basis.  After a total of
$2,000,000 worth of gunlocks would have been shipped, the balance of the
purchase order was to be shipped on an as needed basis at the rate of
approximately $625,000 per month.

On February 11, 1998, the Company entered into a distribution agreement (the
"Distribution Agreement") with a newly formed distribution company, referred to
as USA and not affiliated with the Company, for the sale and purchase of
$20,000,000 of the Company's Grip Locks and Magazine Locks over a period of
three years from the date of the Distribution Agreement.  Deliveries for the
first $7,000,000 of this order were specified to take place throughout the first
year (the "Initial Order").  Following fulfillment of the obligations under the
Initial Order of the Distribution Agreement, USA could terminate the agreement,
without cause, and cancel any orders pending that have not been shipped upon 90
days prior written notice.  The purchase order from the wholesaler described
above satisfies and takes the place of $6,000,000 of the Initial Order under the
Distribution Agreement.  Subsequent to the Company's fulfillment of the Initial
Order, USA could provide releasing orders to the Company for the purchase and
delivery of the remaining $13,000,000 of gun locks pursuant to the Distribution
Agreement.

The Distribution Agreement provides that, while the Distribution Agreement is in
effect, USA has the exclusive right to sell the Company's products throughout
the world to wholesalers, retailers and end users except for law enforcement
agencies, governmental entities, military organizations and original equipment
manufacturers ("OEM"s) (such as gun manufacturers).

USA was obligated to create and place certain types of advertising pursuant to
an advertising plan to be approved by the Company for a total of $5,000,000 over
the first two years.  In connection with the Distribution Agreement the Company
has delivered to USA 1,000,000 shares of its common stock which the Company
valued at $3,781,000 based on a fair market valuation at the close of business
on the day prior to the issuance.  USA has pledged this stock to the Company as
security for the USA's obligation to place the advertising.  As USA meets its
obligation to place advertising, the Distribution Agreement calls for the
Company to release pledged shares to USA at the rate of one share for each $5.00
of advertising placed by USA.  It is USA's obligation to pay for this
advertising.

In connection with the Distribution Agreement, on February 11, 1998, the Company
entered into an agreement with  Atom Corp. ("Atom"), Danvers Investment Corp.
("Danvers") and Amexcorp Limited ("Amexcorp"), which were the designees of the
parties who introduced the Company to USA and D&W, granting the three companies
stock purchase 

                                       7
<PAGE>
 
warrants for a total of 2,000,000 shares of common stock with an exercise price
of $5.00 per share and a term of five years. These companies were instrumental
in assisting the Company in finding the Wholesaler and USA.

In addition, and in connection with the Distribution Agreement, on February 11,
1998, the Company entered into a commission agreement with Empire Consulting
Limited, Inc. ("Empire") for helping the Company structure the transaction with
USA.  This commission agreement provides for Empire to receive a 15% commission
from the sale of the products in accordance with the Distribution Agreement and
a 15% fee upon the exercise of the stock purchase warrants described above.

USA did not satisfy its obligations with respect to the initial order and has
not commenced placing the required advertising.  The Company is currently
negotiating with USA to terminate the distribution agreement, cancel the
1,000,000 shares of common stock of the Company issued to USA, and cancel the
Empire Consulting Agreement and warrants agreements entered with Atom, Danvers
and Amexcorp.  There can be no assurance, however, that these negotiations will
result in a final agreement acceptable to the Company, in which event the
Company will consider initiating litigation against USA for breach of the
Distribution Agreement.


COMPETITION

The Company's products compete with lock boxes, trigger locks, cable locks, ring
locks and smart locks.  Many of these products are more widely known and less
expensive than the Company's products.

Trigger Locks / Cable Locks
---------------------------

Because they were the first widely available commercial gunlock, trigger locks
are most commonly known to consumers. The first trigger lock was marketed by
Master Lock Company and contains a built-in key lock. Some more recently offered
versions of locking devices use combination padlocks or combination built-in
locks. These combination locks are actuated by turning three wheels with numbers
visible on the edge of the wheel. When the numbers are properly lined up the
lock can be opened. Turning the wheels can be difficult and proper alignment is
difficult to accomplish quickly or in the dark. Others contain an electronic
lock, which is always subject to inopportune battery or electronics failure.
Another very inexpensive trigger lock has no lock at all but clamps on the
trigger guard by turning a simple security nut.

All trigger locks have the common failing that they cannot be opened quickly and
are not recommended for use on a loaded weapon. To use the gun the key must
first be located (or the combination entered) and the gun must then be loaded
before firing, consuming precious time when the gun is needed most quickly.
Securing a keyed lock from a child is difficult since a key that is hidden where
it can easily be found when needed, weeks or months later, may be easy for the
curious child to find.  Conversely, locks that are not easy and convenient to
use often fall into disuse.

Similar drawbacks are also inherent in cable locks, plug rod locks and hammer
locks that all use similar locking mechanisms.


Magnetic Ring Locks
-------------------

These devices are contained in the frame of the handgun under the grip and have
a lever or levers that block the firing action of the gun. The gun remains
locked until a properly oriented magnet, usually contained in a ring worn on the
user's finger, is put near the magnet in the locking mechanism. The opposing or
attracting forces of the two magnets cause the locking lever to move out of the
way, allowing the gun to be fired. The passive locking concept is a desirable
feature of this type lock. However, these devices require modification to the
gun and must be installed by a gunsmith at an approximate cost of $350 to $400
per gun. The gun owner is required to wear a rather unattractive magnet ring at
all times in which he may want to use his gun. Also, because the ring magnet
must be properly aligned with the magnet in the gun for the device to work, fit
can be difficult because of the wide difference in the sizes of people's hands.
These devices are currently available only for a limited number of handgun
models and, while having been available for a number of years, have not gained
any significant market share.

                                       8
<PAGE>
 
Box Locks
---------

Box locks and gun safes are effective security devices in limiting access to
guns. However, they have a number of drawbacks, not the least of which is price.
The most inexpensive models retail for about the same price as Saf T Lok(R) gun
locks.  Various makes and models have key locks, combination locks or electronic
locks, all of which have the same inherent shortcomings as they do when used on
other types of gun security devices. Gun boxes can be problematic because of
their size and general unattractiveness to fit in with household decor. This
often results in the gun not being near the point of use.

"Smart Locks"
--------------

These are electronic locks that "read" a coded device worn by the user, similar
to a proximity reading device found in some security door locks. They are very
expensive and questions have been raised related to their ruggedness and
reliability. To the best of the Company's knowledge they are not yet
commercially available and will have to overcome a number of drawbacks before
being accepted for use by most gun owners. While these devices may have some
applications of a very limited scope the Company does not consider these devices
to be a competitive threat, especially for the retrofit market.

There has been some publicity concerning gun locks that can validate the
authorized user by reading his fingerprints. The Company has investigated this
technology and has found that, to the best of its knowledge, it can not yet be
adapted to meet the specific needs of handgun use.

The Company believes that the advantages of its products over competing products
are that Saf T Lok(R) can be used on a loaded gun, can be disengaged within
seconds, can be operated by touch, even in the dark, and needs no keys or
electronics.

For home protection Saf T Lok(R) provides the gun owner with instant
accessibility to the gun.  This is the distinct advantage that Saf T Lok(R) has
over other devices such as the trigger lock.  The person who keeps a gun for
home protection needs to be able to use the device; he does not want to be
looking for keys, loading a gun or dealing with dead batteries while confronting
an intruder.  The Saf T Lok(R) eliminates such delays.  The operator just has to
use the combination to disengage the lock.

The advantages afforded the civilian gun owner in the use of the Saf T Lok(R)
also apply to each law enforcement officer who uses a gun.  With the Saf T
Lok(R) installed on his weapon, the officer can feel better about keeping his
loaded, but locked, gun in the home while he is off duty.  The concern every
officer has about the gun falling into the hands of the wrong person, whether a
child or a suspect, can be alleviated with use of the Saf T Lok(R).

Retail prices of gun locks run from the $5-$20 range for low-end items such as
trigger locks to several hundreds of dollars for gun boxes to thousands of
dollars for the sophisticated high-tech models not available to the general
public.  The Saf T Lok(R) is moderately priced at $69.95 for the Grip lock and
$89.95 for the Magazine lock.

While the Company will aggressively protect its products from infringement, it
may be possible for others to copy the patented features of the Company's
products or the functions they serve.  The Company expects that competitors will
attempt to develop comparable products, possibly reducing the Company's sales or
profit margins or both.  The Company's business strategy emphasizes increasing
consumer awareness of its products as well as enhancing brand name recognition.
The plan is to first gain credibility through sales to law enforcement agencies
and then capitalize on that credibility to obtain favorable exposure through the
news media, influencing both political and public pressure to make the
availability and use of guns safer.  Competitors such as Master Lock Company,
maker of a trigger lock, are larger, better capitalized companies with existing
distribution channels.

The Company's products will also compete at the retail store level for shelf
space, advertising space, and promotional displays.


GOVERNMENTAL REGULATION

                                       9
<PAGE>
 
Although the sale and use of handguns is heavily regulated, the Company and its
products are not subject to specific governmental regulation at the federal or
state levels.  In the event federal or state legislatures mandate the use of gun
locks, demand for the Company's products may increase.

EMPLOYEES

Including its executive officers, the Company had fourteen full time employees
as of December 31, 1998.  None of the Company's employees are covered by a
collective bargaining agreement.  Management believes that the Company's
relationship with its employees is good.

PATENTS, TRADEMARKS AND PROPRIETARY INFORMATION

The Company owns eight U.S. patents granting broad protection for both the Grip
Lock and the Magazine Lock. The patents are also protected in 21 European
countries. These patents cover locks for revolvers, long arms and semi-
automatic pistols and extend coverage to externally mounted locks which act on a
gun's external safety mechanism to block operation and the incorporation of a
lock into a gun's grip assembly, into a magazine, and the use of an adapter
plate to mount a lock. Franklin W. Brooks, the inventor, has assigned the
patents to the Company.

Patents were obtained or applied for sequentially during the development period
of the lock.  The attributes and function of the whole locking system for a gun
utilize coverage from all patents.  Together the issued and pending patents
cover a variety of ways of locking a variety of firearms. The issued patents,
dated January 29, 1991 through July 20, 1998 are: 4,987,693; 5,229,532:
5,335,521; 5,090,148; 5,140,776; 5,408,777; 5,457,907; 5,782,029. As a
continuation of U.S. Patent # 5,782,029 the Company has filed patent application
numbers SN 09/188,587 and SN 09/237,218 pertaining to a firearm safety mechanism
having a self-contained locking mechanism incorporated into the magazine of a
semi-automatic pistol which inhibits use of the firearm when a locking mechanism
disarms the firing mechanism as well as locking the magazine in position so as
to prevent unauthorized replacement. The firearm can be locked against
unauthorized use and unlocked by an authorized user without resort to external
accessories.

The Company's patent numbers are permanently molded into the Grip Lock adapter
plates and lock housings and are being permanently affixed to a visible part of
the Magazine Lock in order to give warning to potential infringers.

On January 20, 1998 the Company received Registration Number 2,131,422 from the
United States Patent Office for its logo "Saf T Lok(R)".

In May 1998 the Company received trademark registration for the terms
"Personalized Handgun" (TM) and "Personalized Firearm" (TM).

The Company has applied for trademark protection of its logo "Lock for
Life(TM)".


RESEARCH AND DEVELOPMENT

During the fiscal years ended December 31, 1998 and 1997, the Company spent
$29,946 and $311,895 respectively for research and development with respect to
its gun lock products.


FINANCIAL INFORMATION.  The information with respect to the Company's revenues,
operating profit or loss and assets attributable to the Company's business is
contained within the Financial Statements set forth on pages F-1 to F-32
herein.


                        ITEM 2.  DESCRIPTION OF PROPERTY

The Company leases approximately 12,000 square feet of office, assembly and
warehouse space in West Palm Beach, Florida, at an annual rental of $87,000.
The lease term is through July 2003.  In September 1998 the assembly and

                                       10
<PAGE>
 
warehousing operations were moved into this facility and in January 1999 the
corporate offices were consolidated into this facility. The Company believes
such facility is adequate to meet its foreseeable requirements.


                           ITEM 3.  LEGAL PROCEEDINGS

In December 1996 Lisa Broderick Fogel and her husband Bruce Fogel sued the
Company and Mr. Franklin W. Brooks in the Circuit Court for Martin County,
Florida for defamation and loss of consortium arising out of Mrs. Fogel's brief
tenure in November 1996 as President of the Company. The plaintiff's attorneys
have filed a Motion to Amend the Complaint to include punitive damages. This
motion has not yet been heard but it is expected the judge will allow the
Plaintiff to amend the Complaint to include a claim for punitive damages. The
case has been set for trial beginning May 3, 1999. The Reliance Insurance
Company is providing for the defense of the Company and Mr. Brooks and counsel
has advised that the insurance coverage should be sufficient to satisfy any
verdict which may be rendered in this case.

On July 24, 1998, Joseph Yud filed, in the United States District Court,
Southern District of Florida, a class action civil complaint against the
Company, Franklin Brooks and John Gardner. On August 27, 1998, Marvin Slomovics
filed, in the United States District Court, Southern District of Florida, a
class action civil complaint against the Company, Franklin Brooks and John
Gardner. On October 20, 1998, Neal M. Peters filed, in the United States
District Court, Southern District of Florida, a class action civil complaint
against the Company, Franklin Brooks and John Gardner. The three suits, each
denominated as a class action, allege violations of the federal securities laws
and, more specifically, that the Company and its officers made
misrepresentations, or failed to disclose material information between May 26,
1998 and June 12, 1998 concerning a development agreement allegedly entered into
with Semiconductor Laser International Corporation and a highly favorable
research report issued by Woodward Trading Company. The Company has, consistent
with its Articles of Incorporation and Florida law, provided indemnification to
Messrs. Brooks and Gardner. Although insurance coverage exists for defense costs
and any eventual liability, the coverage is limited to $1,000,000 and is subject
to a retention of $250,000. The lawsuits have been consolidated and the
plaintiffs, who have applied to the Court to certify the matter as a class
action, have indicated they intend to file a new complaint shortly. The Company
is unable to say that any particular outcome is either probable or remote.

On October 13, 1998, John L. Gardner, the former President and Chief Executive
Officer of the Company filed, in the Circuit Court for Martin County, Florida, a
lawsuit against the Company and Franklin Brooks. The lawsuit challenges Mr.
Gardner's termination under the terms of his Employment Agreement and the
Company's decision to block Mr. Gardner's attempt to exercise stock options and
sell stock in the Company. The suit also alleges that Mr. Gardner is entitled to
salary and all of his vested and unvested options and also claims that Mr.
Gardner was libeled. The matter is still in the pleading stages and the Company
has asserted numerous counterclaims against Mr. Gardner in its Answer. The
Company has no insurance coverage in this matter for either the Company or Mr.
Brooks. At this preliminary stage in the litigation, the Company is unable to
say whether any particular outcome is either probable or remote.

On May 29, 1998 the Company received notice of an "informal inquiry" from the
Division of Enforcement of the Securities and Exchange Commission ("SEC")
concerning activities between January 1, 1996 and May 29, 1998. The Company
complied with the SEC's requests to produce documents.  On February 18, 1999
Franklin W. Brooks, chairman of the Company's Board of Directors, testified
before the SEC pursuant to a subpoena. At that time the SEC made available to
the Company its formal Order Directing Private Investigation and Designating
Officers to Take Testimony dated September 22, 1998, file no. HO-3451 (the
"Order"). The Order revealed that members of the SEC's staff have reported
information to the Commission that, in the staff's view, tend to show that
during the period from at least January 1, 1996 and continuing thereafter, the
Company, its present or former officers, directors or employees or others may
have violated Federal Securities Laws. At this juncture, it is too early to
speculate what the outcome of this investigation or the potential impact on the
Company will be. The Company has not been requested to make a "Wells" submission
and no action or litigation has been instituted. The extent of any insurance
coverage under the Company's policies has not yet been determined.

The Company is not a party in any other ongoing or pending legal proceedings,
nor are any of the Company's properties the subject of litigation, and the
Company is not aware of any pending or contemplated proceeding against it by

                                       11
<PAGE>
 
governmental authorities concerning environmental matters. The Company knows of
no other legal proceedings, pending or threatened, or judgments entered against
any director or officer of the Company in his capacity as such.


          ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
                                        
The Annual Meeting of Shareholders was held on September 25, 1998. The
stockholders approved the election of the five directors named in the proxy
statement as follows: Franklin W. Brooks 10,702,745 for, 107,506 abstain;
Jeffrey W. Brooks 10,698,045 for, 112,206 abstain; Dennis W. DeConcini
10,704,945 for, 105,306 abstain; William M. Schmidt 10,703,131 for, 107,120
abstain; James V. Stanton 10,704,931 for, 105,320 abstain.

No other matters were submitted to a vote of security holders through the
solicitation of proxies or otherwise.

                                    PART II

                             ITEM 5.  COMMON EQUITY

The Company's Common Stock, par value of $0.01 per share, is traded on the
Nasdaq Small Cap Market.  As of March 15, 1999 there were approximately 400
holders of record of the Company's Common Stock.  The Company believes there are
approximately 9,000 beneficial owners of its Common Stock.  Although there are
no restrictions on the Company's ability to pay dividends to date, the Company
has not declared any cash dividends on any class of security nor does it
anticipate doing so in the foreseeable future.  The Company intends to retain
its earnings, if any, to finance the expansion of its business and for general
corporate purposes.

The high and low closing sales prices per share for the Company's Common Stock
for each full quarter for the 1997 and 1998 are as follows:

<TABLE>
<CAPTION>
 
-------------------------------------------------------------------------------------------------
Period                              High Closing Sales Price          Low Closing Sales Price
-------------------------------------------------------------------------------------------------
<S>                                <C>                                <C>
First Quarter 1997                              5.625                            2.125                 
-------------------------------------------------------------------------------------------------
Second Quarter 1997                             4.625                            2.031                 
-------------------------------------------------------------------------------------------------
Third Quarter 1997                              2.031                            0.375                 
-------------------------------------------------------------------------------------------------
Fourth Quarter 1997                             4.563                            0.406                 
-------------------------------------------------------------------------------------------------
First Quarter 1998                              5.531                            1.750                 
-------------------------------------------------------------------------------------------------
Second Quarter 1998                             6.000                            2.250                 
-------------------------------------------------------------------------------------------------
Third Quarter 1998                              3.844                            1.313                 
-------------------------------------------------------------------------------------------------
Fourth Quarter 1998                             1.781                            0.875                 
-------------------------------------------------------------------------------------------------
First Quarter 1999                              2.750                            1.000                 
-------------------------------------------------------------------------------------------------
</TABLE>


On February 16, 1999 the Company sold 12,500 shares of unregistered Common Stock
to a marketing firm for services rendered in assisting with the creation of a
business plan and to seek additional funding. This sale was exempted from
registration under (S)4(2) of the Exchange Act.

On February 16, 1999 the Company sold 12,500 shares of unregistered Common Stock
to a consultant for services rendered in assisting with the creation of a
business plan and to seek additional funding. This sale was exempted from
registration under (S)4(2) of the Exchange Act.

                                       12
<PAGE>
 
     ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
                           AND RESULTS OF OPERATIONS

Year Ended December 31, 1998 Compared to Year Ended December 31, 1997.

Results of Operation
--------------------

Revenues
--------

Loss for 1998 was ($6,066,394), or ($.48) per share, on sales revenues of
$1,652,469 as compared to a loss for 1997 of ($5,264,606) or ($.76) per share on
sales revenues of $40,594. Sales revenues for 1998 were derived almost entirely
from three customers: D&W purchases of $1,009,680, USA purchases of $577,115 and
the City of Boston Police Department purchases of $ 58,422 for a total of
$1,645,217. Other revenue for 1998 of $144,184 was derived mainly from short
term investment of cash on hand as was other revenue of $70,305 for 1997. The
reason for the disproportionate reduction in the ratio of per share loss to
actual loss was due to the increase in average shares outstanding from 6,920,820
shares in 1997 to 12,619,241 in 1998. Gross margins dropped from approximately
39% in 1997 to approximately 13% in 1998 mainly due to the influence of the
large volume of lower priced sales through the Distribution Agreement.

Sales efforts directed towards the Law Enforcement community began to pay off in
the last quarter of 1998, with the sale of locks in December 1998 to the Boston,
Massachusetts Police Department to equip 2,247 police officers with magazine
locks to secure their guns while at home off duty. It must, however, be
recognized that sales to police and sheriff's departments and other law
enforcement agencies have a long sales cycle. Of course, there are no assurances
that the Company will continue to receive substantial orders from any law
enforcement agencies.

After delivering a total of approximately $1,586,000 in locks to D&W and USA the
Company had to stop shipments and production of any more locks under the
Distribution Agreement because USA had fallen approximately $477,000 in arrears
on payments. The Company had to take immediate steps to reduce operating costs
as it now found itself in a very low cash position. The majority of the
workforce, both hourly and salaried, was reduced and all officers resumed
deferring salaries at the end of October 1998. Wages for the remainder of the
salaried employees were deferred beginning January 1999. Other expenses were
curtailed maintaining only those activities necessary to keep the Company in
operation. Average monthly operating expenses for 1998 were approximately
$200,000 per month, not including (i) non-recurring legal fees, roughly
estimated to approach a total of $360,000, for 1998 and 1999 combined, related
to defense of lawsuits and (ii) capital expenditures of approximately $368,000
for 1998. At the current reduced rate, cash needed to sustain operations in the
short run is approximately $50,000 per month. This does not include exceptional
legal and accounting fees or other expenses and accounts payable which have not
been paid to date.


Major Expenses
--------------

The comparison of major expense categories between 1998 and 1997 is set forth
below:

<TABLE>
<CAPTION> 
     ----------------------------------------------------------------------------------------- 
     Category                                                          1998          1997      
     ----------------------------------------------------------------------------------------- 
     <S>                                                            <C>             <C> 
     Consulting Fees, Marketing Fees and Commissions                $3,006,310      $2,595,576
     ----------------------------------------------------------------------------------------- 
     Salaries and Wages                                             $1,069,915      $1,009,871
     ----------------------------------------------------------------------------------------- 
     Advertising and Sales Promotion                                $  149,695      $  241,536
     ----------------------------------------------------------------------------------------- 
     Legal, Accounting and Professional Fees                        $  542,717      $  254,501
     ----------------------------------------------------------------------------------------- 
     Allowance for Doubtful Accounts                                $  502,680      $   14,510
     ----------------------------------------------------------------------------------------- 
     Product Development (R & D)                                    $   29,946      $  311,895
     -----------------------------------------------------------------------------------------  
     -----------------------------------------------------------------------------------------   
</TABLE> 

                                       13
<PAGE>
 
<TABLE> 
     -----------------------------------------------------------------------------------------   
     <S>                                                            <C>             <C> 
     Other                                                          $1,148,057      $  922,948
     -----------------------------------------------------------------------------------------   
     Total                                                          $6,434,156      $5,350,837 
     ----------------------------------------------------------------------------------------- 
</TABLE>


Of those expenses in the category of Consulting Fees, Marketing Fees and
Commissions,  $2,810,667 out of the total of $3,006,310 are related to the 1998
portion of consultant fees, commissions and expenses for fund raising efforts
begun in late 1997 and culminating in early 1998 in the Distribution Agreement,
as described earlier. In 1997, all of the expenses were essentially related to
consultant fees, commissions and expenses for fund raising efforts. Of the
remainder for 1998, approximately $80,000 was the 1998 portion of an agreement
with a marketing consulting firm entered into in 1997 and approximately $115,000
was due to the Black-Sholes evaluation of stock options granted in 1998 to four
consultants.

Total charges for Salaries and Wages in 1998 were slightly higher than 1997.
However, in 1998 the portion of this category related to stock options issued to
executive officers and key employees decreased from approximately $630,000 in
1997 to approximately $341,000 in 1998. The portion related to actual salaries
increased from approximately $367,000 in 1997 to approximately $729,000 in 1998.
In 1997 officers and executive employees waived a large portion of their
salaries while that was not the case for 1998. However, in 1998 officers and
executive employees postponed receiving a total of approximately $117,000 in
salaries, due from both the beginning months and the end of 1998. The deferred
salaries have been accrued. Salary expenditures also increased in 1998 due to
additional hiring needed to handle increased sales and manufacturing activity.

Advertising and Sales Promotion expenses dropped approximately $92,000 from 1997
to 1998. This was as a result of the Company concentrating its efforts on the
Law Enforcement market where less advertising took place. The Company stepped up
trade show activities spending approximately $92,000 on that in 1998.

Legal, Accounting and Professional expenses for 1998 increased by approximately
$288,000 over 1997. This was due to increased need for legal counsel for
financing activities, the Securities and Exchange Commission investigation and
the class action lawsuits. These higher than normal costs are expected to
continue in 1999.

Allowance for Doubtful Accounts increased by approximately $488,000, of which
approximately $477,000 is money owed by USA.

Product Development (R & D) costs decreased from $311,895 in 1997 to $29,946 in 
1998 because the development costs for the magazine lock were, for the most 
part, completed in 1997.


The major miscellaneous expenses in the Other category compare 1998 vs. 1997
respectively as follows:

$49,000 vs. $6,000 in travel expenses due mainly to increased financing and
legal activities,
$44,000 vs. $7,000 in office supplies to set up and operate the assembly
facility and expand the sales staff,
$105,000 vs. $8,000 in payroll taxes due to forgiveness of executive salaries in
1997 and the increase of up to 70 hourly employees at various times in 1998,
$300,000 vs. $234,000 in depreciation because of the increase in capital
equipment in 1998,
$86,000 vs. $48,000 in insurance costs due to increases in liability coverage
and health, workers' comp and unemployment insurance for additional employees,
and
$55,000 vs. $23,000 in communications costs mainly from the set up and operation
of the assembly facility.

Year 2000 Compliance.  The Company has analyzed Year 2000 issues with its
computer and software advisors and has assessed the impact of Year 2000 issues
on the Company's operations.  The Company is in the process of obtaining and
reviewing manufacturers documentation of Year 2000 compliance.  The Company
believes that its existing computer programs are fully Year 2000 compliant and
that it will not be necessary to incur any material expenses with regard to Year
2000 issues in the future.  The Company believes that all of its non-information
systems are Year 2000   The Company believes that there are currently no other
material Year 2000 issues to be disclosed.

                                       14
<PAGE>
 
Year Ended December 31, 1997 Compared to Year Ended December 31, 1996.

Results of Operation
--------------------

Revenues
--------

The Company continued developing its products in 1997 with revenues of only
$40,594 as compared to $57,349 in 1996.  These 1996 revenues resulted from sales
to gun dealers as their initial stocking purchases.  During 1997, the Company
concluded that its strategy of selling its gun locking devices through gun
dealers was not producing results. Therefore, the Company reduced its sales
activity through gun dealers and began to explore new ways of marketing the gun
locking devices.

There were no other material revenues for 1996.

Major Expenses
--------------

As 1996 came to a close, the Company had a need for additional capital in order
to fund its continuing product development efforts, purchase tooling for its
Magazine Lock and other models of the Grip Lock and to support its operations
while a new marketing strategy was implemented.  Because of a cash shortage, the
Company substantially reduced its advertising expenditures during the early part
of 1997, focusing its activities on product development and capital raising.
The Company engaged a number of consultants to coordinate its efforts at the
Federal and State levels of government for legislation involving mandatory
requirements for gun locking devices.  Most of these consultants were
compensated by way of stock options.

In April 1997, the Company employed Mr. John Gardner and appointed him president
and chief executive officer.  In connection with his employment, Mr. Gardner was
granted a stock option for 600,000 shares with an exercise price of $2.50 per
share, subsequently repriced at $0.50 per share.

Because of the Company's need for capital, officers of the Company waived some
or all compensation during 1997.  In August 1997, the Company granted stock
options to the executive officers and key employees for working with the Company
under very trying circumstances.  The grant of these stock options created an
expense to be recognized as compensation by the Company in the amount of
approximately $643,000 and deferred compensation in the amount of approximately
$447,000.

The comparison of major expense categories between 1997 and 1996 is set forth
below:

<TABLE>
<CAPTION>
     -----------------------------------------------------------------------------------------        
     Category                                                           1997            1996       
     -----------------------------------------------------------------------------------------        
     <S>                                                            <C>               <C> 
     Consulting Fees                                                $2,595,576        $  5,893 
     -----------------------------------------------------------------------------------------        
     Salaries and Wages                                             $1,009,871        $715,662 
     -----------------------------------------------------------------------------------------        
     Advertising and Sales Promotion                                $  241,536        $735,093 
     -----------------------------------------------------------------------------------------        
     Legal, Accounting and Professional Fees                        $  254,501        $507,338  
     -----------------------------------------------------------------------------------------        
</TABLE>

Consulting fees increased dramatically from approximately $6,000 to
approximately $2,600,000.  Of the $2,600,000 in 1997, approximately $1,800,000
is a result of accounting charges for stock options issued to consultants,
approximately $405,000 has been accounted for as a consulting fee for the
placement of certain of the Regulation S securities, a warrant issued to the
placement agent in connection with a Regulation S placement was valued at
approximately $260,000 and approximately $142,000 is the portion of the
consulting agreement and public relations firm agreement allocated to 1997.

                                       15
<PAGE>
 
Salaries and wages increased from approximately $716,000 to $1,010,000. However,
in 1997, $643,000 of the increase was the accounting charge for stock options
issued to executive officers and key employees.

Advertising and sales promotion declined substantially from approximately
$735,000 to $242,000, reflecting the focus on product development and capital
raising during 1997, instead of marketing.  Research and development expenses
increased from approximately $174,000 to approximately $312,000, reflecting the
continued product development for the Magazine Lock and additional models of the
Grip Lock.  Legal, accounting and professional fees declined from approximately
$507,000 in 1996 to approximately $244,000 in 1997.  In 1996, substantial legal
and accounting fees were incurred in connection with the merger of Saf T Lock,
Inc. and RGB Sales and Marketing, Inc.  Substantial legal fees were incurred in
1997 in connection with the Regulation S offerings, the delisting procedure, and
the engagement of law firms in connection with lobbying efforts.

As a result of the continued lack of significant sales in 1997 and the increase
in expenditures relating, in large part, to the raising of capital as detailed
above, 1997 losses from continuing operations rose to ($5,264,606) or ($.76) per
share as opposed to a loss of ($2,841,716) or ($.54) per share for 1996.

Liquidity
---------

On November 12, 1997, the Company closed the transaction with the three foreign
investors with respect to 1,250,000 shares of common stock and two-year stock
purchase warrants for 1,666,666 shares exercisable at $2.00 per share and stock
purchase warrants for 416,667 shares exercisable at $3.00 per share. The
remaining shares and warrants were held in escrow until January 20, 1998, when
the Company closed the transaction with the three foreign investors with respect
to the remaining 250,000 shares of common stock and two-year stock purchase
warrants for 333,334 shares exercisable at $2.00 per share and two-year stock
purchase warrants for 83,333 shares exercisable at $3.00 per share.

The net proceeds of the sale of 1,500,000 shares on November 12, 1997, after
deducting contract payments for a public relations firm, a business consultant,
the placement agent's fee and the legal fees for the placement agent, were
$1,910,000.  The public relations firm contract required the Company to pay
$375,000 at the time of this closing with a subsequent $375,000 to be paid upon
the exercise of stock purchase warrants for at least $1,000,000.  The consulting
firm contract required the Company to pay $250,000 at the time of closing.  Both
of these contracts provide for services over the course of one year.  The
Company is accounting for these contracts as an operating expense over the
course of the contracts.  The expense recognized in 1998 for these contracts was
a total of approximately $858,000. In early 1998, the Company restructured the
agreements with the public relations firm, expanding the scope of the services
to be provided and, in lieu of paying an additional $375,000 to the financial
consulting firm in the future, delivered 25,000 shares of unregistered common
stock, caused three stockholders to assign stock purchase warrants for 300,000
shares exercisable at $3.00 per share and agreed to pay $10,000 per month for
twelve months.  When stock purchase warrants are exercised for more than
$1,000,000, the Company will pay $375,000 to the three stockholders who assigned
the stock purchase warrants, or their assigns.

At the end of 1997, the Company had approximately $1,426,000 in cash balances.
As the Company entered 1998, the Company was in the process of negotiating a
large commitment from a distributor, USA, and expecting the closing of the
remaining portion of the Regulation S offering (that had an initial closing in
December 1997) for $500,000. In early February 1998, the Company closed on the
$500,000 portion of the Regulation S offering and in February 1998, the Company
entered into a distribution agreement with United Safety Action, Inc. and
received a $6,000,000 purchase order from a wholesaler.  The Company received a
$1,000,000 deposit under the $6,000,000 purchase order from a wholesaler and a
deposit of $100,000 from USA. In May, June and July 1998 the holders of warrants
for 2,000,000 shares of Company stock at $2.00 per share, obtained in the
Regulation S offering, exercised those warrants, netting the Company
approximately $3,011,000.  The Company also received approximately $413,000 from
the exercise of options by employees and consultants and another approximately
$144,000 in interest for a total of approximately $6,595,000 with which in the
Company's opinion, was adequate to provide liquidity for the Company to operate
in 1998 and beyond. In addition, the rate of shipments called for under the
purchase order from the wholesaler should have permitted the Company to operate
beyond the break-even point on a monthly basis for most of 1998, without
considering the receipt of other potential orders. The Company did not believe
that it would have a need for any additional working capital financing during
the three-year term of the Distribution Agreement. Expenditures of funds in 1998
were approximately: $1,429,000 in cost of goods sold, $2,324,000 in 

                                       16
<PAGE>
 
operating expenses, $368,000 in capital expenses, $249,000 in reduction of
liabilities and payables and $2,010,000 in increased inventories. In order to
meet its commitments to USA, the Company had to quickly increase its production
rate, starting with the procurement of parts from which to assemble the locks.
With a three to four month lead-time on parts the Company had to place parts
orders well in advance of the production schedule. The Company also committed to
purchasing high volumes of parts to avail itself of the inherent cost savings.
In May 1998, a new Vice-President of Marketing, Stephen Eccher, was hired and
shortly thereafter three sales representatives were engaged to spearhead the Law
Enforcement effort. When production was abruptly curtailed, as explained in a
previous section, the Company had excess inventory of approximately $2,010,000.
In addition, almost another $ 490,000 was immobilized in receivables from USA,
tying up approximately $2,500,000 in cash much needed for Law Enforcement
marketing efforts and general operation of the Company. See "Business -
Distribution Agreement".

The Company's auditors have issued their report, included in the Company's
financial statements, which contains a going concern qualification largely as a
result of the Company's net losses, the lack of USA's performance under the
Distribution Agreement, the Company's current cash situation and the Company's
recent levels of sales.

The Company ended 1998 with cash balances of approximately $434,000, not enough
to sustain it as a going concern for 1999 unless it could substantially and
rapidly increase sales to convert inventory into cash and sustain sufficient
cash inflow to support operating expenses. Because of the long lead times
associated with sales to governmental agencies, this would be an unreasonable
expectation.

The Company needs to raise additional capital so it began the process of
searching for additional funding. With the unresolved legal actions against the
Company it is more difficult to find investors. An outside firm was engaged in
January 1999 to prepare a business plan and use their contacts to supplement the
Company's efforts to find funding. The outside firm agreed to take payment in
stock of the Company. Upon completion of the business plan in February 1999 they
were issued 25,000 shares of stock and will earn another 25,000 shares of stock
if they procure financing on terms acceptable to the Company.

In February 1999 the Company identified an investment banker with whom it has
entered into negotiations to obtain additional capital. With the anticipated
infusion of funds and some sales revenue for 1999 the Company believes it can
continue operations and its Law Enforcement marketing program through 1999.

On March 1, 1999 the Company concluded its months long negotiations with the U.
S. General Services Administration, the purchasing arm of the Federal
government, obtaining a five-year contract easing the way for Federal and some
State agencies to purchase Saf T Lok(R)s at the negotiated terms and discounted
prices.

Product Liability
-----------------

The Company has experienced no product liability claims to date and does not
anticipate any. The Company maintains total product liability insurance of
$3,000,000.


Anticipated Major Expenses
--------------------------

In 1999 the Company estimates that it will incur non-recurring legal expenses of
approximately $300,000 in connection with defense of the class action securities
lawsuit, the SEC investigation, and the lawsuit from its former CEO, John
Gardner. Some of these costs may be recoverable.


Capital Resources and Expenditures
----------------------------------

The Company expects to invest approximately $100,000 in tooling to complete the
planned magazine lock model variations during 1999.  The Company commenced its
own assembly operations, which consists primarily of assembling parts produced
by subcontractors, in March, 1998 and foresees no significant expenditures for
additional assembly tooling in 1999.  The Company does not believe that it will
have a need to make any other consequential additional capital expenditures in
1999.

                                       17
<PAGE>
 
Outlook
-------

The Company is currently facing a number of significant problems including
difficulty in funding its working capital requirements, ongoing litigation
(including litigation involving two of its past presidents) and an ongoing SEC
investigation.  See "Legal Proceedings" and "-Liquidity".  In addition, the
Company's distributors have not met their obligations under the Distribution
Agreement with respect to the quantities of the Company's products to be sold
and the amount of advertising to be conducted.  As a  result, the Company is
currently negotiating the termination of the Distribution Agreement.  See
"Business-Distribution Agreement".  With respect to the Company's marketing
activities, in March 1999 the Company entered into a five year contract with the
U.S. General Services Administration pursuant to which Federal agencies (and
some State agencies) can purchase the Company's products on the basis of
previously negotiated terms and discount prices.  The Company has also commenced
sales to certain law enforcement agencies and has received endorsements from a
number of organizations, including the Fraternal Order of Police, the Safe and
Vault Technicians Association, and the Institute For Police Research.  See
"Business - Product Distribution".  To date, the cities of New Orleans, Chicago,
Miami, Atlanta, Cleveland and Bridgeport have filed suit against gun
manufacturers for producing unsafe weapons or irresponsible sales tactics.  The
Company has also received positive publicity on TV and in a number of newspaper
articles.  In addition, the Company is continuing its search for additional debt
and equity funding but no assurance can be given that such funding will be
obtained on terms acceptable to the Company.  On balance, the Company is
optimistic that the combination of the publicity and endorsements the Company
and its products have received, the national focus on handgun safety and recent
significant sales to law enforcement agencies will permit the Company, either
through equity or debt financing or increased revenues through operations to
meet its current challenges.


             ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The information required by this Item is incorporated by reference to the
Financial Statements set forth on pages F-1 to F-32 herein.

                        ITEM 9.  CHANGES IN ACCOUNTANTS

None.

                                       18
<PAGE>
 
                                   PART III

         ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The directors and executive officers of the Company are as follows:

<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------- 
          Name               Principal Occupation or Employment           Age        Director Since 
                                 During the Past Five Years
----------------------------------------------------------------------------------------------------------- 
<S>                          <C>                                          <C>        <C> 
Franklin W. Brooks           Chairman of the Board of Directors           64             1996 
                             since 1996; President and Chief
                             Executive Officer of the Company since 
                             June 1998; President of the Company
                             from November 1996 to April 1997;
                             founded Saf T Lok Corporation in 1989; 
                             Director of Palm Beach Business
                             Services, Inc.; Mr. Brooks is the
                             father of Mr. Jeffrey W. Brooks
----------------------------------------------------------------------------------------------------------- 
Jeffrey W. Brooks            Director of the Company since 1996;          38             1996 
                             Vice President, Secretary and
                             Treasurer of the Company since
                             November 1996; Manager of Research & 
                             Development since 1989; President of 
                             Palm Beach Business Services; Mr.
                             Brooks is the son of Mr. Franklin W. 
                             Brooks               
----------------------------------------------------------------------------------------------------------- 
William M. Schmidt           Director since 1996; employee and Vice       56             1996
                             President of the Company since 1995;                            
                             Vice President and General Manager of                           
                             Ilco Unican Inc., Simplex Safelock                              
                             Division from 1993 to 1995; General                             
                             Manager of the Automobile Occupant                              
                             Restraint Systems Division of Takata                            
                             from 1990 to 1993                                               
----------------------------------------------------------------------------------------------------------- 
Dennis W. DeConcini          Director since October 1997; Partner         62             1997
                             with Parry , Romani & DeConcini, Inc.                           
                             since 1995; U.S. Senator for the State                          
                             of Arizona from 1977 to 1995                                    
----------------------------------------------------------------------------------------------------------- 
James V. Stanton             Director since October 1997; attorney        67             1997 
                             and registered lobbyist with Stanton
                             and Associates (law firm) since 1988;
                             Executive Vice President of Delaware 
                             North Company, a concession food
                             distribution company, from 1981 to
                             1988; U.S. Congressman for the 20th
                             Congressional District of Ohio from
                             1971 to 1977
--------------------------------------------------------------------------------------------------
</TABLE>

Section 16(a) Beneficial Ownership Reporting Compliance.

In 1998, the following officers and directors of the Company failed to file the 
following forms on a timely basis; Mr. Franklin Brooks filed one late report 
covering one transaction; Mr. Jeffrey Brooks filed one late report covering four
transactions.

                                       19
<PAGE>
 
                       ITEM 11.  EXECUTIVE COMPENSATION

SUMMARY COMPENSATION TABLE

The following table describes the compensation earned by the Named Officers
(where the Named Officers are all those individuals serving as the Company's
Chief Executive Officer or in a similar capacity, and all those executive
officers who were compensated $100,000 or more during the fiscal year) for the
fiscal year ended December 31, 1998.

<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------- 
                                                                                  Long Term 
                                              Annual Compensation              Compensation Awards
--------------------------------------------------------------------------------------------------------- 
                                   salary         bonus      other annual        Securities Underlying
       Name            Year          ($)           ($)      compensation ($)            Options
---------------------------------------------------------------------------------------------------------  
<S>                    <C>      <C>               <C>       <C>                  <C> 
                          1998       $41,667        $0              $0          
John L. Gardner           1997  (3)  $51,167        $0              $0            (6)      472,000 
(1)                       1996            $0        $0              $0                               
---------------------------------------------------------------------------------------------------------  
                          1998  (8)  $54,165        $0              $0          
Franklin W. Brooks        1997  (4)       $0        $0              $0            (7)    1,000,000       
(2)                       1996       $54,167        $0       (5)$6,200                                     
-------------------------------------------------------------------------------------------------------
</TABLE>

(1)  Mr. Gardner held the positions of President and Chief Executive Officer of
     the Company from April 1997 to June 1998.
(2)  Mr. F.W. Brooks assumed the position of Chairman of the Board of Directors
     in February 1996, served as Chief Executive Officer of the Company from
     November 1996 to April 1997, and assumed the positions of President and
     Chief Executive Officer in June 1998.
(3)  Does not include salary waived by Mr. Gardner which was not accrued in the
     amount of $16,666.
(4)  Does not include salary waived by Mr. F. W. Brooks which was not accrued in
     the amount of $29,167.
(5)  Represents non-cash compensation in the form of premiums for $1,000,000 in
     life insurance on the life of Mr. F. W. Brooks for the benefit of his wife.
     The life insurance policy has since been canceled.
(6)  Mr. Gardner was issued a stock option for 600,000 shares of common stock in
     connection with his employment agreement in April 1997, of which 128,000
     shares have been exercised.  This stock option was repriced during 1997.
     Mr. Gardner was also issued additional stock options for 72,000 shares of
     common stock, which has been fully exercised. During 1997, Mr. Gardner was
     also issued an option for 450,000 shares of common stock, which had not
     vested at the time of the termination of his employment.  Mr. Gardner's
     unexercised options are currently subject to litigation for which the
     Company cannot speculate on the potential outcome.
(7)  Mr. F. W. Brooks was issued a stock option for 1,000,000 shares of common
     stock in December 1997.
(8)  Includes accrued salary of $16,667 which has not been paid.

OPTION/SAR GRANTS TABLE

No stock options were granted to the Named Officers during the fiscal year ended
December 31, 1998.


AGGREGATED OPTION EXERCISES AND FISCAL YEAR-END OPTION VALUE TABLE

The following table provides information regarding those stock options exercised
by Named Offices during the fiscal year ended December 31, 1998.

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------ 
                      Shares                 Number of Shares Underlying        Value of Unexercised         
                     Acquired      Value        Unexercised Options at        In-the-Money Options at        
                       on        Realized             Year-End                      Year-End (1)             
Name                 Exercise       ($)       Exercisable    Unexercisable      Exercisable   Unexercisable      
------------------------------------------------------------------------------------------------------------   
<S>                  <C>         <C>         <C>             <C>              <C>             <C>  
John L. Gardner         *            *            472,000          0            $250,726          $0.00 
------------------------------------------------------------------------------------------------------------   
Franklin W. Brooks      *            *            500,000       500,000         $   0.00          $0.00 
------------------------------------------------------------------------------------------------------------  
</TABLE>

                                       20
<PAGE>
 
*   Neither Franklin Brooks or John Gardner exercised any stock options during
    the fiscal year ended December 31, 1998.
(1) Value based on the difference between the last reported sale of the
    Company's Common Stock on the Nasdaq SmallCap Market of $1.0312 per share on
    December 31, 1998, and the exercise price of the options.

COMPENSATION OF DIRECTORS

The Company granted stock options in the amount of 250,000 shares of Common
Stock, exercisable at $2.00 per share, on October 23, 1997, to each of Mr.
Dennis W. DeConcini and Mr. James W. Stanton in connection with their
appointment as directors of the Company.

The Company's 1993 Stock Option Plan (the "Plan") provides for the grant of an
option for 5,000 shares of Common Stock to each Director who is not otherwise
employed (i) upon the adoption of the Plan, (ii) upon that Director's election
to the Board of Directors, and (iii) upon election to the Board of Directors
after all previously granted options have vested. These options are to be
granted at fair market value, vest at a rate of 2,500 on June 1 and December 1
after the date of the grant, and are exercisable for 10 years from the date of
grant. Accordingly, the following Directors of the Company were granted the
following stock options pursuant to the Plan during the fiscal year ended
December 31, 1998:

--------------------------------------------------------------------------------
Name of Director          Shares Underlying Options Granted
--------------------------------------------------------------------------------
Dennis W. DeConcini       5,000 at $1.500 per share, of which 2,500 vested on
                          December 1, 1998 and of which 2,500 will vest June 1,
                          1999, provided he is still a director on that date.
--------------------------------------------------------------------------------
James V. Stanton          5,000 at $1.500 per share, of which 2,500 vested on
                          December 1, 1998 and of which 2,500 will vest June 1,
                          1999, provided he is still a director on that date.
--------------------------------------------------------------------------------

The Company has not paid any other compensation to any person for serving as a
director of the Company. The Company does not intend to compensate non-employee
directors for serving as directors, except pursuant to the 1993 Stock Option
Plan as set forth above, and except to reimburse them for expenses incurred in
connection with their service as directors. Directors who are employees of the
Company receive no compensation for serving as directors.

Employment and Consulting Agreements

On April 16, 1997 the Company entered into a two-year Employment Agreement with
Mr. John L. Gardner at an initial annual base salary of $100,000 per year.  In
connection with entering into the Employment Agreement, Mr. Gardner was granted
a stock option for 600,000 shares at an exercise price of $2.50 per share, which
was repriced to $0.50 per share and reissued as of September 19, 1997. During
1997, Mr. Gardner waived a portion of his annual base salary for the months of
July to November, was granted a stock option for 72,000 shares at an exercise
price of $0.10 per share in August 1997, and was granted a stock option for
450,000 shares at an exercise price of $2.00 per share in December 1997.  On
June 11, 1998, the Company terminated Mr. Gardner's employment as the Company's
President and Chief Executive Officer.

On May 20, 1998 the Company entered into a one-year Employment Agreement with
Mr. Stephen S. Eccher to assume the position of Vice President of Marketing.
Compensation consists of a base salary of $60,000 per year and a sliding scale
commission between one and three percent of law enforcement sales. Mr. Eccher
was also granted a stock option for 10,000 shares at an exercise price of $3.89
per share. The option vests 50% after the first six months of employment and the
remaining 50% after one year of employment. On December 11, 1998 Mr. Eccher was
granted a stock option for 50,000 shares of stock at $1.09 per share. This
option vests on June 1, 1999 provided Mr. Eccher is still in the employ of the
Company and provided that Mr. Eccher forfeits the option for 10,000 shares.


   ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

                                       21
<PAGE>
 
The following table sets forth certain information known to the Company
regarding the beneficial ownership of shares of Common Stock as of March 31,
1999, unless otherwise noted below, by (i) each person known by the Company to
be the owner of more than 5% of the outstanding shares of Common Stock, (ii)
each of the Company's Directors, (iii) each of the Named Officers, and (iv) all
executive officers and directors as a group.  Unless otherwise indicated, each
person has sole investment and voting power with respect to all shares shown as
beneficially owned.

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------- 
                                                    Amount and Nature of
Name and Address of Beneficial Owner                Beneficial Ownership   Percent of Class  (6)
----------------------------------------------------------------------------------------------------   
<S>                                                 <C>                    <C>
Franklin W. Brooks (a)                              (1)    1,365,512            9.93%                        
----------------------------------------------------------------------------------------------------   
United Safety Action, Inc. (b)                      (2)    1,000,000            7.27%              
----------------------------------------------------------------------------------------------------   
Hamdan Diamond Corporation (c)                      (3)    1,000,000            7.27%              
----------------------------------------------------------------------------------------------------   
Dennis W. DeConcini (d)                             (4)      260,000            1.89%              
----------------------------------------------------------------------------------------------------   
James V. Stanton (e)                                (4)      260,000            1.89%              
----------------------------------------------------------------------------------------------------    
William M. Schmidt (a)                              (5)      319,596            2.32%              
----------------------------------------------------------------------------------------------------    
Jeffrey W. Brooks (a)                               (5)      313,066            2.28%              
----------------------------------------------------------------------------------------------------     
All Directors and Executive Officers as a Group                                                    
(5 people)                                                 2,518,174           18.31%                
----------------------------------------------------------------------------------------------------     
</TABLE>

(a)  Address is 1101 Northpoint Parkway, West Palm Beach, Florida 33407.
(b)  Address is c/o Edward H. Burnbaum, Lynch Rowin Novack Burnbaum & Crystal,
     P.C., 300 East 42nd Street, New York, New York 10017.
(c)  Address is 5030 Anchor Way, Callows Bay Christiansted, St. Croix 00820-
     4521. See Footnote (3).
(d)  Address is 233 Constitution Avenue, N.E., Washington, D.C. 20002.
(e)  Address is 1310 19th Street, N.W., Suite LL, Washington, D.C. 20036.


(1)  Of these shares, 365,512 are held jointly by Mr. Brooks and his wife.
     Includes option to purchase 1,000,000 shares of Common Stock for $2.00 per
     share granted in December 1997, of which 500,000 are vested.
(2)  Shares are being held by the Company pursuant to a Stock Pledge Agreement
     and will be released only under certain performance criteria by United
     Safety Action, Inc. (see Business-Distribution Agreement)
(3)  As reported by Hamdan Diamond Corporation on Schedule 13-D dated October
     27, 1997.
(4)  Includes an option granted in October 1997 to purchase 250,000 shares of
     Common Stock for $2.00 per share of which 166,668 shares have vested. Also
     includes options pursuant to the 1993 Stock Option Plan to purchase 5,000
     shares of Common Stock for $3.250 per share, all of which have vested, and
     options pursuant to the 1993 Stock Option Plan to purchase 5,000 shares of
     Common Stock for $1.500 per share, 2,500 of which have vested.
(5)  Includes an option, granted December 11, 1998, to purchase 150,000 shares
     of Common Stock for $1.09 per share, all of which are vested.
(6)  Based on approximately 13,749,957shares of Common Stock outstanding as of
     March 31, 1999.

            ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The Company employs Mr. Franklin W. Brooks as its Chairman of the Board of
Directors and his son, Mr. Jeffrey W. Brooks, as its Vice President, Secretary
and Treasurer.  The Company believes that the compensation paid to these
individuals is no greater and no more beneficial than unrelated persons would
receive and is fair to the Company.

Mr. Brooks loaned a total of $125,000 to Saf T Lok Corporation during the time
between 1989 and the merger with RGB Computer & Video, Inc. in January of 1996.
On January 29, 1997, the Board of Directors approved the granting of a security
interest in the Company's intellectual property to Mr. Brooks as security for
the repayment of 

                                       22
<PAGE>
 
the $125,000. As of December 31, 1997, the Company owed Mr. Brooks a total of
$114,213, plus accrued interest. On June 4, 1998, the Company repaid this loan
to Mr. Brooks in full and he has released his security interest in the
intellectual properties.

   ITEM 14.  EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

Financial Statements:

The Financial Statements and Schedules listed below are located after the
signature page and begin on page F-1.

--------------------------------------------------------------------------------
Description                                                        Page  
--------------------------------------------------------------------------------
Auditors' Report                                                   F-2        
--------------------------------------------------------------------------------
Balance Sheets                                                     F-3 - F-4  
--------------------------------------------------------------------------------
Statements of Changes in Shareholders' Equity                      F-5 - F-6  
--------------------------------------------------------------------------------
Statements of Operations                                           F-7        
--------------------------------------------------------------------------------
Statements of Cash Flows                                           F-8 - F-9  
--------------------------------------------------------------------------------
Notes to Financial Statements                                      F-10 - F-32
--------------------------------------------------------------------------------

<TABLE> 
Exhibits:
------------------------------------------------------------------------------------
Exhibit
Number    Description of Exhibit                
------------------------------------------------------------------------------------
<S>       <C> 
3.1       Articles of Incorporation (incorporated herein by reference to the                
          Company's Form S-1 filed February 17, 1998)                                       
------------------------------------------------------------------------------------        
3.2       Bylaws (incorporated herein by reference to the Company's Form 10-KSB             
          filed April 16, 1998)                                                             
------------------------------------------------------------------------------------        
4.1       Instruments defining the rights of Security Holders, including Indentures         
          (contained in Article IV of Exhibit 3.1)                                          
------------------------------------------------------------------------------------        
23.1      Consent of Goldberg & Company, P.A.                                               
------------------------------------------------------------------------------------        
24.1      Power of Attorney (see page 25)                                                   
------------------------------------------------------------------------------------        
27.1      Financial Data Schedule                                                           
------------------------------------------------------------------------------------        
99.1      Letter from West Marketing Industries dated June 3, 1997                          
------------------------------------------------------------------------------------        
99.2      Agreement between the Company and West Marketing Industries dated June 3,         
          1997.                                                                              
------------------------------------------------------------------------------------
</TABLE> 

Current Reports on Form 8-K during the fourth quarter of 1998:

Form 8-K/A filed November 20, 1998 amending the 8-K originally filed April 18,
1997 reporting the employment of John Gardner.  The amendment included an
exhibit of the employment agreement between the Company and John Gardner.

Form 8-K/A filed December 16, 1998 amending the 8-K originally filed March 13,
1998 reporting the Distribution Agreement.  The original filing did not include
most favorable pricing to the distributor under a request for confidential
treatment.  The confidential treatment request has been withdrawn, therefore
this amendment includes that pricing information.

                                       23
<PAGE>
 
                                  SIGNATURES

Pursuant to the requirements of the Securities Act of 1933, the registrant has
duly caused this registration statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of West Palm Beach, State of
Florida, on April 15, 1999

SAF T LOK INCORPORATED


By: /s/ Franklin W. Brooks                By: /s/ William M. Schmidt,           
    ----------------------------              --------------------------        
    Franklin W. Brooks, President,            William M. Schmidt Chief Financial
                                              Officer, 
         
    Chief Executive Officer                   Principal Accounting Officer 

 

                                       24
<PAGE>
 
                               POWER OF ATTORNEY

KNOW ALL PERSONS BY THESE PRESENTS:

That the undersigned officers and directors of Saf T Lok Incorporated, a Florida
corporation, do hereby constitute and appoint Franklin W. Brooks the lawful
attorney and agent, with power and authority to do any and all acts and things
and to execute any and all instruments which said attorney and agent determine
may be necessary or advisable or required to enable said corporation to comply
with the Securities Act, and any rules or regulations or requirements of the
Securities and Exchange Commission in connection with this report on Form 10-K.
Without limiting the generality of the foregoing power and authority, the powers
granted include the power and authority to sign the names of the undersigned
officers and directors in the capacities indicated below to this report, to any
and all amendments, to this report, and to any and all instruments or documents
filed as part of or in conjunction with this report or amendments thereof, and
each of the undersigned hereby ratifies and confirms all that said attorney and
agent shall do or cause to be done by virtue hereof.  This Power of Attorney may
be signed in several counterparts.

IN WITNESS WHEREOF, each of the undersigned has executed this Power of Attorney
as of the date indicated.

Pursuant to the requirements of the Securities Act of 1934, this report has been
signed by the following persons in the capacities and on the dates indicated.

<TABLE>
<CAPTION>
Signature                   Capacity                                               Date                     
---------                   --------                                               ----
<S>                         <C>                                                    <C>  
/s/ Franklin W. Brooks      Chairman of the Board of Directors, President and      April 15, 1999     
-----------------------                   
Franklin W. Brooks          Chief Executive Officer     
 
/s/ Jeffrey W. Brooks       Director, Vice President, Secretary and Treasurer      April 15, 1999
-----------------------
Jeffrey W. Brooks          
 
/s/ Dennis W. DeConcini     Director                                               April 15, 1999
-----------------------
Dennis W. DeConcini
 
/s/ James V. Stanton        Director                                               April 15, 1999  
-----------------------
James V. Stanton
 
/s/ William M. Schmidt      Director, Chief Financial Officer, Principal           April 15, 1999
-----------------------
William M. Schmidt          Accounting Officer
</TABLE> 

                                       25
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                       CONSOLIDATED FINANCIAL STATEMENTS

                                   I N D E X

                                                            Page
                                                            ----
AUDITORS' REPORT                                             F-2

CONSOLIDATED BALANCE SHEETS                               F-3 - F-4

CONSOLIDATED STATEMENTS OF CHANGES
         IN SHAREHOLDERS' EQUITY                          F-5 - F-6

CONSOLIDATED STATEMENTS OF OPERATIONS                        F-7

CONSOLIDATED STATEMENTS OF CASH FLOWS                     F-8 - F-9

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS               F-10 - F-32
<PAGE>
 
                         INDEPENDENT AUDITORS' REPORT
                         ----------------------------

To the Board of Directors
Saf T Lok Incorporated

We have audited the consolidated balance sheets of Saf T Lok Incorporated and
subsidiaries as of December 31, 1998 and December 31, 1997, and the related
consolidated statements of operations, changes in shareholders' equity and cash
flows for the years then ended. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Saf T Lok
Incorporated and subsidiaries as of December 31, 1998 and 1997, and the
consolidated results of its operations and its cash flows for the years then
ended in conformity with generally accepted accounting principles.

The accompanying financial statements have been prepared assuming that Saf T Lok
Incorporated will continue as a going concern. As discussed in Note 2 to the
financial statements, under existing circumstances, there is substantial doubt
about the ability of Saf T Lok Incorporated to continue as a going concern at
December 31, 1998. Management's plans in regard to that matter also are
described in Note 2. The financial statements do not include any adjustments
that might result from the outcome of this uncertainty.

                                             GOLDBERG & COMPANY, P.A.

                                      F-2
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES

West Palm Beach, Florida
March 24, 1999

                          CONSOLIDATED BALANCE SHEETS
                       AS OF DECEMBER 31, 1998 AND 1997

                                  A S S E T S
                                  -----------
<TABLE> 
<CAPTION> 
                                                  1998                1997 
                                             -----------          ------------
<S>                                          <C>                  <C>  
CURRENT ASSETS
   Cash and cash equivalents                 $   433,661          $  1,426,410
Accounts receivable ( less allowance
     for doubtful accounts of $502,680
     and $14,510, respectively)                   59,596                 4,888
   Note receivable                                18,303                20,948
   Inventories                                 2,357,982               347,682
   Prepaid expenses                              156,867               981,194
                                             -----------          ------------

       TOTAL CURRENT ASSETS                    3,026,409             2,781,122

PROPERTY AND EQUIPMENT, LESS
  ACCUMULATED DEPRECIATION                     1,250,737             1,142,129

OTHER ASSETS
   Patents, (less accumulated amortization
     of $111,697 and $69,264 respectively)       311,080               353,513
   Note receivable, less current portion         148,285               162,545
   Other assets                                    9,736                 2,150
                                             -----------          ------------

       TOTAL OTHER ASSETS                        469,101               518,208
                                             -----------          ------------

       T O T A L                             $ 4,746,247          $  4,441,459
                                             ===========          ============
</TABLE> 

          See accompanying notes to consolidated financial statements.

                                      F-3
<PAGE>
 
                     SAF T LOK INCORPORATED AND SUBSIDIARIES

                          CONSOLIDATED BALANCE SHEETS
                       AS OF DECEMBER 31, 1998 AND 1997

    L I A B I L I T I E S   A N D   S H A R E H O L D E R S '   E Q U I T Y
    -----------------------------------------------------------------------


<TABLE> 
<CAPTION> 
                                                       1998            1997 
                                                   ------------    ------------
<S>                                                <C>             <C>   
CURRENT LIABILITIES
   Note payable                                    $         --    $     60,677
   Accounts payable                                     371,533         498,747
   Accrued expenses                                     281,944         421,641
                                                   ------------    ------------

       TOTAL CURRENT LIABILITIES                        653,477         981,065
                                                   ------------    ------------

LONG-TERM LIABILITIES
   Notes payable, less current portion                       --          61,081
                                                   ------------    ------------

TOTAL LIABILITIES                                       653,477       1,042,146
                                                   ------------    ------------

COMMITMENTS AND CONTINGENCIES

SHAREHOLDERS' EQUITY
   Common Stock, $.01 par value,
     20,000,000 shares authorized, 13,609,957
     and 9,987,077 shares issued and
     outstanding, in 1998 and 1997, respectively        136,099          99,870
   Paid-in-capital                                   27,634,567      17,736,532
   Other equity reductions                           (4,254,829)     (1,080,416)
   Accumulated deficit                              (19,423,067)    (13,356,673)
                                                   ------------    ------------

       TOTAL SHAREHOLDERS' EQUITY                     4,092,770       3,399,313
                                                   ------------    ------------


       T O T A L                                   $  4,746,247    $  4,441,459
                                                   ============    ============
</TABLE> 

         See accompanying notes to consolidated financial statements.

                                      F-4
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
          CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
                FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997

<TABLE>
<CAPTION>
                                                                                                                     
                                       COMMON STOCK                             OTHER                                     
                                -------------------------       PAID-IN         EQUITY                                             
                                  SHARES        AMOUNT          CAPITAL        REDUCTIONS       DEFICIT          TOTAL     
                                -----------  ------------      ----------     ------------    ------------     ----------  
<S>                             <C>          <C>               <C>            <C>             <C>              <C>         
Balance - January 1, 1997        5,655,255   $    56,553       $ 9,167,898     $              $ (8,092,067)     $ 1,132,384
                                                                                                                          
Issuance of common stock in                                                                                                
 connection with conversion                                                                                                
 of debentures                   2,147,247        21,472           985,671                                        1,007,143
                                                                                                                     
Issuance of common stock in                                                                                          
 connection with severance                                                                                                 
 agreement                          30,000           300            78,450                                           78,750
                                                                                                                           
Issuance of common stock in                                                                                                
 connection with repayment                                                                                                 
 of loans to major shareholder     102,012         1,020           198,980                                          200,000 
                                                                                                                           
Issuance of common stock to                                                                                               
 suppliers and service                                                                                                    
 providers                         169,486         1,695           370,653                                          372,348
                                                                                                                          
Issuance of common stock to                                                                                               
 offshore investors              1,683,077        16,830         3,033,170                                        3,050,000
                                                                                                                
Issuance of common stock to                                                                                     
 an officer upon exercise of                                                                                    
 stock options                     200,000         2,000            69,200                                           71,200
                                                                                                                           
Deferred compensation                                            1,421,500      (1,421,500)                               -     
                                                                                                                          
Stock options granted to                                                                                                  
 officers, directors and                                                                                                  
 consultants                                                     2,411,010                                        2,411,010
                                                                                                                          
Amortization of deferred                                                                                                  
 compensation                                                                      341,084                          341,084     
                                                                                                                    
Net loss                                                                                        (5,264,606)      (5,264,606)   
                                ----------   -----------       -----------     -----------    ------------      -----------
BALANCE - DECEMBER 31, 1997      9,987,077   $    99,870       $17,736,532     $(1,080,416)   $(13,356,673)     $ 3,399,313
                                ==========   ===========       ===========     ===========    ============      ===========

Issuance of common stock to
 offshore investors                250,000   $     2,500       $   497,500     $              $                 $   500,000
 
Issuance of common stock to
 2 consultants upon exercise
 of stock options                  160,000         1,600           398,400                                          400,000
 
Issuance of common stock to
 a director/employee upon
 exercise of stock options         108,000         1,080             9,720                                           10,800
</TABLE>

         See accompanying notes to consolidated financial statements.

                                      F-5
<PAGE>
 
           CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
                 FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
                                   (CONTINUED)

<TABLE> 
<CAPTION> 
                                                                                           OTHER
                                                    COMMON STOCK              PAID-IN      EQUITY
                                           --------------------------                
                                            SHARES             AMOUNT         CAPITAL    REDUCTIONS     DEFICIT       TOTAL         
                                           -----------     ----------      ----------   -----------    -----------   -------------
<S>                                        <C>             <C>             <C>          <C>            <C>           <C>           
Issuance of common stock to                                                                                                       
   an employee upon                                                                                                               
   exercise of stock options                    29,000            290            2,610                                      2,900   
                                                                                                                                  
Issuance of common stock in                                                                                                       
   connection with a marketing                                                                                                    
   agreement                                    25,000            250           68,500                                     68,750   
                                                                                                                                  
Issuance of common stock in                                                                                                       
   connection with exercise                                                                                                       
   of warrants                               2,000,000         20,000        3,365,998                                  3,385,998   
                                                                                                                                  
Issuance of common stock in                                                                                                       
   connection with distributor                                                                                                    
   agreement                                 1,000,000         10,000        3,771,000                                  3,781,000   
                                                                                                                                  
Unearned advertising                                                                                                              
   expense                                                                                (3,781,000)                  (3,781,000)  
                                                                                                                                  
Issuance to landlord for                                                                                                          
   payment of rent                              50,880            509           50,371                                     50,880   
                                                                                                                                  
Issuance of warrants in                                                                                                           
   connection with                                                                                                                
   distributor agreement                                                     1,884,000                                  1,884,000   
                                                                                                                                  
Forfeiture of deferred                                                                                                            
   compensation                                                               (265,500)      265,500                            -   
                                                                                                                                  
Amortization of deferred                                                                                                          
   compensation                                                                              341,087                      341,087
                                                                                                                                  
 Issuance of stock                                                                                                                
   options to                                                                                                                     
   consultants                                                                 115,436                                    115,436   
                                                                                                                                  
                                                                                                                                  
Net Loss                                                                                                 (6,066,394)   (6,066,394)
                                           ----------    ------------      -----------  ------------   ------------   -----------
BALANCE - DECEMBER 31, 1998                13,609,957       $ 136,099      $27,634,567   $(4,254,829)  $(19,423,067)  $ 4,092,770
                                           ==========    ============      ===========   ===========   ============   ===========
</TABLE> 

         See accompanying notes to consolidated financial statements.

                                      F-6
<PAGE>
 
                   SAF T LOK INCORPORATED AND SUBSIDIARIES 
                    CONSOLIDATED STATEMENTS OF OPERATIONS 
                FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997



                                                    1998            1997 
                                                ------------    ------------
                                             
Sales                                           $  1,652,469    $     40,594
Cost of Sales                                      1,428,891          24,668
                                                ------------    ------------
Gross Profit                                         223,578          15,926
Selling, general and                         
 administrative expenses                           3,536,833       2,276,018
                                             
Stock and options issued for compensation    
   and commissions                                 2,596,769       2,840,830
                                             
Depreciation                                         300,554         233,989
                                             
Other income                                         144,184          70,305
                                                ------------    ------------
                                             
  NET LOSS                                      $ (6,066,394)   $ (5,264,606)
                                                ============    ============
                                             
LOSS PER COMMON SHARE                           $       (.48)   $       (.76)
                                                ============    ============
Weighted average number of common            
   shares outstanding                             12,619,241       6,920,820
                                                ============    ============


         See accompanying notes to consolidated financial statements.

                                      F-7
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                     CONSOLIDATED STATEMENT OF CASH FLOWS
                FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1996

<TABLE> 
<CAPTION> 
                                                                    1998              1997     
                                                                -----------       -----------
<S>                                                             <C>               <C>
CASH FLOWS FROM OPERATING ACTIVITIES                         
Net loss                                                        $(6,066,394)      $(5,264,606)
                                                                -----------       ----------- 
                                                                
Adjustments to reconcile net (loss) to net                      
 cash (used in) operating activities:                           
  Depreciation and amortization                                     300,554           233,989
  Provision for losses on accounts receivable                       488,170            (8,490)
  Non cash compensation to directors and officers                   341,084           958,437
  Warrants issued as commission payment                           1,884,000              -
  Issuance of stock for rent                                          4,240              -
  Issuance of stock for marketing                                    68,750              -
  Write-off of obsolete inventory                                   194,117           121,848
  Granting of options to consultants                                115,435         1,793,657
  Automobile transferred pursuant to consulting agreement              -               32,500
  Issuance of stock in settlement of accounts payable                  -              197,348
  Issuance of stock for advertising services                           -              175,000
  Issuance of stock pursuant to severance agreement                                    78,750
  Loss on disposal of property and equipment                           -                  372
  Issuance of stock in repayment of shareholder loans                  -              200,000
  Interest expense recognized on convertible debentures                -              302,143
  Changes in assets and liabilities:                                              
    (Increase) decrease in accounts receivable                     (542,880)           14,023
    (Increase) in other assets                                       (7,586)            -
    (Increase) in prepaid expenses                                 (126,031)         (968,894)
    Decrease in prepaid expenses                                    950,357             8,808
    (Increase) in inventories                                    (2,204,416)           (2,849)
    (Decrease) in accounts payable                                 (127,616)         (215,468)
    (Decrease) increase in accrued liabilities                     (183,903)          375,000
    Increase (decrease) in accrued wages payable                     91,250          (122,187)
    Increase in accrued rent payable                                   -               46,640
                                                                -----------       -----------
                                                                
    Total Adjustments                                             1,245,525         3,220,627
                                                                -----------       -----------
                                                                
    NET CASH USED IN OPERATING ACTIVITIES                        (4,820,869)       (2,043,979)
                                                               ------------       -----------
                                                                
CASH FLOWS FROM INVESTING ACTIVITIES:                           
 Decrease in note receivable                                         16,905            16,349
 Payments for the purchase of equipment                            (366,726)         (435,698)
 (Increase) in other assets                                            -               (1,175)
 Capitalization of patent costs                                        -              (20,630)
                                                               ------------       -----------
                                                                
    NET CASH USED IN INVESTING ACTIVITIES                          (349,821)         (441,154)
                                                               ------------       ----------- 
</TABLE> 


         See accompanying notes to consolidated financial statements.

                                      F-8
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES

                     CONSOLIDATED STATEMENT OF CASH FLOWS
                FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
                                  (CONTINUED)

<TABLE> 
<CAPTION> 
                                                                                            1998            1997   
                                                                                        -----------     -------------
<S>                                                                                     <C>             <C>    
CASH FLOWS FROM FINANCING ACTIVITIES:
   Proceeds from issuance of common stock                                                   500,000         3,050,000
   Proceeds from exercise of warrants - net of costs                                      3,386,000              -
   Issuance of stock upon exercise of options                                               413,700            71,200
   Decrease in note payable                                                                (121,759)           (9,766)
   Principal payments on borrowings/capital leases                                             -               (1,393)
   Proceeds from sale of convertible debentures                                                -              705,000
   Increase in note payable to shareholder                                                     -                7,546
                                                                                        -----------     -------------

       NET CASH PROVIDED BY FINANCING ACTIVITIES                                          4,177,941         3,822,587
                                                                                        -----------     -------------

   NET (DECREASE) INCREASE IN CASH AND EQUIVALENTS                                         (992,749)        1,337,454

   Cash and equivalents at beginning of year                                              1,426,410            88,956
                                                                                        -----------     -------------

   CASH AND EQUIVALENTS AT END OF YEAR                                                  $   433,661     $   1,426,410
                                                                                        ===========     =============


SUPPLEMENTAL DISCLOSURES OF
 CASH FLOW INFORMATION:

   Cash payments for interest                                                           $     4,637     $      22,098
                                                                                        ===========     =============
</TABLE> 

          See accompanying notes to consolidated financial statements

                                      F-9
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997
         

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES 
                                                    
         This summary of significant accounting policies is presented to assist
         in understanding the Company's financial statements. The financial
         statements and notes are representations of the Company's management
         who are responsible for their integrity and objectivity. The
         preparation of financial statements in conformity with generally
         accepted accounting principles requires management to make estimates
         and assumptions that affect the reported amounts of assets and
         liabilities and disclosure of contingent assets and liabilities at the
         date of the financial statements and the reported amounts of revenues
         and expenses during the period. Actual results could differ from those
         estimates. These accounting policies conform to generally accepted
         accounting principles and have been applied in the preparation of the
         financial statements.
          
         A) ORGANIZATION AND OPERATIONS
                                                                               
            Saf T Lok Incorporated and Subsidiaries (the "Company") was
            incorporated in Florida in July 1989 under the name of RGB Sales and
            Marketing, Inc. ("RGB"). The Company completed an initial public
            offering of its common stock on June 23, 1993. On February 13, 1996
            RGB acquired the Saf T Lok Corporation ("STL"), a Florida
            corporation, by merger and RGB changed its name to Saf T Lok
            Incorporated. This acquisition ended the Company's involvement in
            the video editing business and began its involvement in the gun lock
            business. The business of the Company is to design, develop,
            manufacture and market proprietary combination gun locks to prevent
            the unauthorized use of fire arms, including unintentional discharge
            by children and assailants.
            
         B) PRINCIPLES OF CONSOLIDATION 

            The consolidated financial statements include the accounts of Saf T
            Lok Incorporated and its wholly owned subsidiaries, Saf T Lok,
            Corporation and RGB Video, Inc., which is inactive. All significant
            inter company accounts and transactions have been eliminated in
            consolidation.

         C) CONCENTRATIONS OF RISK                                            
                                                                               
            The Company has concentrated its credit risk for cash and cash
            equivalents by maintaining deposits in financial institutions within
            the geographic region of Jupiter, Florida which may at times exceed
            amounts covered by insurance provided by the U. S. Federal Deposit
            Insurance Corporation (FDIC). The maximum loss that could have
            resulted from that risk was approximately $267,160 and $1,326,000 at
            the end of 1998 and 1997, respectively, for the excess of the
            deposit liabilities reported by the

                                      F-10
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997


NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

         C) CONCENTRATIONS OF RISK (CONTINUED)

            banks over the amounts that would have been covered by federal
            insurance. The Company has not experienced any losses in such
            accounts and believes it is not exposed to any significant credit
            risk to cash and cash equivalents.

            The Company is dependent upon certain vendors for the manufacture of
            significant components of its Saf T Lok(R) and Magazine Lock
            systems. If these vendors were to become unwilling or unable to
            continue to manufacture these components, in required volumes, the
            Company would have to identify and qualify acceptable alternative
            vendors. The inability to develop alternate sources, if required,
            could result in delays or reductions in product shipments.

            The Company does business and extends credit based on evaluation of
            a customer's financial condition generally without requiring
            collateral. Exposure to losses on receivables is expected to vary by
            customer due to the financial condition of each customer. The
            Company monitors exposure to credit losses and maintains allowances
            for anticipated losses considered necessary under the circumstances.

         D) FAIR VALUE OF FINANCIAL INSTRUMENTS
         
            The carrying amount of cash, accounts receivable and accounts
            payable approximates fair value because of the short maturity of
            those instruments. The fair value of loans receivable does not
            differ materially from the carrying value recorded in the
            accompanying balance sheet. Rates currently available to the
            Company for debt with similar terms and remaining maturities are
            used to estimate fair value of existing long-term debt.
         
         E) CASH EQUIVALENTS

            For the purpose of the statement of cash flows, the Company
            considers all investments with a maturity of three months or less
            to be cash equivalents.

         F) PROPERTY AND EQUIPMENT
         
            Property and equipment are recorded at cost. Expenditures for
            renewals and betterments which materially extend the useful lives
            of the assets or increase their productivity are capitalized.
            Expenditures for maintenance and repairs are charged to cost or
            expensed as incurred. Depreciation has been computed using the
            straight-line method over the estimated useful lives of the assets.
            When items of property or equipment are sold or retired, the
            related cost and accumulated depreciation are removed from the
            accounts and any gain or loss is included in the results of
            operations. The estimated useful lives are as follows:

                                      F-11
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997
         

NOTE 1 -  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
         
          F)  PROPERTY AND EQUIPMENT (CONTINUED)

              Item                     Estimated Useful Life
              ----------------------   ---------------------
              Furniture and fixtures   7 - 10 years
              Equipment                5 - 10 years
              Leasehold improvements   5 -  7 years
              Software                      5 years
              Tools and dies                7 years

          G)  INVENTORIES

              Inventories, which are primarily composed of raw materials,
              supplies and finished goods, are stated at the lower of cost or
              market, with cost determined on a first-in, first-out basis.
              Inventory costs for finished goods include material, labor, and
              production overhead.

          H)  INTANGIBLE ASSETS

              The Company has capitalized certain legal costs incurred relating
              to acquiring trademarks and patents of Saf T Lok(R) and the
              Company's products. These costs are capitalized and amortized over
              a period of fifteen years.
              

          I)  ADVERTISING

              Advertising costs are charged to expense as incurred. Advertising
              costs incurred for the years ended December 31, 1998 and 1997 were
              not material.

          J)  INCOME TAXES

              Deferred income taxes are reported using the liability method.
              Deferred tax assets are recognized for deductible temporary
              differences and deferred tax liabilities are recognized for
              taxable temporary differences. Temporary differences are the
              differences between the reported amounts of assets and liabilities
              and their tax bases. Deferred tax assets are reduced by a
              valuation allowance when, in the opinion of management, it is more
              likely than not that some portion or all of the deferred tax
              assets will not be realized. Deferred tax assets and liabilities
              are adjusted for the effects of changes in tax laws and rates on
              the date of enactment.

          K)  REVENUE RECOGNITION

              The Company recognizes revenue when products are sold and shipped.

                                      F-12
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997


NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)


         L)  LOSS PER COMMON SHARE
         
             Loss per common share amounts are calculated based on the weighted
             average number of shares outstanding during each period presented.
         
         M)  RECLASSIFICATIONS
         
             Certain amounts in the 1997 financial statements have been
             reclassified to conform to the 1998 financial statement
             presentation. Such reclassifications had no effect on the 1997 net
             loss or shareholders equity.
         
NOTE 2  - GOING CONCERN
         
          The accompanying financial statements have been presented in
          accordance with generally accepted accounting principles, which
          assume the continuity of the Company as a going concern. As reflected
          in the accompanying financial statements, the Company has incurred
          net losses of $6,066,394 in 1998 and $5,264,606 in 1997 and has
          substantially funded its working capital needs by the sale of common
          stock and warrants.
         
          In 1998, the Company raised $4,913,700 of equity financing at a cost
          of $2,498,000. During 1998 the Company purchased additional inventory
          of approximately $2,882,000 to meet the anticipated obligation under
          the Distribution Agreement referred to in Note 10(B). The lack of
          performance by the Distributor has been outlined in Note 10(B). The
          proposed termination of this Agreement leaves the Company with most of
          its funds, which are required for operations, invested in inventories
          with no significant prospects for sales.
         
          The Company's continued ability to operate as a going concern is
          dependent on its ability to raise additional capital and achieve a
          successful level of sales. The Company is attempting to obtain the
          financing necessary to fund operations. However, there can be no
          assurance that the financing will be satisfactorily concluded in time
          to provide the Company the working capital it needs to continue
          operations. The aforementioned circumstances raise substantial doubt
          as to the Company's ability to continue as a going concern at December
          31, 1998.

                                      F-13
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
                          DECEMBER 31, 1998 AND 1997
         

NOTE 3 - NOTES RECEIVABLE

         The Company previously had a promissory note due from Opal Technologies
         ("Opal"). The note had an original interest rate of eight percent and
         an annual interest rate of eighteen percent after the note becomes due.
         However, no interest had been accrued due to the fact that it seemed
         doubtful that the interest would be received. Although the Company
         continued to aggressively try to collect on the note receivable from
         Opal, the ability to collect seemed doubtful. Therefore, the note was
         written off as a bad debt in 1995. In 1996, the Company located the
         principals of Opal and renegotiated the note receivable calling for
         total payments of $248,000 including interest over a five year period.
         The Company recognizes income as payments are received.

         Pursuant to a settlement agreement dated September 27, 1995, Pride
         Integrated Services, Inc. agreed to pay the Company $310,000, which
         included interest over a ten year period with the payments beginning in
         October 1995. The settlement resulted from a suit filed by the Company
         against Pride Integrated Services, Inc. in October 1993, alleging
         copyright infringement and misappropriation of trade secrets. The note
         receivable was discounted as required by Accounting Principle Bulletin
         No. 21 using an 8% imputed interest rate. The balance of the note
         receivable, net of discount, is $166,588 and $183,493 as of December
         31, 1998 and 1997, respectively.

NOTE 4 - INVENTORIES

         Inventories are comprised of the following as of December 31, 1998 and
         1997:

                                                           1998         1997 
                                                     ----------   ----------
                                      
             Finished Goods                          $  324,937   $   62,855
             Raw Materials                            2,006,188      200,869
             Supplies                                    26,857       83,958
                                                     ----------   ----------
                 TOTAL                               $2,357,982     $347,682
                                                     ==========   ==========
 
         During 1998 and 1997 respectively, $194,117 and 133,207 of inventory
         produced in the development of the Saf T Lok(R) was considered impaired
         due to technical advancements in the further development of the
         products and was written-off as obsolete.

NOTE 5 - PREPAID EXPENSES

         Prepaid expense is comprised of the following as of December 31, 1998
         and 1997:

                                                     1998       1997 
                                                 ----------  -----------        
 
           Deposit on patent costs                 $ 64,438   $ 24,438
           Prepaid insurance                         56,072      6,399
           Deposits - tooling                        35,357       -
           Public relations agreement                  -       660,000
           Financial consulting agreement              -       197,917

                                      F-14
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 5 - PREPAID EXPENSES (CONTINUED)

                                            1998         1997 
                                         ----------    ----------

         Prepaid marketing                     -           80,208
         Prepaid show expenses                 -           11,720
         Prepaid other                         -              512
                                         ----------    ----------
                 TOTAL                   $  156,867    $  981,194
                                         ==========    ==========

         The Company was required to enter into a Financial Public Relations
         Agreement valued at $750,000 in November 1997, in connection with the
         sale of 1,500,000 shares of common stock and stock purchase warrants
         for 2,500,000 shares of common stock. The term of this agreement was
         one year (Note 10-C). Expense of $660,000 and $90,000 was recognized in
         1998 and 1997, respectively.

         In 1997, the Company also entered into a Financial Consulting Agreement
         in the amount of $250,000 in connection with the above mentioned equity
         transaction. The term of this agreement was one year (Note 10-C).
         Expense of $197,917 and $52,083 was recognized in 1998 and 1997,
         respectively.

         In 1997, the Company entered into a Marketing Agreement for which stock
         valued at $175,000 was issued for services to be rendered over one year
         (Note 10-C). Expense of $80,208 and $94,792 was recognized in 1998 and
         1997, respectively.

         A payment for international patent costs was made to the Company's
         patent attorney for services to be provided in 1998 and 1999. The
         related patents have not yet been issued.


NOTE 6 - PROPERTY AND EQUIPMENT

         Property and equipment is comprised of the following as of December 31,
         1998 and 1997:

                                            1998         1997 
                                         ----------    ----------

         Equipment                       $  436,932    $  374,259
         Furniture and fixtures              52,625        52,625
         Tools and die                    1,500,492     1,196,594
         Software                            39,359        37,963
         Leasehold improvements              11,436        11,436
                                         ----------    ----------  
                 TOTAL                    2,040,844     1,672,877

         Less accumulated depreciation      790,107       530,748
                                         ----------    ---------- 
 
                 TOTAL                   $1,250,737    $1,142,129
                                         ==========    ==========

                                   

                                      F-15
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997




NOTE 7 - NOTE PAYABLE

                                                             1998       1997 
                                                           ---------  --------
                                             
         Note Payable - shareholder, collateralized
         by patents, payable in monthly
         installments of $3,738 including
         interest at 7%, due March 1999 and
         paid in full in June 1998                              -     $121,758
                                                           ---------  --------


         Total Long-Term Debt                                          121,758
         Current Portion                                        -       60,677
                                                          ---------   --------

         Long-Term Debt, Less
         Current Portion                                  $     -     $ 61,081
                                                          =========   ========


NOTE 8 - ACCOUNTS PAYABLE AND ACCRUED EXPENSES
         
         Accounts payable and accrued expenses are comprised of the following
         as of December 31, 1998 and 1997:
         
                                                 1998       1997  
                                               --------   --------
                                                                  
         Accounts payable                      $371,533   $498,747
         Accrued expenses                       281,944    421,641
                                               --------   --------
                                                                  
             TOTAL                             $653,477   $920,388
                                               ========   ======== 
         
         
NOTE 9 - INCOME TAXES
         
         The components of the provision (benefit) for income taxes for the
         years ended December 31, 1998 and 1997 are comprised of the following:
         
         
                                                   1998      1997 
                                                 ------    ------ 
              Current:                                            
                   Federal                        $   -     $   - 
                   State                                        - 
                                                      -           
                                                                  
                                                 ------    ------ 
                                                      -         -
                                                 ------    ------ 
              Deferred:                                           
                   Federal                        $   -     $   - 
                   State                              -         - 
                                                 ------    ------ 
                                                      -         - 
                                                 ======    ======  

                                      F-16
<PAGE>
 
                   SAF T LOK INCORPORATED AND SUBSIDIARIES 
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
                          DECEMBER 31, 1998 AND 1997


NOTE 9 -  INCOME TAXES (CONTINUED)

          The following table reconciles the income tax provision (benefit) at 
          the U.S. Statutory rate to that in the financial statement is as:

                                                     1998           1997   
                                                 -----------    -----------
                                                                           
                                                                           
               Benefit computed at 37%           $ 4,632,000    $ 3,433,000
               Less valuation allowance           (4,632,000)    (3,433,000)
                                                 -----------    -----------
                                                                           
               Income tax benefit                $      -       $      -   
                                                 ===========    =========== 

         The net tax effects of temporary differences between the carrying
         amount of assets and liabilities for financial reporting purposes and
         the amounts used for income tax purposes are reflected in deferred
         income taxes. Significant components of the Company's deferred tax
         asset as of December 31, 1998 is as follows:


                                                                       1998    
                                                                  ------------ 
            Benefit of net operating loss carryforwards            $ 4,632,000 
            Less valuation allowance                                (4,632,000)
                                                                  ------------ 
            Net deferred tax asset                                 $      -    
                                                                  ============  

         As of December 31, 1998, the Company had net operating loss
         carryforwards for federal income tax purposes of approximately
         $12,520,000 which are available to offset future federal taxable
         income, if any, through 2018. These carryforwards are on a consolidated
         return basis for the members of the consolidated group and, accordingly
         the loss carryforwards may have certain separate income tax return
         limitations.

         As of December 31, 1998, sufficient uncertainty exists regarding the
         realization of the full amount of these operating loss carryforwards,
         and accordingly, a valuation allowance of $4,632,000 has been
         established.
         
         The valuation allowance for deferred tax assets as of December 31, 1998
         and 1997 was $4,632,000 and $3,433,000, respectively.
         
         In accordance with certain provisions of the Tax Reform Act of 1986, a
         change in ownership of greater than 50% of a corporation within a three
         year period will place an annual limitation on the corporation's
         ability to utilize its existing tax benefit carryforwards. Due to the
         fact that such change in ownership has occurred, the Company is subject
         to this limitation and the utilization of its tax benefit carryforwards
         will be restricted in the future. In the event of subsequent changes in
         the ownership of the Company, the tax benefits may be further
         restricted.

                                      F-17
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997


NOTE 10 - COMMITMENTS, CONTINGENCIES AND OTHER MATTERS

          A) OPERATING LEASES

             In February 1996, the Company entered into a three year lease for
             its office facility. The Company is required to pay $144,000 over
             the three year period. The agreement also provides for a renewal
             option for three years beginning February 1, 1999 at a base rent
             totaling $166,830. The future minimum rental payments required
             under this operating lease through January 1999 is $4,452. The
             total rent expense charged to operations was $99,263 and $54,468
             for the years ending December 31, 1998 and 1997, respectively. The
             Company moved to new facilities in December 1998 and did not renew
             this lease.

             The Company entered into a new five year lease for its office and
             manufacturing facility commencing August 1, 1998. The Company is
             required to pay $424,132 in rent over the five year lease term,
             which includes $22,500 of annual operating expenses. The operating
             expenses are subject to adjustment based upon actual costs
             incurred.
                          
             The future minimum lease payments required under this operating
             lease are as follows:

                          Year                         Amount
                          ----                         ------
                          1999                      $  86,641
                          2000                         89,848
                          2001                         93,215
                          2002                         96,751
                          2003                         57,677
                                                    ---------
                                                    $ 424,132
                                                    =========   

          B) MAJOR CUSTOMER AND POSSIBLE LOSS THEREOF

             On February 10, 1998 the Company accepted a purchase order from an
             independent wholesaler for the purchase of $6,000,000 of the
             Company's gun locks and received a $1,000,000 advance payment. The
             wholesaler was a well established business. The Company fulfilled
             its commitment to deliver $1,000,000 of gun locks to the wholesaler
             in the first 120 days. Thereafter, the wholesaler purchased $9,680
             of product from the Company for which payment has not been
             received. No further orders were placed by the wholesaler in 1998.

             On February 11, 1998, the Company entered into a three year
             Distribution Agreement with a newly organized company (" the
             Distributor"), with no direct experience, for the purchase of
             $20,000,000 of the Company's product over a period of three years.

                                      F-18
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997
 

NOTE 10 - COMMITMENTS, CONTINGENCIES AND OTHER MATTERS (CONTINUED)

          B) MAJOR CUSTOMER AND POSSIBLE LOSS THEREOF (CONTINUED)

             The agreement provided that the first $6,000,000 of the
             wholesaler's order discussed above, would be credited to the
             distributor's obligation to fulfill the requirements of its
             $7,000,000 initial order. Neither the wholesaler nor the
             distributor have fulfilled their commitment according to the
             agreement. During 1998, the distributor purchased $477,115 of the
             Company's product for which it has not been paid. The Company has
             not achieved sales targets as originally set forth in the
             distribution agreement. These customers represented approximately
             95% of the Company's sales in 1998. This has negatively impacted
             the Company's operations.

             Under the terms of the Distribution Agreement, the distributor was
             obligated to create and place certain types of advertising for a
             total of $5,000,000 over a two year period. The Company delivered
             1,000,000 shares of its common stock valued at $3,781,000 to the
             distributor, which was to be earned by the distributor at the rate
             of one share of stock for each five dollars of advertising placed.
             The distributor pledged the stock to the Company as security for
             the distributor's obligation to place the advertising.

             In addition to and in connection with the Distribution Agreement,
             the company entered into an agreement with three companies,
             designated by the parties who were instrumental in assisting the
             Company in finding the wholesaler and the distributor. The three
             companies were granted in the aggregate, 2,000,000 warrants of
             the Company's stock at an exercise price of five dollars per share.
             (NOTE 11-G)

             The Company also entered into a commission agreement with a
             consulting company which helped the Company structure the agreement
             with the distributor. This agreement provides that the consulting
             company receive a 15% commission from the sale of the products in
             accordance with the Distribution Agreement, and a 15% fee upon the
             exercise of the 2,000,000 five dollar warrants mentioned above. To
             date the warrants have not been exercised and a liability has been
             accrued to provide for the 15% commission on the sale of product.

             The Company is presently in negotiations with the Distributor to
             terminate the Distribution Agreement and all of the related
             commission and consulting agreements.

          C) CONSULTING AGREEMENTS

             In June 1997, the Company entered into a one year marketing
             agreement which was intended to create a strategic and tactical
             marketing plan. The cost of these services was $175,000, which was
             paid for in stock, plus $2,500 per month for one year.

                                      F-19
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997


NOTE 10 - COMMITMENTS, CONTINGENCIES AND OTHER MATTERS (CONTINUED)

          C) CONSULTING AGREEMENTS (CONTINUED)

             On October 17, 1997 the Company entered into a one year Financial
             Consulting Agreement, at a fee of $250,000, with a consultant who
             was to provide a wide variety of services related to the
             management, operations and financing of the Company. The agreement
             stated that the consultant was currently working with potential
             buyers for the Company's products and would use his best efforts to
             find additional buyers. The $250,000 fee was paid in November 1997.

             On October 24, 1997 the Company entered into a one year Financial
             Public Relations Agreement, subsequently changed to a Product
             Recognition Campaign, with a marketing firm. The Financial Public
             Relations agreement would not take effect until the Regulation S
             offering was completed to three offshore companies for 1,500,000
             shares and 2,500,000 warrants in November 1997 and January 1998.
             The marketing firm was to receive compensation of $750,000 plus
             25,000 unregistered shares of the Company's common stock valued at
             $68,750. The first $375,000 was paid in November 1997, and the
             final $375,000 was paid in 1998. The 25,000 shares of stock were
             issued in March 1998. On January 1, 1998, the Company entered into
             an additional, one year, Product Recognition Campaign Agreement
             with the marketing firm, for a fee of $10,000 per month, which was
             designed to expose the Company and its product line to the general
             public and news media services. This contract was canceled in June
             1998.


         D) EMPLOYMENT AGREEMENTS

            In April 1997 the Company entered into a two year employment
            agreement with it's President, which provided in part for base
            compensation of $100,000 and discretionary pay incentives based upon
            the Company's performance. The President's employment was terminated
            in June 1998. (See Note 13)

            In May 1998 the Company entered into a one year employment agreement
            with it's Vice President of Marketing which provides in part for a
            base salary of $60,000 and various discretionary pay incentives
            based upon the Company's performance.

                                      F-20
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997


NOTE 11 - SHAREHOLDERS' EQUITY

          A) THE 1993 STOCK PLAN

             In March 1993, the Company established a stock option plan to
             enhance the ability of the Company to attract and retain qualified
             employees, consultants, officers and directors by creating
             incentives and rewards for their contributions to the success of
             the Company. An aggregate of 500,000 shares of common stock may be
             issued in the plan.

             The plan provides opportunities to purchase stock in the Company
             pursuant to options granted which qualify as incentive stock
             options (ISO's) under Section 422(b) of the Internal Revenue Code
             of 1986 and also for those which do not qualify as ISO's (non-
             qualified) options.

             The plan provides for an automatic grant of non-qualified options
             for 5,000 shares, vesting semiannually, for one year, to each non-
             employee director provided that the director is still serving as a
             director on the vesting date. In accordance with this provision,
             two directors were granted 10,000 options in 1998 and 10,000
             options in 1997 at exercise prices of $1.50 and $3.25 per share,
             respectively.

             The exercise price of all qualified options granted under the plan
             must be at least equal to the fair market value of the shares of
             common stock on the date of the grant. The exercise price for any
             participant in the qualified plan possessing more than 10% of the
             voting power of the Company's outstanding common stock must equal
             at least 110% of the fair market value on the grant date. As of
             December 31, 1998 and 1997, no shares have been issued under the
             qualified plan.

             During 1998 the Company granted 75,000 qualified stock options to
             seven employees at a market price of $1.09 per share. One employee
             was granted 10,000 non-qualified options at a market price 
             of $3.89.

          B) OTHER INDIVIDUAL NON-QUALIFIED STOCK PLANS

             The Company also grants non-qualified options to its employees,
             consultants, officer's and directors through the use of
             individually tailored stock option agreements. 

             In 1998, the Company granted 300,000 options to officers, 275,000
             options to employees, and 115,000 options to consultants, each at a
             market price of $1.09.

                                      F-21
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997



          C) SUMMARY OF STOCK PLANS

             The Company has elected to follow APB Opinion No. 25, "Accounting
             for Stock Issued to Employees," and related Interpretations in
             accounting for its employee stock options. Compensation costs to
             employees of $341,083 and $642,725 have been recognized related to
             stock options when the exercise price was below the fair market
             value of the stock at the date of grant, for the years 1998 and
             1997, respectively. If the Company had elected to account for its
             stock options under the fair value method of SFAS No. 123,
             "Accounting for Stock-Based Compensation," the Company's net loss
             and loss per common share would have been reduced to the pro forma
             amounts indicated below:


                                                     1998             1997      
                                               ------------    -------------

                      Net (Loss):
                           As reported         $ (6,066,394)   $  (5,264,606)
                           Pro forma           $ (7,499,470)   $  (6,614,730)
                                                                  
                      Basic EPS:                                  
                           As reported         $      (.48)    $       (.76)
                           Pro forma           $      (.59)    $       (.96)
                                                                  
                      Diluted EPS:                                
                           As reported         $      (.48)    $       (.76)
                           Pro forma           $      (.59)    $       (.96)



             The fair value of each option is estimated on the date of grant
             using a Black-Scholes option-pricing model with the following
             weighted average assumptions used for grants in 1998 and 1997,
             respectively:


                                                         1998      1997 
                                                       -------    ------ 

                      Dividend yield                        -          -
                      Expected volatility                 103%       232%
                      Risk-free interest rate            5.16%      5.90%
                      Expected life of stock option    7 years    4 years


             The dividend yield reflects the assumption that the current
             dividend payout will continue to be zero. The expected life of the
             options is based on an estimate, and is not necessarily indicative
             of exercise patterns that may occur. The weighted average fair
             value per option was $1.04 and $3.35 for options granted during
             1998 and 1997, respectively. A summary of the status of the
             Company's stock option plans as of December 31, and changes during
             each of the years then ended, is as follows:

                                      F-22
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 11 - SHAREHOLDERS' EQUITY (CONTINUED)

          C)  SUMMARY OF STOCK PLANS (CONTINUED)

<TABLE> 
<CAPTION> 
                                                                      1998                                    1997                  
          ---------------------------------------------------------------------------------------------------------------------
                                                                         Weighted                                Weighted
                                                                         Average                                 Average
                                                   Shares             Exercise Price       Shares             Exercise Price
          ---------------------------------------------------------------------------------------------------------------------     
<S>                                                <C>                <C>                  <C>                <C>  
          Outstanding at
            beginning of year                        4,356,137        $        2.06             1,852,500     $        2.21
          Granted                                      785,000                 1.09             3,853,637              1.81
          Exercised                                   (297,000)                1.39              (200,000)              .36
          Forfeited/Expired                         (1,256,500)                2.17            (1,150,000)             2.07   
          ---------------------------------------------------------------------------------------------------------------------
          Outstanding at
            end of year                              3,587,637                 1.55             4,356,137              2.06    
          ---------------------------------------------------------------------------------------------------------------------
          Options exercisable
            at end of year                           2,145,971                 1.77             2,222,804              1.87
          ---------------------------------------------------------------------------------------------------------------------
</TABLE> 

          The following table summarizes information about the stock options
          outstanding at December 31, 1998:

<TABLE> 
<CAPTION> 
                                                     Options Outstanding                       Options Exercisable                  
------------------------------------------------------------------------------------------------------------------------------
                                                          Weighted
                                                           Average          Weighted                           Weighted
                                           Number        Remaining           Average           Number           Average
Range of Exercise Prices                 Outstanding  Contractual Life    Exercise Price     Exercisable    Exercise Price
------------------------------------------------------------------------------------------------------------------------------
<S>                                      <C>          <C>                 <C>                <C>            <C>  
     $   .10 -  .50                        587,000              5.7       $       .42             587,000   $       .42
         .51 - 1.50                        775,000             10.0              1.10               5,000          1.50
        2.00 - 2.50                      2,152,500              3.5              2.15           1,485,834          2.21
        3.00 - 4.99                         61,137              4.6              3.40              56,137          3.37
        5.00 - 7.00                         12,000              4.5              5.83              12,000          5.83
-------------------------------------------------------------------------------------------------------------------------------
         .10 - 7.00                      3,587,637              5.2              1.55           2,145,971          1.77
-------------------------------------------------------------------------------------------------------------------------------
</TABLE> 

At December 31, 1998 there were 75,000 qualified stock options and 118,500 non
qualified stock options outstanding under the 1993 Stock Plan. There were
587,000 individual non-qualified stock options (registered through an S-8 filed
in 1997) and 2,807,137 individual non-qualified stock options (unregistered)
outstanding at the end of December 31, 1998.
At December 31, 1997 there were 415,000 non-qualified stock options outstanding
under the 1993 Stock Plan. There were 724,000 individual non-qualified stock
options (registered through an S-8 filed in 1997) and 3,267,137 individual non-
qualified stock options (unregistered) outstanding at the end of December 31,
1997.

                                      F-23
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 11 - SHAREHOLDERS' EQUITY (CONTINUED)
          
          D)   STOCK ISSUANCES

               On August 1, 1997 the Company executed the first of three
               Offshore Subscription Agreements offering to sell up to
               $2,000,000 aggregate principal amount of its convertible
               debentures in minimum denominations of $1,000. The offer and sale
               of the debentures was effected in accordance with and in reliance
               on the provisions of Regulation S promulgated under the
               Securities Act of 1933, as amended (the "Act"). The debentures
               had a term of five years with 8% interest per annum, payable with
               the Company's common stock at the time of conversion.

               Conversion rights began with the 41st day after issuance of the
               debentures into shares of the Company's common stock at a
               conversion price of 70% of the average closing bid price of the
               Company's common stock during the last five days prior to the
               effective date of the conversion. Further, beginning 90 days
               after the issuance of the debentures, holders of an aggregate of
               at least 25% of the outstanding principal amount of the
               debentures, or of at least 30% of the shares of common stock into
               which the debentures were convertible, were entitled to a one
               time demand registration right for such common stock at the
               expense of the Company and would also have unlimited piggyback
               registration rights for a period of three years after such
               issuance.

               Cash proceeds received from the sale of debentures in 1997
               totaled $705,000. The 30% discount of $302,143 was recorded as
               interest expense in 1997 and increases the capital related to the
               conversion to 2,147,247 common shares of stock.

               In May 1997 the Company issued 30,000 shares of common stock to
               two employees in connection with an employment severance
               agreement.

               Effective March 31, 1997 the Company issued 76,509 shares of
               common stock to the Chairman of the Board in exchange for the
               cancellation of a $150,000 loan made to the Company in the first
               quarter of 1997.

               In April 1997 the Company issued 25,503 shares of common stock to
               the Chairman of the Board in exchange for the cancellation of a
               $50,000 loan made to the Company in April 1997.

               In April 1997 the company issued 75,903 shares of common stock at
               $2.60 per share to a lock assembly contractor as payment for
               assembly services and tooling charges and stock registration
               costs.

               In September 1997 the Company issued 93,583 shares of common
               stock in payment of ongoing marketing and advertising services.
               The value of this service contract is $175,000.

                                      F-24
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 11 - SHAREHOLDERS' EQUITY (CONTINUED)

          D)   STOCK ISSUANCES (CONTINUED)

               In April 1997 the Company sold 115,385 shares of common stock to
               a single offshore investor. The aggregate sum paid in cash for
               the shares was $150,000. There was no underwriter in connection
               with this sale and no discounts or commission were paid in
               connection with the sale.

               In May 1997 the Company sold 163,846 shares of common stock to
               two offshore investors. The aggregate sum paid in cash for the
               shares was $200,000. There was no underwriter in connection with
               this sale and no discounts or commissions were paid in connection
               with the sale.

               In June 1997 the Company sold 153,846 shares of common stock to a
               single offshore investor. The aggregate sum paid in cash for the
               shares was $200,000. There was no underwriter in connection with
               this sale and no discounts or commissions were paid in connection
               with the sale.

               In November 1997 the Company sold 1,250,000 shares of common
               stock and 2,083,333 stock purchase warrants to three offshore
               investors. The warrants grant the right to purchase 2,083,333
               shares of the Company's common stock; 1,666,666 shares at an
               exercise price of $2.00 per share and 416,667 at an exercise
               price of $3.00 per share. The warrants expire in two years. The
               aggregate sum paid in cash for the shares and stock purchase
               warrants was $2,500,000. During 1998 the $2.00 warrants were
               exercised (NOTE 11-G). The balance of the stock and proceeds from
               the sale were held in escrow until January 1998.

               In connection with the placement of this sale of common stock and
               stock purchase warrants, an agent was paid a fee of 13.5% of the
               sales price of the common stock sold to the investors and $60,000
               for legal fees. The placement agent will receive a fee of 13.5%
               of the sales price of the stock underlying the warrants when the
               warrants are exercised.

               In October 1997 the Company's president exercised 200,000
               options, of which 72,000 were granted with an option price of
               $0.10 and 128,000 were granted with an option price of $0.50.

               On January 20, 1998 the Company issued 416,667 warrants in
               connection with the purchase of 250,000 shares of the Company's
               common stock from three offshore investors. The aggregate sum
               paid in cash for the shares and stock purchase warrants was
               $500,000. The warrants grant the right to purchase 333,334 shares
               at an exercise price of $2.00 per share and 83,333 shares at an
               exercise price of $3.00 per share. The warrants expire in two
               years.

               During 1998, two consultants exercised options to purchase
               160,000 shares of the Company's common stock at $2.50 per share.

                                      F-25
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 11 - SHAREHOLDERS' EQUITY (CONTINUED)

          D)   STOCK ISSUANCES (CONTINUED)

               In March 1998, one employee/director exercised options to
               purchase 108,000 shares of the Company's common stock at $.10 per
               share.

               In March 1998, one employee exercised options to purchase 29,000
               shares of the Company's common stock at $.10 per share.

               In March 1998, the Company issued 25,000 shares of common stock
               valued at $2.75 per share to a Financial Public Relations firm 
               in connection with services rendered pursuant to a marketing
               agreement.

               In May and July 1998, the Company issued a total of 2,000,000
               shares of stock in connection with the exercise of $2.00 warrants
               by three offshore investors.

               Pursuant to the February 11, 1998 Distribution Agreement (Note
               10), the distributor is obligated to create and place advertising
               totaling $5,000,000. The Company has issued 1,000,000 shares of
               its common stock in connection with the Distribution Agreement
               which has been pledged by the distributor as security for the
               obligation to place the advertising. As the distributor fulfills
               its obligation, the Company will release the pledged shares at
               the rate of one share for each five dollars of advertising
               placed. The company places a value on the services to be rendered
               of $3,781,000 using the latest trade price of the stock on the
               day before the agreement was signed.

               In June 1998, the Company issued 50,880 shares of stock in
               satisfaction of rent due to a landlord. The amount of the payable
               to the landlord at December 31, 1997 was $46,640. January 1998
               rent of $4,240 was paid as part of this transaction.

          E)   PAID IN CAPITAL

               Non-employee consultants were granted 400,000 options in January
               1997 at an exercise price of $2.50 which was $.50 per share lower
               than the fair market value at the date of grant. The value of
               these options was computed using the Black-Scholes option pricing
               model which resulted in the recognition of consulting expense and
               paid in capital of $882,956 in 1997.

               Non-employee consultants were granted 412,500 options in April
               1997 at an exercise price of $2.50 which was $1.00 per share
               lower than the fair market value at the date of grant. The value
               of these options was computed using the Black-Scholes option
               pricing model which resulted in the recognition of consulting
               expense and paid in capital of $910,701.

               In August 1997 two officers and two board members were granted
               324,000 stock options with an exercise price of $0.10 which was
               $0.93 per share lower than the fair market value at the date of
               grant. Compensation expense of $301,644 was recorded

                                      F-26
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 11 - SHAREHOLDERS' EQUITY (CONTINUED)

          E)   PAID IN CAPITAL (CONTINUED)

               for the below market value difference in accordance with APB
               Opinion #25. This amount was also recorded as paid in capital.

               In 1997 Company officers and board members waived salary amounts
               which had been accrued for the year 1996. As a result, $122,184
               has been classified to paid in capital.

               In 1997 officers and board members waived $193,525 of salary
               which has been reflected as compensation and paid in capital.

          F)   DEFERRED COMPENSATION

               In October 1997 two new board members were granted 500,000 stock
               options with an exercise price of $2.00 which was $1.25 per share
               lower than the fair market value at the date of grant. The
               options vested one third in the year of grant and will be fully
               vested over a three year period. In 1998 and 1997, compensation
               expense of $208,333 per year was recorded for the vested portion
               of the below market difference in accordance with APB Opinion
               #25. This amount was also recorded as amortized deferred
               compensation. The entire non vested portion of compensation has
               been recorded as deferred compensation (a contra-equity account),
               in the year of grant. For purposes of FASB #123 disclosure, the
               fair value of the 500,000 options using the Black-Scholes option
               pricing model is $1,598,941. This fair value has been ratably
               recognized over the vesting period for disclosure purposes.

               In December 1997 the Chairman of the Board was granted 1,000,000
               stock options at an exercise price of $2.00 which was $.5310 per
               share lower than the fair market value of the stock at the date
               of grant. The options vest over a four year period beginning in
               1997, provided the Chairman continuously serves as a member of
               the Board of Directors and that the patented inventions continue
               to be assigned to the Company. In 1998 and 1997, compensation
               expense of $132,750 per year was recorded for the vested portion
               of the below market value difference in accordance with APB
               Opinion #25. This amount was also recorded as amortized deferred
               compensation. The entire non vested portion of compensation has
               been recorded as deferred compensation (a contra-equity account),
               in the year of grant. For purposes of FASB #123 disclosure, the
               fair value of the 1,000,000 options using the Black-Scholes
               option pricing model is $2,490,318. This fair value has been
               ratably recognized over the vesting period for disclosure
               purposes.

                                      F-27
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

               In December 1997 the President was granted 450,000 stock options
               at an exercise price of $2.00 which was $.5310 per share lower
               than the fair market value of the stock at the date of grant.
               Options for 150,000 shares vest on December 31, 1998 and options
               for 300,000 shares vest on December 31, 2001, provided the
               President is continuously in employment with the Company as of
               each vesting date. The 300,000 options may vest earlier based
               upon performance levels established by the Board of Directors. If
               the net after tax profits for 1999 exceed $1,000,000 or
               $1,500,000 then 50,000 shares or 100,000 shares will vest,
               respectively. If the net after tax profits for the year 2000
               exceed $1,500,000 or $2,000,000 then 100,000 shares or 150,000
               shares will vest, respectively. The entire non vested portion of
               the below market value difference has been recorded as deferred
               compensation (a contra equity account), in the year of grant. For
               purposes of FASB #123 disclosure, the fair value of the 450,000
               options using the Black-Scholes option pricing model is
               $1,245,159. In April 1998, the president's employment with the
               company terminated. The previously recorded deferred compensation
               of $265,500 relative to APB Opinion # 25 has been reversed in
               1998 as these options have been forfeited.

          G)   WARRANTS

               Prior to 1996, the Company issued warrants to Barington Capital
               Group, L.P., the Company's underwriter in its initial public
               offering, to purchase 120,000 shares of the Company's common
               stock at an exercise price of $11.20. These warrants expired in
               1998.

               On August 1, 1997 the Company executed the first of three
               Offshore Subscription Agreements offering to sell up to
               $2,000,000 aggregate principal amount of its convertible
               debentures in minimum denominations of $1,000. In connection with
               the placement of this sale, the Company paid a cash commission of
               10% of the offering price, a 3% non-accountable expense
               allowance, stock purchase warrants for shares of common stock
               equal to 10% of the aggregate number of shares received by the
               holder's of the debentures (214,725 warrants) at an exercise
               price equal to 120% of the conversion price per share calculated
               for each instance in which the conversion of a debenture took
               place. The average exercise price for each warrant is $.396. The
               fair market value of the warrants calculated using the Black-
               Scholes option pricing model is $293,961.

               In November 1997 the Company issued 2,083,333 stock purchase
               warrants to three offshore investors in connection with the
               purchase of 1,250,000 shares of common stock. The warrants grant
               the right to purchase 2,083,333 shares of the Company's common
               stock; 1,666,666 shares at an exercise price of $2.00 per share
               and 416,667 at an exercise price of $3.00 per share. The warrants
               expire in two years. The two dollars warrants referred to herein,
               were all exercised in 1998.

                                      F-28
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 11 - SHAREHOLDERS' EQUITY (CONTINUED)

          G)   WARRANTS (CONTINUED)

               On January 20, 1998 the Company issued 416,667 warrants in
               connection with the purchase of 250,000 shares of the Company's
               common stock from three offshore investors. The warrants grant
               the right to purchase 416,667 shares of the Company's common
               stock (333,334 shares at an exercise price of $2.00 per share and
               83,333 at an exercise price of $3.00 per share). The warrants
               expire in two years. The two dollar warrants referred to herein,
               were all exercised in 1998.

               In connection with the exercise of the 2,000,000 two dollar
               warrants, a 13.5% fee was paid to the original placement agent of
               $540,000. A fee of $375,000 was paid to partially satisfy the
               remaining balance of the $750,000 Financial Public Relations
               agreement which was a required obligation of the Company upon
               sale of the original 1,250,000 shares. After legal fees of
               $74,000 were deducted, the net proceeds were $3,011,000.

               In connection with the Distribution Agreement, on February 11,
               1998 the Company entered into an agreement with three
               unaffiliated companies, granting them stock purchase warrants for
               an aggregate total of 2,000,000 shares of common stock with an
               exercise price of $5.00 per share and a term of five years. These
               companies were instrumental in assisting the Company in finding
               the Wholesaler and the Distributor. The value of these 2,000,000
               warrants was computed using the Black-Scholes option pricing
               model which resulted in the recognition of $1,884,000 of
               commission expense in 1998.

                    A summary of the status of the Company's warrant activity
               is as follows:

<TABLE> 
<CAPTION> 
                                                                           1998                          1997 
----------------------------------------------------------------------------------------------------------------------------
                                                                              Weighted                      Weighted
                                                                              Average                       Average
                                                          Shares           Exercise Price    Shares      Exercise Price
----------------------------------------------------------------------------------------------------------------------------
<S>                                                       <C>              <C>               <C>         <C> 
          Outstanding at
            beginning of year                              2,418,058       $      2.49         120,000   $     11.20
          Granted                                          2,416,667              4.52       2,298,058          2.03
          Exercised                                       (2,000,000)             2.00              --            --
          Forfeited/Expired                                 (120,000)            11.20              --            --   
----------------------------------------------------------------------------------------------------------------------------
          Outstanding at
           end of year                                     2,714,725              4.27       2,418,058          2.49
----------------------------------------------------------------------------------------------------------------------------
          Warrants
           exercisable
           end of year                                     2,714,725              4.27       2,418,058          2.49
----------------------------------------------------------------------------------------------------------------------------
</TABLE> 

                                      F-29
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 11 - SHAREHOLDERS' EQUITY (CONTINUED)

          F)   WARRANTS (CONTINUED)


          The following table summarizes information about the warrants
          outstanding as of December 31, 1998:

<TABLE> 
<CAPTION> 
                                                                              

                                                       Warrants Outstanding                                 Warrants Exercisable    

                                                            Weighted
                                                             Average          Weighted                           Weighted
                                           Number          Remaining           Average           Number           Average
     Range of Exercise Prices            Outstanding    Contractual Life     Exercise Price    Exercisable      Exercise Price
     ------------------------------------------------------------------------------------------------------------------------------
     <S>                                 <C>           <C>                   <C>               <C>          <C> 
     $   .40 or less                       214,725              3.5          $         .396       214,725   $         .396
        2.00  -2.99                              -                -                       -             -                -
        3.00  -4.99                        500,000              1.0                    3.00       500,000             3.00
        5.00  -                          2,000,000              4.2                    5.00     2,000,000             5.00
     ------------------------------------------------------------------------------------------------------------------------------
         .40  -5.00                      2,714,725             3.57                    4.27     2,714,725             4.27
     ------------------------------------------------------------------------------------------------------------------------------
</TABLE> 

NOTE 12 - EARNINGS (LOSS) PER COMMON SHARE

          The Company adopted Statement of Financial Accounting Standards (SFAS)
          No. 128, "Earnings per Share," effective for the year ended December
          31, 1997. SFAS No. 128 requires the presentation of basic and diluted
          earnings per common share ("EPS") in the statement of operations.
          Under the new requirements, basic EPS is computed using the average
          actual shares outstanding during the period. Diluted EPS, which is
          basic EPS adjusted for the dilutive effect of stock options and other
          securities that may be converted into common shares, is not presented
          as the effects would be antidilutive. The following is a
          reconciliation of the numerators and denominators of the basic and
          diluted EPS computations:

<TABLE> 
<CAPTION> 
                                                                                       1998                1997     
                                                                               ---------------       ---------------
          <S>                                                                  <C>                   <C>  
          Numerator:

          Net (Loss)                                                           $    (6,066,394)      $    (5,264,606)
          Numerator for basic EPS                                                   (6,066,394)           (5,264,606)
          Effect of dilutive securities:                                                     -                     -    
                                                                               ---------------       ---------------
          Numerator for diluted EPS                                            $    (6,066,394)      $    (5,264,606)
                                                                               ---------------       --------------- 
          Denominator:
          Denominator for basic EPS
            weighted-average shares                                                 12,619,241             6,920,820
          Effect of dilutive securities:
            Stock Options                                                                    -                     -
            Warrants                                                                         -                     - 
            Potentially dilutive common shares                                               -                     -    
                                                                               ---------------       ---------------
          Denominator for diluted EPS                                               12,619,241             6,920,820
                                                                               ---------------       ---------------
          Basic EPS                                                            $          (.48)      $          (.76)
                                                                               ---------------       ---------------
          Diluted EPS                                                          $          (.48)      $          (.76)
                                                                               ---------------       --------------- 
</TABLE> 

                                      F-30
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 13 - LITIGATION

          The Company and the current Chairman of the Board are being sued by a
          former Chief Executive Officer, who was hired and terminated in 1996.
          The basis of the suit is for libel and slander arising from her
          appointment and termination. The Company is being represented by its
          Insurance Company. The case is in its final stages and the Company
          does not anticipate a material effect on the financial statements.

          The Company has been named as a defendant, along with the current
          President and Chief Executive Officer and the former President and
          Chief Executive Officer, in three lawsuits commenced in the United
          States District Court for the Southern District of Florida between
          June and August 1998. The three suits, each denominated as a class
          action, allege violations of the federal securities laws and, more
          specifically, that the Company and its officers made
          misrepresentations, or failed to disclose material information between
          May 26, 1998 and June 12, 1998 concerning a development agreement
          allegedly entered into with Semiconductor Laser International
          Corporation and a highly favorable research report issued by Woodward
          Trading Company. The Company has, consistent with its Articles of
          Incorporation and Florida law, provided indemnification to it's
          officers. Although insurance coverage exists for defense costs and any
          eventual liability, the coverage is limited and is subject to a
          retention of $250,000. The lawsuits have been consolidated and the
          plaintiffs, who have applied to the Court to certify the matter as a
          class action, have indicated they intend to file a new complaint
          shortly. At this very preliminary stage of the proceedings, legal
          counsel is unable to say that any particular outcome is either
          probable or remote.

          The former President and Chief Executive Officer of the Company
          commenced an action in the Florida State Court in October 1998 against
          the Company and its current President and Chief Executive Officer. The
          lawsuit challenges the former President's termination under the terms
          of his Employment Agreement and the Company's decision to block his
          attempt to exercise options and sell stock in the Company while in the
          possession of material non-public information. It also alleges that
          he, the former President, is entitled to salary and all of his vested
          and nonvested options through the remainder of his employment period.
          He also claims he was libeled. This matter is still in the pleading
          stages and the Company intends to assert numerous counterclaims
          against the former President in it's response. At this preliminary
          stage in the litigation, legal counsel is unable to say that any
          particular outcome is either probable or remote.

          On May 29, 1998, the Company was informed that the Securities and
          Exchange Commission's Division of Enforcement (the "SEC") had begun an
          informal investigation into whether the Company had violated relevant
          laws, rules or regulations with regard to its publicly traded
          securities, and requested that the Company voluntarily produce
          documents for the period beginning January 1, 1996 through present.
          The Company has complied with the SEC's initial and subsequent
          requests to produce documents, choosing not to claim privilege or
          withhold any requested information in its possession. On February 18,
          1999, the President and Chief Executive Officer testified before the
          SEC pursuant to a subpoena. At that time, the SEC made available to
          the Company its formal Order Directing Private Investigation and
          Designating Officers to Take Testimony.

                                      F-31
<PAGE>
 
                    SAF T LOK INCORPORATED AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                          DECEMBER 31, 1998 AND 1997

NOTE 13 - LITIGATION (CONTINUED)

          Legal counsel has indicated that it is too early to speculate what
          the outcome of this investigation or the potential impact on the
          Company will be. No action or litigation has been instituted.

NOTE 14 - SUBSEQUENT EVENTS

          On January 5, 1999, one officer/employee and one employee, exercised
          115,000 ten cent stock options. The gross proceeds to the Company was
          $11,500.

          On January 18, 1999 two officers/employees and one employee forfeited
          all present and future claims to 30,000 options granted to them in
          1996 at an exercise price of $3.06 per share.

          On January 29, 1999 the Company filed a Registration Statement on Form
          S-8 with the Securities and Exchange Commission, registering 2,802,000
          previously granted, non-qualified stock options of directors,
          officer's, consultants and employees.

          On February 16, 1999, pursuant to an agreement ratified by the board
          of directors on January 20, 1999, the Company issued 25,000 shares of
          it's common stock to two marketing consultants to begin the creation
          of a business plan and to commence a search to secure financing. An
          additional 25,000 shares will be issued to the marketing consultants
          upon receipt by the Company of a bonafide $2,000,000 equity financing
          agreement. Once funds are received, the marketing consultants will
          receive 5% of the gross proceeds as a commission and the Company will
          approve an expenditure to continue with a marketing plan in the amount
          of $250,000 of which 20% will be paid in cash over a twelve month
          period, and 80% in the form of the Company's common stock.

                                      F-32