**UNITED
STATES**


**SECURITIES
AND EXCHANGE COMMISSION**


**Washington,
D.C. 20549**





**FORM
10-QSB**





[X]
    Quarterly
      report pursuant to section 13 or 15(d) of the Securities Exchange Act of
      1934.**For
      the quarterly period ending March 31, 2005****.**or[
      ]
    Transition
      report pursuant to Section 13 or 15(d) of the Securities Exchange Act of
      1934. For the transition period from _____to_____.Commission
      file number 000-25839








**IMPLANT
SCIENCES CORPORATION**


(Exact
name of registrant as specified in its charter)








**Massachusetts**
    
    **04-2837126**(State
      or other jurisdiction
      of
      incorporation or organization)
    
    (IRS
      Employer
      Identification
      number)107
      Audubon Road, #5
    
    Wakefield,
      MA 01880




781-246-0700
 (Issuers
telephone number)
 
 **Not
Applicable**
 (Former
name, former address and former fiscal year, if changed since last
report.)


Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 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 o





Indicate
the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:





Class
    Outstanding
      at April 30, 2005Common
      Stock, $.10 par value
    10,711,645





Transitional
small business disclosure format (check one):


YES o NO x










****


**IMPLANT
SCIENCES CORPORATION**





**INDEX**




Page
      No.PART
      I. FINANCIAL INFORMATIONItem 1.
    Financial Statements:Condensed Consolidated Balance Sheets as of March 31, 2005
      (unaudited) and June 30, 2004
    2Condensed Consolidated Statements of Operations for the
      Three and Nine Months Ended March 31, 2005 and 2004
      (unaudited)
    3Condensed Consolidated Statements of Cash Flows for the
      Nine Months Ended March 31, 2005 and 2004 (unaudited)
    4Notes to Condensed Consolidated Financial Statements
      (unaudited)
    7Item 2.
    Management's
      Discussion and Analysis of Financial Conditionand
      Results of Operations
    19Item 3.
    Controls and Procedures
    27PART
      II. OTHER INFORMATIONItem 1.
    Legal Proceedings
    28Item 2.
    Changes in Securities and Use of
      Proceeds
    28Item 3.
    Defaults Upon Senior Securities
    28Item 4.
    Submission of Matters to a Vote of
      Security-Holders
    28Item 5.
    Other Information
    28Item 6.
    Exhibits and Reports on Form 8-K
    28Signatures
    29


1





**IMPLANT SCIENCES CORPORATION**


**CONDENSED
CONSOLIDATED BALANCE SHEETS**





**March
      31,**
    
    **June
      30,****2005**
    
    **2004**Assets:
    
    (Unaudited)Current
      assets:Cash
      and cash equivalents
    
    $
    2,047,000
    
    $
    6,906,000Accounts
      receivable, less allowance of $215,000 and$142,000
      respectively
    
    
    2,656,000
    
    
    709,000Accounts
      receivable, unbilled
    
    
    472,000
    
    
    1,434,000Inventories
    
    
    920,000
    
    
    481,000Investments
      - available for sale securities
    
    
    215,000
    
    
    419,000Prepaid
      expenses and other current assets
    
    
    305,000
    
    
    140,000Total
      current assets
    
    
    6,615,000
    
    
    10,089,000Property
      and equipment, net
    
    
    11,345,000
    
    
    4,308,000Goodwill
    
    
    13,297,000
    
    
    -Amortizable
      intangible assets, net
    
    
    1,382,000
    
    
    625,000Deferred
      tax asset
    
    
    816,000
    
    
    -Investment
      in unconsolidated subsidiary
    
    
    529,000
    
    
    63,000Other
      non-current assets
    
    
    229,000
    
    
    139,000Total
      assets
    
    $
    34,213,000
    
    $
    15,224,000**LIABILITIES
      AND STOCKHOLDERS' EQUITY**Current
      liabilities:Accounts
      payable
    
    $
    1,529,000
    
    $
    578,000Accrued
      expenses
    
    
    2,482,000
    
    
    740,000Payable
      to Med-Tec
    
    
    348,000
    
    
    394,000Current
      maturities of long-term debt and obligations undercapital
      lease
    
    
    2,067,000
    
    
    101,000Deferred
      revenue
    
    
    112,000
    
    
    23,000Total
      current liabilities
    
    
    6,538,000
    
    
    1,836,000Long-term
      liabilities:Deferred
      tax liability
    
    
    816,000
    
    
    -Long
      term lease liability
    
    
    795,000Payable
      to Med-Tec, net of current maturities
    
    
    -
    
    
    212,000Long-term
      debt and obligations under capital lease, net of current
      maturities
    
    
    993,000
    
    
    6,000Total
      liabilities
    
    
    9,142,000
    
    
    2,054,000Convertible
      preferred stock: 5,000,000 shares authorized5%
      Series C Cumulative Redeemable Convertible Preferred Stock; $10 stated
      value; 250,000 shares designated; 131,875 issued and outstanding in 2004
    
    
    -
    
    
    670,000Stockholders'
      equity:Common
      stock, $0.10 par value; 20,000,000 shares authorized;10,785,445
      and 8,370,338 shares outstanding, respectively
    
    
    1,070,000
    
    
    837,000Treasury
      Stock, 22,449 and 3,103 common shares, repectively, at
cost
    
    
    (217,000
    )
    
    (34,000
    )Additional
      paid-in capital
    
    
    50,934,000
    
    
    31,360,000Accumulated
      deficit
    
    
    (26,196,000
    )
    
    (19,527,000
    )Deferred
      compensation
    
    
    (517,000
    )
    
    (449,000
    )Accumulated
      other comprehensive income
    
    
    (3,000
    )
    
    313,000Total
      stockholders' equity
    
    
    25,071,000
    
    
    12,500,000Total
      liabilities and stockholders' equity
    
    $
    34,213,000
    
    $
    15,224,000


The
accompanying notes are an integral part of these condensed consolidated
financial statements.


2





**IMPLANT SCIENCES CORPORATION**


**CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS**


**(Unaudited)**





**Three
      Months Ended**
    
    **Nine
      Months Ended****March
      31,**
    
    **March
      31,****2005**
    
    **2004**
    
    **2005**
    
    **2004**Revenues:Medical
    
    $
    1,083,000
    
    $
    1,494,000
    
    $
    2,976,000
    
    $
    3,860,000Semiconductor
    
    
    1,604,000
    
    
    310,000
    
    
    3,226,000
    
    
    838,000Explosives
      detection
    
    
    175,000
    
    
    831,000
    
    
    1,475,000
    
    
    1,462,000Total
      revenues
    
    
    2,862,000
    
    
    2,635,000
    
    
    7,677,000
    
    
    6,160,000Costs
      and expenses:Cost
      of medical revenue
    
    
    787,000
    
    
    1,050,000
    
    
    2,586,000
    
    
    2,863,000Cost
      of semiconductor revenue
    
    
    1,613,000
    
    
    422,000
    
    
    3,520,000
    
    
    970,000Cost
      of explosives detection revenue
    
    
    481,000
    
    
    396,000
    
    
    1,561,000
    
    
    714,000Total
      costs and expenses
    
    
    2,881,000
    
    
    1,868,000
    
    
    7,667,000
    
    
    4,547,000Gross
      margin
    
    
    (19,000
    )
    
    767,000
    
    
    10,000
    
    
    1,613,000Operating
      expenses:Research
      and development
    
    
    715,000
    
    
    418,000
    
    
    1,566,000
    
    
    1,299,000Selling,
      general and administrative
    
    
    1,464,000
    
    
    1,156,000
    
    
    3,811,000
    
    
    2,905,000Total
      operating expenses
    
    
    2,179,000
    
    
    1,574,000
    
    
    5,377,000
    
    
    4,204,000Loss
      from operations
    
    
    (2,198,000
    )
    
    (807,000
    )
    
    (5,367,000
    )
    
    (2,591,000
    )Other
      income (expense):Interest
      income
    
    
    6,000
    
    
    6,000
    
    
    37,000
    
    
    14,000Interest
      expense
    
    
    (35,000
    )
    
    (33,000
    )
    
    (82,000
    )
    
    (111,000
    )Loss
      on sale of capital asset
    
    
    -
    
    
    -
    
    
    (6,000
    )
    
    -Equity
      losses in unconsolidated subsidiaries
    
    
    (40,000
    )
    
    (5,000
    )
    
    (68,000
    )
    
    (12,000
    )Total
      other expense, net
    
    
    (69,000
    )
    
    (32,000
    )
    
    (119,000
    )
    
    (109,000
    )Net
      loss
    
    
    (2,267,000
    )
    
    (839,000
    )
    
    (5,486,000
    )
    
    (2,700,000
    )Preferred
      distribution, dividends and accretion
    
    
    (615,000
    )
    
    (1,227,000
    )
    
    (1,182,000
    )
    
    (2,201,000
    )Net
      loss applicable to common shareholders
    
    $
    (2,882,000
    )
    $
    (2,066,000
    )
    $
    (6,668,000
    )
    $
    (4,901,000
    )Net
      loss per share applicable to common shareholders
    
    $
    (0.30
    )
    $
    (0.27
    )
    $
    (0.74
    )
    $
    (0.69
    )Weighted
      average common shares outstanding, basic and diluted
    
    
    9,618,367
    
    
    7,447,253
    
    
    8,989,237
    
    
    7,090,465






The
accompanying notes are an integral part of these condensed consolidated
financial statements.


3


****


**IMPLANT SCIENCES CORPORATION**


**CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS**
 **(Unaudited)**
 
 **Nine
      Months Ended****March
      31,****Cash
      flows from operating activities**
    
    **2005**
    
    **2004**Net
      loss
    
    $
    (5,486,000
    )
    $
    (2,700,000
    )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Depreciation
      and amortization
    
    
    1,289,000
    
    
    914,000Stock-based
      compensation expense
    
    
    318,000
    
    
    898,000Equity
      in loss in unconsolidated subsidiary
    
    
    68,000
    
    
    12,000Loss
      on sale of equipment
    
    
    6,000
    
    
    -Changes
      in operating assets and liabilities, net of acquisitions:Accounts
      receivable
    
    
    537,000
    
    
    (711,000
    )Inventories
    
    
    (265,000
    )
    
    19,000Prepaid
      and other current assets
    
    
    (22,000
    )
    
    (109,000
    )Accounts
      payable
    
    
    (268,000
    )
    
    (147,000
    )Accrued
      expenses
    
    
    1,176,000
    
    
    38,000Net
      cash used in operating activities
    
    
    (2,647,000
    )
    
    (1,786,000
    )**Cash
      flows from investing activities**Purchase
      of property and equipment
    
    
    (635,000
    )
    
    (194,000
    )Proceeds
      from sale of equipment
    
    
    1,400,000Investment
      in for sale securities
    
    
    (25,000
    )
    
    (40,000
    )Cash
      used for the acquisition of Core Systems, net of cash
    received
    
    
    (2,603,000
    )
    
    -Cash
      used for the acquisition of Accurel, net of cash received
    
    
    (6,978,000
    )Other
      non-current assets
    
    
    23,000
    
    
    (56,000
    )Net
      cash used in investing activities
    
    
    (8,818,000
    )
    
    (290,000
    )**Cash
      flows from financing activities**Proceeds
      from exercise of stock options and purchases from Employee Stock
      plan
    
    
    867,000
    
    
    -Proceeds
      from issuance of Series A preferred stock, net of issuance
      costs
    
    
    -
    
    
    593,000Proceeds
      from issuance of Series B preferred stock, net of issuance
      costs
    
    
    -
    
    
    1,818,000Proceeds
      from issuance of Series C preferred stock, net of issuance
      costs
    
    
    -
    
    
    2,289,000Proceeds
      from issuance of common stock in a private placement net of issuance
      cost
    
    
    7,408,000
    
    
    358,000Proceeds
      from warrant exercises
    
    
    141,000
    
    
    -Acquisition
      of treasury stock
    
    
    (54,000
    )
    
    -Repayment
      of long-term lease liability
    
    
    (5,000
    )
    
    -Repayments
      of long-term debt and capital lease obligations
    
    
    (651,000
    )
    
    (312,000
    )Payments
      received from notes
    
    
    
    
    
    85,000Repayments
      of equipment financing
    
    
    (1,100,000
    )
    
    (886,000
    )Net
      cash provided by financing activities
    
    
    6,606,000
    
    
    3,945,000Net
      increase (decrease) in cash and cash equivalents
    
    
    (4,859,000
    )
    
    1,869,000Cash
      and cash equivalents, beginning
    
    
    6,906,000
    
    
    959,000Cash
      and cash equivalents, ending
    
    $
    2,047,000
    
    $
    2,828,000
  
 The
accompanying notes are an integral part of these condensed consolidated
financial statements.


4


**Nine Months
      Ended****March
      31,****2005**
    
    **2004****Supplemental
      Disclosure of Cash Flow Information:**Interest
      paid in cash
    
    $
    46,000
    
    $
    65,000**Noncash
      Investing and Financing Activity:**Issuance
      of Series B warrants
    
    $
    -
    
    $
    184,000Noncash
      beneficial conversion feature - Series B
    
    $
    -
    
    $
    826,000Issuance
      of Series C warrants
    
    $
    -
    
    $
    305,000Noncash
      beneficial conversion feature - Series C
    
    $
    -
    
    $
    700,000Conversion
      of Series A Cumulative Convertible Preferred stockand
      accrued dividends into common stock
    
    $
    -
    
    $
    1,500,000Conversion
      of Series B Cumulative Convertible Preferred stockand
      accrued dividends into common stock
    
    $
    -
    
    $
    2,000,000Conversion
      of Series C Cumulative Convertible Preferred stockand
      accrued dividends into common stock
    
    $
    1,406,000
    
    $
    -Value
      of amortizable intangible asset acquired inexchange
      for long term note payable
    
    $
    -
    
    $
    1,007,000Accretion
      of 7% Series A Cumulative Convertible Preferresd Stockdividends,
      beneficial conversion feature and warrants
    
    $
    -
    
    $
    556,000Accretion
      of 5% Series B Cumulative Convertible Preferred Stockdividends,
      beneficial conversion feature and warrants
    
    $
    -
    
    $
    1,254,000Accretion
      of 5% Series C Cumulative Convertible Preferred Stockdividends,
      beneficial conversion feature and warrants
    
    $
    704,000
    
    $
    336,000Value
      of non-cash investment in CorNova
    
    
    
    
    $
    113,000Value
      of IPO warrant extension
    
    $
    479,000**On
      October 15, 2004, the Company acquired Core Systems Incorporated
      -****Fair
      value of assets:**Accounts
      receivable
    
    $
    450,000Inventory
    
    
    174,000Property,
      plant and equipment
    
    
    3,422,000Other
      intangible assets
    
    
    75,000Goodwill
    
    
    4,973,000Other
      assets
    
    
    74,000**Liabilities
      assumed:**Accounts
      payable and accrued expenses
    
    
    (1,062,000
    )Debt
      and capital leases
    
    
    (621,000
    )**Purchase
      price:**Cash
      paid for purchase of Core Systems, net of cash acquired
    
    
    (2,603,000
    )Fair
      value of warrants issued
    
    
    (1,122,000
    )Fair
      value of common stock issued
    
    $
    3,760,000
 The
accompanying notes are an integral part of these condensed consolidated
financial statements.





5




**On March 9, 2005, the Companyacquired Accurel Systems
      International Corporation -****Fair
      value of assets:**Accounts
      receivable
    
    $
    1,073,000Property,
      plant and equipment
    
    
    3,957,000Assets
      held for sale
    
    
    1,400,000Other
      intangible assets
    
    
    1,000,000Goodwill
    
    
    8,050,000Other
      assets
    
    
    182,000**Liabilities
      assumed:**Accounts
      payable and accrued expenses
    
    
    (555,000
    )Long
      term lease liability
    
    
    (800,000
    )Debt
      and capital leases
    
    
    (2,433,000
    )**Purchase
      price:**Debt
      issued to selling shareholders
    
    
    (1,650,000
    )Cash
      paid for purchase of Accurel, net of cash acquired
    
    
    (6,978,000
    )Fair
      value of common stock issued
    
    $
    3,246,000


The
accompanying notes are an integral part of these condensed consolidated
financial statements.




6


****


**IMPLANT
SCIENCES CORPORATION**


**NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**


**March
31, 2005**


**(Unaudited)**


**1.**
    **Description of
Business**


Implant
Sciences Corporation (the “Company”) develops products for the medical device
and explosives detection industry using ion implantation and thin film coatings
of radioactive and non-radioactive materials. The Company has received Food and
Drug Administration 510(k) clearance to market its I-Plant ’ Iodine-125 radioactive seed for the treatment of prostate cancer. The Company
also has under development brachytherapy systems for the treatment of breast
cancer. The Company also modifies the surface characteristics of orthopedic
joint implants to reduce polyethylene wear and thereby increasing the life of
the implant and provides wafer processing services, equipment and analysis for
the semiconductor industry. Additionally, the Company continues to develop
explosives detection systems to be used in the detection of trace residues of
explosives.





**2.**
    **Interim
      Financial Statements**




The
financial information for the three and nine months ending March 31, 2005 and
2004 is unaudited but includes all adjustments (consisting only of normal
recurring adjustments), which we consider necessary for a fair presentation of
the financial position at such date and of the operating results and cash flows
for these periods. The result of operations and cash flows for the three and
nine months ended March 31, 2005 are not necessarily indicative of results that
may be expected for the entire year. The information contained in this Form
10-QSB should be read in conjunction with our audited financial statements,
included in our Form 10-KSB/A No. 1 as of and for the year ending June 30, 2004
filed with the Securities and Exchange Commission on November 10, 2004. Certain
amounts in the prior period financial statements have been reclassified to
conform to the current period’s presentation.





**3.**
    **Stock-based
      Compensation**




The
Company accounts for its employee stock based compensation arrangements under
the provisions of Accounting Principal Board (APB) Opinion No. 25, “Accounting
for Stock Issued to Employees,” rather than the alternative fair value
accounting method provided for under Statement of Financial Accounting Standards
(SFAS) No. 123, “Accounting for Stock-Based Compensation.” Under APB 25, when
the exercise price of options granted to employees and non-employee directors
under these plans equals the market price of the underlying stock on the date of
the grant, no compensation expense is recorded.





The
Company has elected to use the disclosure-only provisions of SFAS No. 123 and
SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and
Disclosure.” Had compensation expense for stock option grants to employees been
determined based on the fair value method at the grant dates for awards under
the stock option plans consistent with the method prescribed by SFAS No. 123,
the Company’s net loss would have increased to the pro forma amounts indicated
as follows:


****


7


**Three
      Months Ended**
    
    **Nine
      Months Ended****March
      31,**
    
    **March
      31,****2005**
    
    **2004**
    
    **2005**
    
    **2004**Net
      loss applicable to common shareholders, as reported
    
    $
    (2,882,000
    )
    $
    (2,066,000
    )
    $
    (6,668,000
    )
    $
    (4,901,000
    )Add:
      Stock-based employee compensation expense included in reported net loss
      applicable to common shareholders, net of tax
    
    
    71,000
    
    
    70,000
    
    
    208,000
    
    
    551,000Deduct:
      Total stock-based employee compensation expense determined under the fair
      value based method of all awards, net of tax
    
    
    (466,000
    )
    
    (193,000
    )
    
    (1,482,000
    )
    
    (576,000
    )Pro
      forma net loss applicable to common shareholders
    
    $
    (3,277,000
    )
    $
    (2,189,000
    )
    $
    (7,942,000
    )
    $
    (4,926,000
    )Net
      loss per share applicable to common shareholders, basic and
      diluted:As
      reported
    
    $
    (0.30
    )
    $
    (0.27
    )
    $
    (0.74
    )
    $
    (0.69
    )Pro
      forma
    
    $
    (0.34
    )
    $
    (0.29
    )
    $
    (0.88
    )
    $
    (0.69
    )


In
December 2003, the Company issued stock options below fair market value. This
amount is being amortized over the vesting period of the options which averages
3 years. During the quarter ended March 31, 2005, the Company recorded $59,000
in compensation expense related to this transaction.





In
December 2004, the Company recorded deferred compensation of $144,000 relating
to stock options issued at prices below fair market value. This amount is being
amortized over the vesting period of the options which averages 3 years. During
the quarter ended March 31, 2005, the Company recorded compensation expense of
$12,000 related to this transaction.





In
September 2004, the Company issued warrants to consultants in exchange for
services. This amount is being amortized over the vesting period of the warrants
which averages 3 years. During the quarter ended March 31, 2005, the Company
recorded approximately $12,000 in expense associated with these transactions.
The Company estimated the fair value of the common stock warrants using the
Black-Scholes option-pricing model with the following assumptions: volatility of
..647, risk-free interest rate of 3.47% and a Black Scholes value of 5.81.





In
October 2004, the Company issued 200,000 common stock warrants to a consultant
in connection with the Core acquisition. The Company recorded the fair value of
these warrants, of approximately $1,122,000, as additional costs associated with
the Core acquisition and included this value in the total purchase price of the
acquisition. The Company estimated the fair value of the warrants using the
Black Scholes option-pricing model with the following assumptions: volatility of
..641, risk-free interest rate of 3.36% and a Black Scholes value of 5.61.





In
January 2005, the Company issued fully vested warrants to consultants in
exchange for services. In the quarter ended March 31, 2005, the Company
recognized approximately $84,000 in expense related to these transactions. The
Company estimated the fair value of the warrants using the Black Scholes
option-pricing model with the following assumptions: volatility of .628,
risk-free interest rate of 3.53% and a Black Scholes value of 5.68.





8




**4.**
    **Loss
      Per Share**




Basic
loss per share is computed based only on the weighted average number of common
shares outstanding during the period. Diluted earnings per share is computed by
using the weighted average number of common shares outstanding during the
period, plus the dilutive effects of shares issuable through the exercise of
stock options (common stock equivalents) unless their inclusion would be
antidilutive. Approximately 1,535,000 options and 2,310,000 warrants were
excluded from the loss per share calculation in 2005 and 1,261,000 options and
1,594,000 warrants were excluded in 2004 periods as their effect would have been
antidilutive.





**5.**
    **Comprehensive
      Income (Loss)**




The
Company has accumulated other comprehensive income (loss) resulting from the
unrealized gain/loss on an investment in marketable equity securities of
CardioTech International Inc. (Note 9) and the recognition of the unrealized
gain/loss of the Company’s share of CardioTech and Implant Sciences stock owned
by CorNova (Note 11) which is recorded in the stockholders’ equity section of
the accompanying condensed consolidated balance sheets. Comprehensive income
(loss) is summarized below:




**Three
      Months Ended**
    
    **Nine
      Months Ended****March
      31,**
    
    **March
      31,****2005**
    
    **2004**
    
    **2005**
    
    **2004**Net
      Loss
    
    $
    (2,267,000
    )
    $
    (839,000
    )
    $
    (5,486,000
    )
    $
    (2,700,000
    )Other
      Comprehensive Income (Loss)
    
    
    (185,000
    )
    
    195,000
    
    
    (317,000
    )
    
    302,000Comprehensive
      Loss
    
    $
    (2,452,000
    )
    $
    (644,000
    )
    $
    (5,803,000
    )
    $
    (2,398,000
    )


**6.**
    **Accounts
      Receivable**




Contract
revenue under cost sharing research and development agreements is recognized as
eligible expenses are incurred. Invoicing of research and development contracts
occurs in accordance with the terms of the contract. Revenue recognized but
unbilled is recorded as unbilled accounts receivable. At March 31, 2005,
unbilled accounts receivable represented approximately 15% of total accounts
receivable.





**7.**
    **Issuance
      of Series C 5% Cumulative Convertible Preferred
    Stock**




On
November 25, 2003, the Company issued 250,000 shares of Series C 5% Cumulative
Convertible Preferred Stock (“Series C”) having a stated value of $10 per share,
pursuant to a Securities Purchase Agreement executed on November 25, 2003 with
the Laurus Master Fund, Ltd. (Laurus). The Company received $2,500,000 in gross
proceeds, less a management and placement agent fee of approximately $125,000,
and related transaction costs of approximately $86,000. The terms of the Series
C provide for repayment with shares of the Company’s common stock or in cash,
pursuant to an amortization schedule. Repayment of the Series C commenced on
March 31, 2004. The Company had the sole option to determine whether to satisfy
payment of the monthly amount in full on each repayment date either in cash or
in shares of common stock, or a combination of both, unless the closing price of
the Company’s common stock for any of the eleven trading days preceding a
repayment date was less than $7.35, wherein the Company was required to pay such
monthly amount in cash. If the payment of the monthly amount is made in common
stock, the fixed conversion price is $6.75. The Company also issued to Laurus a
warrant to purchase 50,000 shares of common stock at $8.44 per share and 50,000
shares of common stock at $10.13 per share. The Securities Purchase Agreement
also provided for a security interest in substantially all of the Company’s
assets and provided Laurus a right of first refusal on future financing
arrangements during the Term of the agreement. In the event Laurus declines to
exercise its right of first refusal, it agreed to enter into such documentation
as shall be reasonable requested by the Company in order to subordinate its
rights under the Series C to the subsequent financier. The Company utilized the
proceeds of this financing to purchase an ion implanter and for general working
capital purposes.





9


In
accordance with the provisions of Emerging Issues Task Force (EITF) Issue 00-27,
"Application of EITF Issue No. 98-5 'Accounting for Convertible Securities with
Beneficial Conversion Features of Contingently Adjustable Conversion Ratios', to
Certain Convertible Securities", which became effective in November 2000, the
allocated value of the Series C contained a beneficial conversion feature
calculated based on the difference between the effective conversion price of the
proceeds allocated to the Series C and the fair market value of the common stock
at the date of issuance.  The
discount arising from the beneficial conversion feature aggregated $700,000. The
discount was being amortized and recorded as a preferred dividend during the
period from the issuance of the preferred stock to March 7, 2005 the actual
conversion date, using the effective interest method.





The
Company valued the Series C at issuance to be $1,284,000 based on the relative
fair market values of the financial instruments issued in connection with this
placement, net of offering costs and the beneficial conversion feature. The
amounts recorded in the financial statements represent the amounts attributed to
the sale of the preferred stock, net cash proceeds of $2,289,000 ($211,000 of
issuance costs incurred), the amount allocated to warrants of $305,000, and the
amount of the discount related to the value of beneficial conversion feature of
$700,000. The Company accreted these discounts on the carrying value of the
preferred stock to its redemption value of $2,500,000 at the actual conversion
date. The accretion of these amounts was recorded as a preferred dividend in the
period of accretion. During the period ended March 31, 2005, , approximately
$134,000 was amortized. As of March 31, 2005, the Series C was converted in
full.





During
the three months ended March 31, 2005, Laurus redeemed 25,762 shares of Series C
into 38,165 shares of the Company’s common stock at conversion price of $6.75
per share and redeemed approximately $3,000 of accrued dividends into 376 shares
of the Company’s common stock. The conversion of accrued dividends into common
stock resulted in additional dividends of approximately $1,000 during the three
months ended March 31, 2005, in excess of 5% stated value.




**8.**
    **Issuance
      of Common Stock**
  On March
8, 2005 the Company issued 1,080,780 shares of common stock at $7.22, in a
private placement with fifteen investors. The Company received $7,803,000 in
gross proceeds, less placement agent fees and related transaction costs of
approximately $433,000.
  In
connection with the transaction, the
Company issued warrants
to the
investors to purchase
270,195 shares of common stock at an exercise price of $9.35 , which
are exercisable anytime between September 4 ,
2005 and
September 4, 2010. In addition , the
investors have
rights to
purchase up to 588,235
shares of common stock at a price of $8.50 per
share, which are exercisable for a period commencing (i) anytime on or after
September 4, 2005 and (ii) on or prior to the later of the 6 month anniversary
of the effective
date of the registration statement filed on April 12, 2005, or March 4, 2006.
The Company also issued warrants to the placement agent to purchase 33,383
shares of common stock at an exercise price of $9.35 per share, which are
exercisable until March 4, 2010. Should the investors exercise these additional
investment rights, the placement agent will receive an additional warrant for
21,390 shares at an exercise price of $9.35 per share.
 
 10
  **9.**
    **Related
      Party Transactions**
 
 SFAS No.
57, “Related Party Disclosures,” specifies the nature of information that should
be disclosed in financial statements regarding related party transactions.
CardioTech International, Inc. (“CardioTech”) a public company, whose common
stock trades under the symbol CTE on the American Stock Exchange, is a related
party with the Company by virtue of its significant business
relationships.
 
 Certain
directors of the Company hold positions as directors of CardioTech. The CEO and
Chairman of the Board of Directors of the Company is also a director of
CardioTech. The CEO and Chairman of the Board of Directors of CardioTech is also
a director of the Company.
 
 In March
2000, the Company entered into a joint research agreement with CardioTech to
develop a proprietary porous polymer biocompatible coating technology as a
platform for the Company’s proprietary radioactive brachytherapy technology. In
consideration for this agreement, the Company agreed to pay $150,000 in cash and
purchase 100,000 shares of CardioTech stock at a price of $1.00 per share. As of
March 31, 2005, the fair market value of the 100,000 shares of CardioTech stock
is $190,000, which is recorded as investment in available for sale securities in
the accompanying condensed consolidated balance sheet.
 
 In March
2004 the Company entered into an Exchange & Venture Agreement with
CardioTech and CorNova, Inc. (Note 10). The Company’s CEO and a director are
also on the Board of Directors of CorNova. As of March 31, 2005, the Company has
an outstanding receivable from CorNova of approximately $4,000.
 **10.**
    **MED-TEC**


On July
31, 2003, the Company entered into an agreement with its former exclusive
distributor of prostate seeds, to release each other from further obligations
under the 2000 Agreement. The new agreement conveys to the Company direct
marketing and sales capabilities to sell its I-Plant Seed brachytherapy seeds
for use in the treatment of prostate cancer. In connection with this, the
Company’s former exclusive distributor transitioned customers and marketing
materials directly to the Company. The distributor also agreed not to compete
with the Company for a period of three years. The Company will pay the
distributor an average of approximately $39,000 per month over the 28 months,
beginning September 1, 2003. As of March 31, 2005 , the outstanding principal
balance is approximately $348,000. For the three months ended March 31, 2005,
the Company recorded approximately $10,000 of interest expense relating to this
transaction.





The
present value of this asset was recorded as approximately $1,007,000, using a
rate of 10.24%, and is being amortized over its estimated useful life of 29
months. During the three months ended March 31, 2005, approximately $104,000 of
amortization expense was recognized.




**11.**
    **Investment
      in Unconsolidated Subsidiary**
  In March
2004, the Company entered into an Exchange & Venture Agreement with
CardioTech International and CorNova. CorNova is a start-up company focused on
the development and marketing of innovative interventional cardiology products.
The Company issued 10,344 shares of common stock bearing an aggregate fair
market value of $113,000 as of the date of issuance. In exchange, the Company
received 1,500,000 shares of the CorNova’s common stock, which represented a 30%
ownership position, and a position on the Board of Directors.
 
 Upon
CorNova’s securing of an additional $3,000,000 in financing (the “Series A
Financing”), CardioTech and the Company each issued additional shares of their
common stock (the “Investment Shares”), which was equal in value to twenty-five
percent (25%) of the gross proceeds of the Series A Financing, or $750,000. As
of March 31, 2005, 87,031 shares, representing a 19% ownership position have
been issued by the Company, 16,449 of which have been categorized as treasury
stock. During the three months ended March 31, 2005, the Company recognized
approximately $40,000 of other expense representing the Company’s portion of
CorNova’s net loss. The Company also recorded approximately $80,000 as
unrealized loss, which is included in accumulated other comprehensive income for
the three months ended March 31, 2005. This unrealized loss relates to the
Company’s portion of the decline in value of the Investment Shares issued to
CorNova. The Company is accounting for this investment under the equity method
under APB Opinion No. 18, “The Equity Method of Accounting for Investments in
Common Stock.”
  11
  **12.**
    **Bay
      Area MRI**
  In March
2004, the Company entered into a consulting agreement with Christopher Lang and
Bay Area MRI to assist the Company in the sale of radioactive prostate seeds. As
compensation for consulting services, the Company may be required to pay
commissions of up to $600,000 ($300,000 in cash and $300,000 in shares of common
stock.). During the period ended March 31, 2004, the Company issued 3,205 shares
of restricted common stock, bearing an aggregate fair market value of
approximately $37,500 and advanced $50,000 of cash commissions. In the period
ended September 31, 2004 the Company had determined that this asset was impaired
and has recorded a reserve against the prepaid commission of approximately
$81,000 or 100% of the recorded prepaid commission.
 
 **13**.
    **Treasury
      Stock**
  In June
2004, the Board authorized the Company to repurchase of up to 300,000 shares of
the Company’s common stock, from time to time in the open market, privately
negotiated transactions, block transactions or at time and prices deemed
appropriate by management. As of March 31, 2005, the Company had repurchased a
total of 6,000 shares of common stock at prices ranging from $8.91 to $9.02 per
share at a total cost of approximately $54,000, which is recorded as treasury
stock in the accompanying condensed consolidated balance sheet.
 
 In March
2004, the Company entered into an Exchange & Venture Agreement with
CardioTech International and CorNova and issued 10,344 shares of common stock
bearing an aggregate fair market value of $113,000. In February 2005, the
Company issued an additional 76,687 shares of common stock bearing an aggregate
fair market value of $750,000. As of March 31, 2005, 16,449 shares, representing
a 19% ownership in CorNova, have been categorized as treasury stock.
 
 **14**.
    **Financial
      Information by Segment**
 
 Under
SFAS No. 131, “Disclosures about Segments of an Enterprise and Related
Information,” operating segments are defined as components of an enterprise
about which separate financial information is available that is evaluated
regularly by the chief operating decision maker, or decision making group, in
deciding how to allocate resources and in assessing performance. The Company's
chief operating decision making group is composed of the chief executive officer
and members of senior management. The Company's reportable segments are:
Medical, Semiconductor and Explosives.
 
 Gross
margin is the measure that management uses when evaluating the Company’s
segments, therefore, operating expenses are excluded from the financial
information below.
  The
revenues and expenses related to these segments for the three and nine months
ended March 31, 2005 and 2004, respectively, are:
  12
  Three
      Months Ended March 31, 2005**Medical**
    
    **Semiconductor**
    
    **Explosives**
    
    **Total**Revenue
    
    $
    1,083,000
    
    $
    1,604,000
    
    $
    175,000
    
    $
    2,862,000COGS
    
    
    (787,000
    )
    
    (1,613,000
    )
    
    (481,000
    )
    
    (2,881,000
    )Gross
      Margin
    
    $
    296,000
    
    $
    (9,000
    )
    $
    (306,000
    )
    $
    (19,000
    )Three
      Months Ended March 31, 2004**Medical**
    
    
    **Medical**
    
    
    **Semiconductor**
    
    
    **Explosives**
    
    
    **Total**Revenue
    
    $
    1,494,000
    
    $
    310,000
    
    $
    831,000
    
    $
    2,635,000COGS
    
    
    (1,050,000
    )
    
    (422,000
    )
    
    (396,000
    )
    
    (1,868,000
    )Gross
      Margin
    
    $
    444,000
    
    $
    (112,000
    )
    $
    435,000
    
    $
    767,000Nine
      Months Ended March 31, 2005**Medical**
    
    
    **Medical**
    
    
    **Semiconductor**
    
    
    **Explosives**
    
    
    **Total**Revenue
    
    $
    2,976,000
    
    $
    3,226,000
    
    $
    1,475,000
    
    $
    7,677,000COGS
    
    
    (2,586,000
    )
    
    (3,520,000
    )
    
    (1,561,000
    )
    
    (7,667,000
    )Gross
      Margin
    
    $
    390,000
    
    $
    (294,000
    )
    $
    (86,000
    )
    $
    10,000Nine
      Months Ended March 31, 2004**Medical**
    
    
    **Medical**
    
    
    **Semiconductor**
    
    
    **Explosives**
    
    
    **Total**Revenue
    
    $
    3,860,000
    
    $
    838,000
    
    $
    1,462,000
    
    $
    6,160,000COGS
    
    
    (2,863,000
    )
    
    (970,000
    )
    
    (714,000
    )
    
    (4,547,000
    )Gross
      Margin
    
    $
    997,000
    
    $
    (132,000
    )
    $
    748,000
    
    $
    1,613,000
 **15****.**
    **Acquisition
      of Core Systems Incorporated**
 
 On October 15, 2004, the Company
completed the acquisition of Core Systems, a privately held semiconductor wafer
processing company. The transaction was structured as a reorganization of Core
with and into a newly formed, wholly-owned subsidiary of the Company. The
operating results of Core Systems have been included in the Company’s statement
of operations beginning October 15, 2004.
  The
aggregate purchase price of Core was $7,485,000, which consisted of $2,000,000
in cash; 311,437 shares of the Company's common stock with an aggregate fair
value of $3,250,000; direct acquisition costs of approximately $1,614,000 and
the payment of approximately $621,000 of debt and other obligations coincident
with the closing. The number of shares issued was initially determined by the
average price of the Company’s stock over a twenty-day period ending October 8,
2004. The share price was subject to adjustment limiting the gain or loss in the
value of the Company stock, over a twenty-day period at the end of a six month
lock-up, ending April 15, 2005, to 25% from the initial value. The twenty-day
average price of the stock for the period ending April 15, 2005 was $5.75, which
will result in the issuance of an additional 112,475 shares. The fair value of
the Company's common stock was determined based on the average market price of
the Company's common stock over a period of time before and after October 8,
2004 the date of the merger agreement announcement, pursuant to Emerging Issues
Task Force ("EITF") Issue No. 99-12, “Determination of the Measurement Date
for the Market Price of Acquirer Securities Issued in a Purchase Business
Combination.” In addition the purchase is subject to an earn out which will be
accounted for as additional purchase price when and if earned.
  13
 Core
      Purchase PriceCash
    
    $
    2,000,000Equity
    
    
    3,250,000Equity
      used to retire debt
    
    
    510,000Warrant
    
    
    1,122,000Direct
      Costs
    
    
    603,000$
    7,485,000
 The
following table summarizes the allocation of the purchase price to the fair
value of the assets acquired and liabilities assumed at the date of acquisition:
  October
      15, 2004Accounts
      receivable
    
    $
    450,000Inventory
    
    
    174,000Property,
      plant and equipment
    
    
    3,422,000Other
      intangible assets
    
    
    75,000Goodwill
    
    
    4,973,000Other
      Assets
    
    
    74,000Accounts
      payable and accrued expenses
    
    
    (1,062,000
    )Debt
      and capital leases
    
    
    (621,000
    )$
    7,485,000
 The
allocation of purchase price is the responsibility of management The Company has
considered a number of factors, including professional appraisers, for the
valuation of equipment acquired, in making its determination. The acquisition of
Core resulted in goodwill of $4,973,000. The Company feels the amount of
goodwill is appropriate based on operating efficiencies expected as the
Wakefield semiconductor and Core operations are integrated, added opportunities
for revenue growth as the semiconductor industry serviced by Core continues to
recover and additional revenue opportunities from providing a broad range of
services to the industry.
  The
acquisition of Core is accounted for as a purchase under SFAS No. 141,
“Business Combinations.” Accordingly, the operating results of Core are included
in the accompanying condensed consolidated financial statements since the
acquisition date as part of the Company's semiconductor reporting segment.
 **16.**
    **Acquisition
      of Accurel Systems International
Corporation**
  On March
9, 2005, The Company acquired all of the stock of Accurel Systems International
Corporation, a California S Corporation, from existing shareholders.  The
aggregate purchase price of Accurel is estimated to be $12,270,000, which
consists of the issuance of 418,194 shares of the Company’s common stock with a
fair value of $ 3,246,000 based upon a value per share of $7.761, $6,000,000 in
cash, $1,650,000 in notes payable to the former Accurel shareholders and
estimated direct acquisition costs of $1,100,000. The shareholder note payable
is due in 120 days from the closing and earns interest at 5%. The note is
secured by all of the equipment of Accurel. The shares issued were determined
based on the average market price of the securities over a twenty day period
ending March 8 , 2005. The
share price for valuation purposes was determined by the average share price for
the period just prior to and following the date of the merger agreement
announcement, pursuant to the guidance in EITF Issue No. 99-12. The
purchase is subject to a holdback of $500,000 to be released at a rate of 25%
every 90 days subject to the settlement of any and all liabilities not reflected
in the closing balance sheet. The shares issued are also subject to adjustment
if the Company’s average stock price during the twenty trading days prior to the
end of a six month lock-up is 25% higher or lower than the price on the closing
date. The effect of this adjustment is to limit the selling shareholders’ gain
or loss on the Company’s common stock to 25% during the lock-up period ending
September 9, 2005. Accurel’s results from operations are included in the
Company’s statement of operations beginning March 9, 2005, the date of
acquisition.
  14
  Accurel
      Purchase PriceCash
    
    $
    6,000,000Equity
    
    
    3,520,000Notes
      payable to former shareholders
    
    
    1,650,000Direct
      costs
    
    
    1,100,000$
    12,270,000
  The
following table summarizes the preliminary allocation of the purchase price to
the fair value of the assets acquired and liabilities assumed at the date of
acquisition :
 March
      9, 2005Cash
    
    $
    123,000Accounts
      receivable
    
    
    1,073,000Prepaid
      expensesand other assets
    
    
    182,000Property,
      plant and equipment
    
    
    3,957,000Goodwill
      and other intangibles
    
    
    9,324,000Assets
      held for sale
    
    
    1,400,000Other
      liabilities
    
    
    (
      1,356,000
    )Debt
      and capital leases
    
    
    (
      2,433,000
    )$
    12,270,000
 The above
allocation of the preliminary purchase price, including the value of the
intangible assets, is subject to change. The
preliminary allocation of the estimated purchase price of Accurel is based on
management estimates and assumptions and the preliminary results of independent
appraisals. The
allocation of purchase price is the responsibility of management. The Company
will consider a number of factors, including professional appraisals, in making
its final determination. Included in the above allocation is a lease liability
of $800,000. This liability reflects the amount that Accurel’s future
obligations under its facility lease are above the fair value of the leased
facility based on current market conditions. The lease expires in 2010.
  The
Company believes that in the final valuation of acquired assets, values could be
assigned to technology related intangible assets and customer related intangible
assets. The final allocation of the aggregate purchase price is expected to be
completed during the three months ended June 30, 2005
  The
acquisition of Accurel is accounted for as a purchase under SFAS No. 141,
“Business Combinations.” Accordingly, the operating results of Accurel are
included in the accompanying condensed consolidated financial statements since
the acquisition date as part of the Company's semiconductor reporting segment.
  15
  The
following table presents selected unaudited financial information of the Company
including Core Systems Incorporated and Accurel Systems International
Corporation as if the acquisitions had occurred on July 1, 2003. The unaudited
pro forma results are not necessarily indicative of the results that would have
occurred had the acquisition of Core Systems and Accurel been consummated on
July 1, 2003, or of future results.
 **IMPANT
SCIENCES CORPORATION**
 **PROFORMA
CONSOLIDATED STATEMENT OF OPERATIONS**
 **(Unaudited)**
 **Three
      Months Ended**
    
    **Nine
      Months Ended****March
      31,**
    
    **March
      31,****2005**
    
    **2004**
    
    **2005**
    
    **2004****Revenue**
    
    $
    4,406,000
    
    $
    5,706,000
    
    $
    14,483,000
    
    $
    14,977,000**Net
      Income (Loss) Before Taxes**
    
    
    (2,275,000
    )
    
    (624,000
    )
    
    (5,817,000
    )
    
    (2,943,000
    )**Preferred
      distribution, dividends**
    
    
    553,000
    
    
    1,227,000
    
    
    1,120,000
    
    
    2,201,000**Net
      Income (Loss)**
    
    $
    (2,828,000
    )
    $
    (1,851,000
    )
    $
    (6,937,000
    )
    $
    (5,144,000
    )**Net
      loss per share applicable to common**
    
    $
    (0.25
    )
    $
    (0.20
    )
    $
    (0.66
    )
    $
    (0.58
    )**Weighted
      average common shares**
    
    
    11,469,000
    
    
    9,298,000
    
    
    10,526,000
    
    
    8,941,000**outstanding,
      basic and diluted**
  **17.**
    **Goodwill and other intangible
assets:**
  At
March 31, 2005, the Company had goodwill and intangible assets of $14,684,000.
SFAS No. 142, Goodwill and Other Intangible Assets, requires that goodwill and
intangible assets with indefinite lives no longer be amortized but instead be
measured for impairment at least annually or whenever events indicate that there
may be an impairment. We will make our annual assessment as of August 31, 2005.
As of March 31, 2005 the Company has determined that our goodwill and intangible
assets with indefinite lives are not impaired. Future events could cause us to
conclude that impairment indicators exist and that goodwill and intangible
assets with indefinite lives associated with our acquired businesses are
impaired. Any resulting impairment loss could have a material adverse impact on
our financial condition and results of operations.
 16
 Intangible
assets with finite lives are amortized over the period of time their future cash
flows are estimated to be produced. These values are evaluated based upon their
estimated future cash flows.. We continually evaluate whether events or
circumstances have occurred that indicate that the estimated remaining useful
life or the carrying value of these assets has been impaired.
  The
intangible assets attributable to Accurel are preliminary management estimates.
Management will engage the use of professional appraisers in making its final
determination of the fair value of these items.
  The following table summarizes goodwill and intangible assets:
  Goodwill
      attributable to the acquisition of Core Systems
    
    $
    4,973,000Goodwill
      attributable to the acquisition of Accurel Systems
    
    $
    8,324,000Intangible
      assets with finite useful lives attributable to Accurel
    
    $
    1,000,000Intangible
      assets with finite useful lives, other
    
    $
    387,000Total
      goodwill and intangible assets
    
    $
    14,684,000
 ****
 **18**.
    **Credit
      Arrangements**
 
 At the
time of its acquisition Accurel Systems had a $1,400,000 fixed rate installment
note with a bank. The note calls for monthly payments of $29,000 plus interest
at a rate of 6.84%, through September 1, 2008. As of March 31, 2005 the note
balance is $1,254,000. The note is secured by substantially all assets of
Accurel. The bank has consented to continue the note under the same terms after
the acquisition.
 
 The Loan
Agreement requires Accurel to report monthly financial results to the bank and
for Accurel to comply with certain financial covenants. As of March 31, 2005
Accurel was in compliance with the covenants.
 
 **19**.
    **Rapiscan
      contract:**
 
 On March
23, 2005, Rapiscan Systems Inc (“Rapiscan”) and Implant Sciences Corporation
(“Implant”) entered into a Development, Distribution and Manufacturing Agreement
(the “Agreement”). The Agreement provides for i) the manufacture of Implant’s
existing Quantum Sniffer TM explosives detection equipment (the “QS TM Products”) by Implant and sale of the QS TM Products
to Rapiscan, on a private label basis at a discounted price as agreed to by the
parties, ii) a grant by Rapiscan to Implant of the right to continue selling the
QS TM Products
through Implant’s direct and indirect sales force, iii) the development by
Implant of a trace explosives detection subsystem using Implant’s Quantum
Sniffer TM Technology (the “QS TM Technology”) that could be integrated with Rapiscan’s X-ray baggage screening
device technology, resulting in an automated baggage screening device (the
“QS TM Baggage
Screening Prototype”) to be delivered within twelve (12) months from the date of
the Agreement, iv) the funding by Rapiscan of up to $1,000,000 for the
development of the QS TM Baggage
Screening Prototype to be paid periodically as the development continues based
upon achievement of certain milestones, v) the development by Implant of other
trace explosives detection subsystems (the “Other QS TM Trace
Prototype”) utilizing the QS TM Technology to be delivered within fourteen (14) months from the date of the
Agreement, vi) the funding by Rapiscan of up to $2,000,000 for the development
of the Other QS TM Trace
Prototype to be paid periodically as the development continues based upon
achievement of certain milestones, vii) the parties granting each other various
rights to manufacture components of commercial products resulting from the
development of the QS TM Baggage
Screening Prototype and the Other QS TM Trace
Prototype (collectively, the “Developed Products”), viii) the sale to Rapiscan
of components for the Developed Products manufactured by Implant, ix)
distribution rights granted by Implant to Rapiscan for the marketing, sales and
service of the Developed Products, and x) royalty payments to Implant on an
agreed-upon portion of the sales of the Developed Products made by Rapiscan to
end-user customers. No revenue has been recorded related to this
agreement.
  17
  **18.**
    **IPO
      Warrant Extension**
 
 In June
1999, the Company issued 1,138,000 Units, consisting of one share of common
stock, and one redeemable common stock purchase warrant (the “IPO Warrants”) in
connection with its initial public offering. Each Unit carries the right to
purchase one share of common stock at $9.00, and is redeemable by the Company at
$0.20 per warrant if the closing bid price of the common stock averages in
excess of $10.50 for a period of 20 consecutive trading days. On March 28, 2002,
the Company extended the expiration date of the IPO Warrants from June 23, 2002
to June 30, 2003. The Company did not receive any consideration from the holders
of the warrants; accordingly the Company recognized this transaction as a
preferred distribution based upon the estimated fair value of the extension of
approximately $530,000. On April 15, 2003, the Company extended the expiration
date of the IPO Warrants from June 30, 2003 to June 30, 2005. The Company did
not receive any consideration from the holders of the warrants; accordingly, the
Company recognized the value of this transaction as a preferred distribution
based upon the estimated fair value of the extension of approximately $195,000.
On March 14, 2005, the Company again extended the expiration date of the IPO
Warrants from June 30, 2005 to March 31, 2006. The Company did not receive any
consideration from the holders of the warrants; accordingly, the Company
recognized the value of this transaction as a preferred distribution based upon
the estimated fair value of the extension of approximately $479,000. As of March
31, 2005, 1,064,700 IPO Warrants remain outstanding. .
  18
  **Item
      2****.**
    **Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations**
 
 The
following management discussion and analysis should be read in conjunction with
the financial statements and notes thereto as filed in our Form 10-KSB/A No. 1
for the year ended June 30, 2004. In addition to historical information, this
Form 10-QSB contains forward-looking statements. The forward-looking statements
are subject to certain risks and uncertainties that could cause actual results
to differ materially from those reflected in such forward-looking statements.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect management’s opinions only as of the date hereof. We
undertake no obligation to revise or publicly release the results of any
revision to these forward-looking statements. Readers should carefully review
documents that we file from time to time with the Securities and Exchange
Commission, including our Quarterly Reports and Annual Reports filed by us in
fiscal 2003 and 2004.
 
 Implant
Sciences Corporation, incorporated in 1984, has three locations. It operates out
of a 51,000 square foot leased facility in Wakefield, Massachusetts. Since
October 15, 2004, Implant also operates out of a 35,000 square foot leased
facility in Sunnyvale, California and since March 9, 2005, out of a 20,000
square foot leased facility also in Sunnyvale, California. The Company has
approximately 155 employees and runs three shifts in Wakefield and two shifts in
Sunnyvale. The Company generates revenues from the sale of ion implantation
services, radioactive prostate seed and explosives trace detection equipment
manufacturing and government research and development contracts. Ion
implantation services include semiconductor wafer processing and medical and
industrial coatings. Semiconductor products and services are conducted in both
the Wakefield and Sunnyvale facilities. Medical and industrial coatings,
radioactive prostate seed manufacturing, explosives detection equipment
manufacturing and research and development programs are conducted in
Wakefield.
 
 The
quarter ended March 31, 2005 is the first quarter that includes a full three
months of revenues from Core Systems which was acquired by the Company on
October 15, 2004. The quarter also includes the results of Accurel Systems which
was acquired on March 9, 2005. These acquisitions contributed revenues of $1.5
million in the quarter out of total revenues of $2.9 million. Core and Accurel
are inlcuded in the semiconductor segment. Revenues from our medical and
explosives detection segments, during the quarter ended March 31, 2005, are down
$1.1 million from the prior year quarter. This weakness is attributable to a
decline in prostate seed volumes and the completion of government contracts in
the quarter ended December 31, 2004 The Company is taking steps to increase
sales of its prostate seeds, semiconductor and explosives detection business. We
have recently announced the signing of a development, manufacturing and
distribution agreement with Rapiscan for our explosives detection products that
will start contributing to revenues in our fourth quarter of 2005.
 
 The
Company has made and continues to make a significant financial commitment to the
development of its trace explosives detection products. However, in order to
continue explosives trace detection research and development, additional loans
or funding may become necessary.
 
 As a
result of the acquisition of Core Systems on October 15, 2004, the acquisition
of Accurel on March 9, 2005, and the Company’s presentation of consolidated
financial statements, it should be noted that the 2004 vs 2005 comparative
information may not be meaningful.
 
 **Results
of Operations**
 
 *Comparison
for the three months ended March 31, 2005 and 2004*
 
 *Revenues.* Total
revenues for the three months ended March 31, 2005 were $2,862,000 as compared
to $2,635,000 for the comparable prior year period, an increase of $227,000 or
9%. The increase is primarily attributable to $948,000 of semiconductor revenues
from Core Systems and $516,000 from Accurel since it was acquired on March 9,
2005. This increase was offset by a $441,000 or 30% decrease in medical product
sales, primarily relating to a decrease in prostate seed revenue of $460,000 or
55%. In addition, explosive detection sales decreased by $661,000 or 80% as
compared with the comparable prior year period, due to the completion of several
government contracts prior to the March 31, 2005 quarter.
 
 It should
be noted that our revenues recognized from Small Business Innovative Research
(SBIR) programs, fluctuate due to: (a) our desire to obtain external funding for
our research and development efforts; (b) the availability of government
funding; and (c) the time required to obtain approval of a grant application. We
have been successful in obtaining SBIR grants in fiscal 2004 and 2003 and we
expect to continue to seek continuation or replacement of our existing SBIR
grants during the remainder of fiscal 2005 and beyond.
  19
 
 In the
first quarter of fiscal 2004, we entered into a new agreement with MED-TEC, our
former exclusive distributor of I-Plant prostate seeds to replace the original
Distributor Agreement, which had expired. Management believed this direct
marketing and sales program would enable the Company to expand distribution
channels targeting the radiation oncology market. MED-TEC agreed to work
cooperatively with the Company to transition its customers and marketing
materials directly to Implant Sciences and MED-TEC also agreed not to compete
with the Company for a period of three years. Implant Sciences is paying MED-TEC
an average of approximately $39,000 per month over a period of 29 months,
beginning September 1, 2003. As of March 31, 2005, the outstanding principal
balance is approximately $348,000. The Company continues its effort to
re-establish the prostate seed business.
 
 *Cost
of Sales.*  ** Cost of
sales for the three months ended March 31, 2005 was $2,881,000 as compared to
$1,868,000 for the comparable prior year period, an increase of $1,013,000 or
54%. This increase is primarily a result of an additional $925,000 in associated
expenses incurred by Core in the three month period ended March 31, 2005 and
$315,000 from Accurel since its acquisition on March 9, 2005 offset by reduced
expenses at the Wakefield, MA semiconductor facility. Medical product costs were
reduced by $244,000 primarily due to lower manufacturing activity levels. In
addition, direct labor costs increased $100,000 as we continue to build our
manufacturing work force in anticipation of new orders for our explosives trace
detectors.
 
 *Gross
Margin.*  Gross
margin for the three month period ending March 31, 2005 was a loss of $19,000
compared to income of $767,000 for the comparable prior year period. This loss
is primarily due to explosives detection manufacturing costs. Management has
determined that significant manufacturing cost reductions, to address short term
sales weakness, would not be in the Company’s best interest. Management will
continue to monitor revenue levels and take appropriate action when needed.
 
 *Research
and Development.* Research
and Development expenses for the three months ended March 31, 2005 were $715,000
compared to $418,000 for the comparable prior year period, an increase of
$317,000 or 80%. The increase in Research and Development expenses is a result
of increased personnel costs and temporary help combined with additional rent
expenses due to a physical expansion of the department.
 
 *Selling
General and Administrative.* Selling,
general and administrative expense for the three month period ended March 31,
2005 were $1,464,000 compared to $1,156,000 for the comparable prior year
period, an increase of $386,000 or 36%. Selling, general and administrative
expenses included $394,000 of additional expenses from Core Systems and from
Accurel since its acquisition on March 9, 2005. Stock based compensation expense
was $240,000 lower in the current quarter vs. the previous year offset in part
by increases in audit, legal, recruiting and consulting fees.
 
 *Other
expense, Net.* For the
three month period ended March 31, 2005 the company recorded other expense, net
of $69,000 as compared to other expense, net of $32,000 for the comparable prior
year period. The increase in other expenses, net is primarily due to increased
equity losses at our unconsolidated subsidiary.
 
 *Net
Loss.* Net loss
for the three month period ended March 31, 2005 was $2,267,000 as compared to a
loss of $839,000 for the comparable prior year period, an increase of $1,428,000
or 170%.  The increase in net loss is due to $786,000 in lower gross
margins and a $605,000 increase in operating expenses due to the acquisition of
Core Systems and Accurel.
 
 On March
14, 2005, the Company extended the expiration date of the remaining 1,064,700
warrants issued on June 23, 1999, which were part of the 1,138,000 warrants
issued in conjunction with our initial public offering, from June 30, 2005 to
March 31, 2006. The Company did not receive any consideration from the holders
of the warrants. We have recognized this transaction as a preferred distribution
based upon the estimated fair value of the extension of approximately $479,000.
Additionally, during the period ended March 31, 2005, accretion of dividends,
the beneficial conversion feature and amortization of warrants in the amount of
$136,000 relating to the Series C, was recognized as a preferred distribution as
compared with $1,227,000 recognized as preferred distributions relating to the
Series B and C for the comparable prior year period. These transactions have no
overall effect on stockholders’ equity or cash, but increased net loss per share
applicable to common shareholders by ($0.06) and ($0.16) per share respectively.
The basic and diluted net loss per share applicable to common shares for the
period ended March 31, 2005 was ($0.30) per share as compared to ($0.27) per
share for the comparable prior year period, an increase in net loss applicable
to common shares of $0.03 or 11%.
  20
  *Comparison
for the nine months ended March 31, 2005 and 2004*
 
 *Revenues.* Total
revenues for the nine months ended March 31, 2005 were $7,677,000 as compared to
$6,161,000 for the comparable prior year period, an increase of $1,516,000 or
25%. The increase is primarily attributable to $2,076,000 of revenues from Core
Systems since its acquisition on October 15, 2004 and $516,000 from Accurel
since its acquisition on March 9, 2005. The Core Systems and Accurel revenues
are included in our semiconductor business segment. These increases were offset
by a $914,000 or 24% decrease in medical product sales as compared with the
corresponding prior year period. The medical products loss is primarily from
prostate seeds.
 
 *Cost
of Sales.* Cost of
sales for the nine months ended March 31, 2005 was $7,667,000 as compared to
$4,547,000 for the comparable prior year period, an increase of $3,120,000 or
69%. Included in the cost of sales for the period ended March 31, 2005 are
$2,014,000 of costs from Core Systems since its acquisition on October 15, 2004
and $314,000 of costs from Accurel since its acquisition on March 9, 2005.
Explosives detection costs increased by $847,000 or 119% as compared with the
prior year period as we continue to invest in our explosive detection
manufacturing capabilities in anticipation of new orders for our explosives
trace detectors.
 
 *Gross
Margin* . Gross
margin for the nine months ended March 31, 2005 was $10,000 as compared to
$1,613,000 for the comparable prior year period. The decrease in gross margin is
primarily due to costs associated with increasing our manufacturing capability
for our explosives detection systems and not being able to reduce our prostate
seed manufacturing costs in proportion to the decrease in revenues.
 
 *Research
and Development.* Research
and Development expenses for the nine months ended March 31, 2005 were
$1,566,000 compared to $1,299,000 for the comparable prior year period, an
increase of $267,000 or 21%. This increase is a result of increased personnel
and temporary help combined with additional rent expenses due to a physical
expansion of the department.
 
 *Selling,
General and Administrative.* Selling,
general and administrative expenses for the nine-month period ending March 31,
2005 were $3,811,000 as compared to $2,905,000 for the comparable prior year
period, an increase of $906,000 or 31%. Included in selling, general and
administrative expenses for the nine-month period ended March 31, 2005 are
$483,000 relating to Core Systems since its acquisition on October 15, 2004 and
$138,000 from Accurel incurred since its acquisition on March 9, 2005. In
addition the Company has increased its spending to promote its prostate seed
business and increased sales and marketing expenses associated with its
explosives detection business.
 
 *Other
expense, Net.* For the
nine-month period ended March 31, 2005 the company recorded other expense, net
of $119,000 as compared to other expense, net of $109,000 for the comparable
prior year period, an increase of $10,000 or 9%. The increase is due to
increased equity losses in our unconsolidated subsidiary of $56,000 over the
previous year, a loss on sale of capital asset of $6,000 offset by lowered net
interest expense of $56,000 due to lower levels of debt during the periods being
compared.
 
 *Net
Loss.* Net loss
for the nine month period ended March 31, 2005 was $5,486,000 as compared to a
loss of $2,700,000 for the comparable prior year period, an increase of
$2,885,000 or 109%. Contributing to these losses are reduced gross margin in the
medical products segment of $636,000 due to lower sales and manufacturing
levels, and yield losses. Explosives detection gross margin decreased $839,000
primarily due to increased costs attributable to bringing on additional
manufacturing capabilities.
 
 On March
14, 2005, the Company extended the expiration date of the remaining 1,064,700
warrants issued on June 23, 1999, which were part of the 1,138,000 warrants
issued in conjunction with our initial public offering, from June 30, 2005 to
March 31, 2006. The Company did not receive any consideration from the holders
of the warrants. We have recognized this transaction as a preferred distribution
based upon the estimated fair value of the extension of approximately $479,000.
Additionally, during the period ended March 31, 2005, accretion of dividends,
the beneficial conversion feature and amortization of warrants in the amount of
$703,000 relating to the Series C, was recognized as a preferred distribution as
compared with $2,201,000 recognized as preferred distributions relating to the
Series A, B and C for the prior year period. The effect of these transactions
has no overall effect on stockholders’ equity or cash, but increased net loss
per share applicable to common shareholders by $0.13 and $0.31 per share
respectively. The basic and diluted net loss per share applicable to common
shares for the period ended March 31, 2005 was $0.74 per share as compared to
$0.69 per share for the comparable prior year period, a increase in net loss
applicable to common shares of $0.05 or 7%.
  21
  **Liquidity
and Capital Resources**
 
 As of
March 31, 2005, we had approximately $2,047,000 in cash and cash equivalents.
During the nine months ended March 31, 2005, operating activities used cash of
approximately $2,647,000. Net cash used by operating activities primarily
reflects the net loss of $5,486,000, offset by depreciation and amortization of
$1,289,000, stock-based compensation expense of $318,000, a net increase in
inventory and other current assets of $287,000 offset by an increase in accounts
payable and other accrued liabilities of $908,000. The Company has accrued
$600,000 for additional cash payments it expects to make in connection with its
acquisition of Accurel. During the nine months ended March 31, 2005, investing
activities used cash of approximately $8,818,000, including $2,603,000 used in
the acquisition of Core Systems and $6,978,000 used in the acquisition of
Accurel. The Company received $1,400,000 in cash from the sale of equipment
acquired from Accurel and used $1,100,000 of these proceeds to repay debt
associated with that equipment. As part of the acquisition of Accurel the
Company issued a $1,650,000 note to the Accurel shareholders. This note is due
on July 9, 2005.
 
 During
the nine months ended March 31, 2005, financing activities provided
approximately $6,606,000 in cash. Net cash provided by financing activities
primarily includes the proceeds from a private placement of common stock for
$7,537,000, net, combined with the exercise of employee stock options and
warrants, offset by payments on the factoring line of credit, repayment of debt,
and the acquisition of treasury stock.
 
 On
November 25, 2003, the Company issued 250,000 shares of Series C 5% Cumulative
Convertible Preferred Stock (“Series C”) having a stated value of $10 per share,
pursuant to a Securities Purchase Agreement executed on November 25, 2003 with
the Laurus Master Fund, Ltd. (Laurus). The Company received $2,500,000 in gross
proceeds, less a management and placement agent fee of approximately $125,000,
and related transaction costs of approximately $86,000. The terms of the Series
C provided for repayment with shares of the Company’s common stock or in cash,
pursuant to an amortization schedule. Repayment of the Series C commenced on
March 31, 2004. The Company had the sole option to determine whether to satisfy
payment of the monthly amount in full on each repayment date either in cash or
in shares of common stock, or a combination of both, unless the closing price of
the Company’s common stock for any of the eleven trading days preceding a
repayment date was less than $7.35, wherein the Company was required to pay such
monthly amount in cash. If the payment of the monthly amount was made in common
stock, the fixed conversion price was $6.75. The Company also issued to Laurus a
warrant to purchase 50,000 shares of common stock at $8.44 per share and 50,000
shares of common stock at $10.13 per share. The Securities Purchase Agreement
also provided for a security interest in substantially all of the Company’s
assets and provided Laurus a right of first refusal on future financing
arrangements during the term of the agreement. In the event Laurus declines to
exercise its right of first refusal, it agreed to enter into such documentation
as shall be reasonable requested by the Company in order to subordinate its
rights under the Series C to the subsequent financier. The Company utilized the
proceeds of this financing to purchase an ion implanter and for general working
capital purposes.
 
 In
accordance with the provisions of Emerging Issues Task Force (EITF) Issue 00-27,
"Application of EITF Issue No. 98-5 'Accounting for Convertible Securities with
Beneficial Conversion Features of Contingently Adjustable Conversion Ratios', to
Certain Convertible Securities", which became effective in November 2000, the
allocated value of the Series C contained a beneficial conversion feature
calculated based on the difference between the effective conversion price of the
proceeds allocated to the Series C and the fair market value of the common stock
at the date of issuance.  The
discount arising from the beneficial conversion feature aggregated $700,000. The
discount was amortized and recorded as a preferred dividend during the period
from the issuance of the preferred stock to March 7, 2005, the actual conversion
date, using the effective interest method.
 
 The
Company valued the Series C at issuance to be $1,284,000 based on the relative
fair market values of the financial instruments issued in connection with this
placement, net of offering costs and the beneficial conversion feature. The
amounts recorded in the financial statements represent the amounts attributed to
the sale of the preferred stock, net cash proceeds of $2,289,000 ($211,000 of
issuance costs incurred), the amount allocated to warrants of $305,000, and the
amount of the discount related to the value of beneficial conversion feature of
$700,000. The Company accreted these discounts on the carrying value of the
preferred stock to its redemption value of $2,500,000 at the actual conversion
date. The accretion of these amounts was recorded as a preferred dividend in the
period of accretion. During the period ended March 31, 2005, approximately
$134,000 was amortized. As of March 31, 2005, the Series C was converted in
full.
  22
 
 During
the three months ended March 31, 2005, Laurus redeemed 25,762 shares of Series C
into 38,165 shares of the Company’s common stock at conversion price of $6.75
per share and redeemed approximately $3,000 of accrued dividends into 376 shares
of the Company’s common stock. The conversion of accrued dividends into common
stock resulted in additional dividends of approximately $1,000 during the three
months ended March 31, 2005, in excess of 5% stated value.
  On March
8, 2005 the Company issued 1,080,780 shares of common stock at $7.22, in a
private placement with fifteen investors. The Company received $7,803,000 in
gross proceeds, less placement agent fees and related transaction costs of
approximately $433,000.
  In
connection with the transaction, the Company issued warrants to the investors to
purchase 270,195 shares of common stock at an exercise price of $9.35, which are
exercisable anytime between September 4, 2005 and September 4, 2010. In
addition, the investors have rights to purchase up to 588,235 shares of common
stock at a price of $8.50 per share, which are exercisable for a period
commencing (i) anytime on or after September 4, 2005 and (ii) on or prior to the
later of the 6 month anniversary of the effective date of the registration
statement filed on April 12, 2005, or March 4, 2006. We also issued warrants to
the placement agent to purchase 33,383 shares of common stock at an exercise
price of $9.35 per share, which are exercisable until March 4, 2010. Should the
investors exercise these additional investment rights, the placement agent will
receive an additional warrant for 21,390 shares at an exercise price of $9.35
per share.
  We have
developed two models of explosive detection systems that could be used in
airports, public and government buildings, and sporting event facilities. The
systems use our proprietary Laser IMS technology, which includes the use of
laser beams in combination with ion mobility spectrometry, to electronically
detect minute quantities of explosive vapor molecules in the air. This project
has been ongoing since approximately May 1999. We are presently extending this
technology to develop a belt-driven trace explosives detection machine and
other trace explosives detection systems with internal and outside funding from
Rapiscan Systems Inc.
 
 We
continue to fund as much research and development as possible through government
grants in accordance with the provisions of the respective grant awards. We will
require additional funding in order to advance the commercial development of the
explosives detection system. We will attempt to obtain such financing by: (i)
government grants, (ii) the exercise of the redeemable common stock purchase
warrants, (iii) private financing, or (iv) strategic partnerships. However,
there can be no assurance that we will be successful in our attempts to raise
such additional financing.
 
 Consistent
with our policy to protect our proprietary technologies, we have been awarded
four patents and submitted four (4) patent applications to the United States
Patent and Trademark Office. These patent applications will cover specific
design configurations that are responsible for our improved vapor detection
sensitivity.
 
 As of
March 31, 2005, we were conducting our operations with approximately $2,047,000
in cash and cash equivalents. Future expenditures for research and product
development will require additional sources of funding and the Company is
currently exploring its options. Our recently announced development,
manufacturing and distribution agreement with Rapiscan (see note 17 of financial
statements) will provide $3 million in cash over the next 12 to 18 months, upon
achieving certain milestones, to fund our ongoing efforts in the explosives
detection segment.
 
 The
Company’s future minimum payments under contractual obligations related to
capital leases, operating leases and term notes as of March 31, 2005, are as
follows:
  23
 **Capital**
      **leases
      and short and long term debt (1)**
    
    **Operating**
      **lease
      (2)**
    
    **MED-TEC
      (3)**
    
    **Total**Year
      ending June 30:2005
    
    $
    1,765,000
    
    $
    436,000
    
    $
    168,000
    
    $
    2,369,0002006
    
    
    401,000
    
    
    1,746,000
    
    
    180,000
    
    
    2,327,0002007
    
    
    386,000
    
    
    1,771,000
    
    
    
    
    
    2,157,0002008
    
    
    379,000
    
    
    1,784,000
    
    
    
    
    
    2,163,0002009
    
    
    129,000
    
    
    1,187,000
    
    
    
    
    
    1,316,000Total
    
    $
    3,060,000
    
    $
    6,924,000
    
    $
    348,000
    
    $
    10,332,000
   (1)
    Includes
      the $1,650,000 Accurel shareholder note payable due July 9,
      2005.
 (2)
    Includes
      the $795,000 long term lease liability for Accurels facility lease.
 (3)
    Relates
      to MED-TEC payment obligation (See Note 10 of financial
      statements).
 
 On June
30, 2004, we entered into an employment agreement with Dr. Anthony J. Armini,
the Company’s President and CEO, with an initial term of three years and an
automatic renewal for a successive period of three years, unless we or Dr.
Armini give the other party not less than three months written notice of
non-renewal. Under this employment agreement, Dr. Armini serves as our president
and chief executive officer at a base salary of up to $210,000. In addition, Dr.
Armini may participate in our employee fringe benefit plans or programs
generally available to employees of comparable status and position. We are
entitled to terminate his employment for any material breach of his employment
agreement at any time upon at least 30 days written notice. In the event we
terminate Dr. Armini’s employment without cause, we will pay him 12 months
salary. Under his employment agreement, he is subject to restrictive covenants,
including confidentiality provisions. Also, during his employment and for a
period of two years after the term of the employment agreement, Dr. Armini is
subject to a non-competition provision.
 
 On June
30, 2004, we entered into an employment agreement Dr. Stephen Bunker, the
Company’s Vice President and Chief Scientist, with an initial term of three
years and an automatic renewal for a successive period of three years, unless we
or Dr. Bunker give the other party not less than three months written notice of
non-renewal. Under this employment agreement, Dr. Bunker serves as our vice
president and chief executive scientist at a base salary of up to $150,000. In
addition, Dr. Bunker may participate in our employee fringe benefit plans or
programs generally available to employees of comparable status and position. We
are entitled to terminate his employment for any material breach of his
employment agreement at any time upon at least 30 days’ written notice. In the
event we terminate Dr. Bunker’s employment without cause, we will pay him 12
months salary. Under his employment agreement, he is subject to restrictive
covenants, including confidentiality provisions. Also, during his employment and
for a period of two years after the term of the employment agreement, Dr. Bunker
is subject to a non-competition provision.
 
 In June
2004, the Board authorized the Company to repurchase of up to 300,000 shares of
the Company’s common stock, from time to time in the open market, privately
negotiated transactions, block transactions or at time and prices deemed
appropriate by management. As of March 31, 2005, the Company repurchased 6,000
shares of common stock at prices ranging from $8.91 to $9.02 per share at a
total cost of approximately $54,000, which is recorded as treasury stock in the
accompanying balance sheet.
 
 On
October 15, 2004 (“Closing Date”), the Company completed the acquisition of
Core. In connection with the Transaction, the Company issued 311,437 shares of
its common stock as the Stock Consideration and $2,000,000 in cash, to the
former Core stockholders.
 
  24
   The
holders of the shares of common stock comprising the Stock Consideration have
agreed not to sell any of their shares of common stock for a period of six (6)
months from the Closing Date. Pursuant to the terms of the merger agreement, the
shares of common stock comprising the Stock Consideration will be adjusted in
the event the Company's stock price at the end of the lock-up period is either
greater than twenty-five percent (25%) higher or lower than $10.4355 per share.
The twenty day average price of the stock for the period ending April 15, 2005,
the end of the lock-up, was $5.75, which will result in the issuance of an
additional 112,475 shares. In addition, the merger agreement includes an earnout
provision equal to Core's earnings before taxes, depreciation and amortization
for the twelve (12) month period beginning on October 13, 2004, the execution
date of the merger agreement, and ending on October 12, 2005, which will be paid
in the form of additional shares of the Company's common stock. The number of
shares to be issued in connection with the earnout, if any, will be calculated
by dividing the dollar amount of the earnout by the twenty (20) day average
closing price of the Company’s common stock prior to the end of the earnout
Period. The earnout shares will also be subject to a six (6) month lock-up,
beginning on October 13, 2005, and will be adjusted in the event the Company's
stock price is either greater than twenty-five percent (25%) higher or lower
than the earnout share price at the end of the earnout lock-up period. The
Company has agreed to use its “best-efforts” to file a registration statement
with the Securities and Exchange Commission, registering the resale of all of
the shares of common stock included in the Stock Consideration within six (6)
months from the Closing Date.
 
 Additionally,
pursuant to the terms of the merger agreement, ten percent (10%) of each of the
Stock Consideration and the Cash Consideration has been heldback by the Company,
pursuant to a holdback agreement, for a period of twelve (12) months from the
Closing Date for the purpose of settling any undisclosed liabilities that may be
discovered by the Company during the Holdback Period, for indemnification of any
breach of the representations and warranties made by Core and its primary
stockholder, and for other potential expenses related to the
transaction.
  On March
9, 2005, the Company acquired all of the stock of Accurel Systems International
Corporation from existing shareholders.  The aggregate purchase price of
Accurel is estimated to be $12,270,000, which consists of the issuance of
418,194 shares of Implant common stock with a fair value of $ 3,520,000 based
upon a fair value per share of $8.42, $6,000,000 in cash, $1,650,000 in
shareholder notes and estimated direct acquisition costs of $1,100,000. The fair
value of the shares issued was determined based on the average market price of
the securities over the periods just prior to and following the date of the
merger agreement announcement, pursuant to the guidance in EITF Issue No.
99-12. The purchase is subject to a holdback of $500,000 to be released at
a rate of 25% every 90 days subject to the settlement of any and all liabilities
not reflected in the closing balance sheet. The shares issued are also subject
to adjustment if the Company’s average stock price during the twenty trading
days prior to the end of a six month lock-up is 25% higher or lower than the
price on the closing date. The effect of this adjustment is to limit the selling
shareholders’ gain or loss on Implant common stock to 25% during the lock-up
period ending September 9, 2005.
  On March
23, 2005, Rapiscan Systems Inc (“Rapiscan”) and Implant Sciences Corporation
(“Implant”) entered into a Development, Distribution and Manufacturing Agreement
(the “Agreement”). The Agreement provides for i) the manufacture of Implant’s
existing Quantum Sniffer TM explosives detection equipment (the “QS TM Products”) by Implant and sale of the QS TM Products
to Rapiscan, on a private label basis at a discounted price as agreed to by the
parties, ii) a grant by Rapiscan to Implant of the right to continue selling the
QS TM Products
through Implant’s direct and indirect sales force, iii) the development by
Implant of a trace explosives detection subsystem using Implant’s Quantum
Sniffer TM Technology (the “QS TM Technology”) that could be integrated with Rapiscan’s X-ray baggage screening
device technology, resulting in an automated baggage screening device (the
“QS TM Baggage
Screening Prototype”) to be delivered within twelve (12) months from the date of
the Agreement, iv) the funding by Rapiscan of up to $1,000,000 for the
development of the QS TM Baggage
Screening Prototype to be paid periodically as the development continues based
upon achievement of certain milestones, v) the development by Implant of other
trace explosives detection subsystems (the “Other QS TM Trace
Prototype”) utilizing the QS TM Technology to be delivered within fourteen (14) months from the date of the
Agreement, vi) the funding by Rapiscan of up to $2,000,000 for the development
of the Other QS TM Trace
Prototype to be paid periodically as the development continues based upon
achievement of certain milestones, vii) the parties granting each other various
rights to manufacture components of commercial products resulting from the
development of the QS TM Baggage
Screening Prototype and the Other QS TM Trace
Prototype (collectively, the “Developed Products”), viii) the sale to Rapiscan
of components for the Developed Products manufactured by Implant, ix)
distribution rights granted by Implant to Rapiscan for the marketing, sales and
service of the Developed Products, and x) royalty payments to Implant on an
agreed-upon portion of the sales of the Developed Products made by Rapiscan to
end-user customers. Initial payments of $200,000 under these contracts were made
in April.
 25
 *Critical
Accounting Policies*
 
 Our
significant accounting policies are described in Note 2 to the financial
statements included in Item 7 of our Form 10-KSB/A No. 1 as of June 30, 2004.
Our discussion and analysis of our financial condition and results of operations
are based upon the financial statements, which have been prepared in accordance
with accounting principles generally accepted in the United States. The
preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and
expenses, and related disclosure of contingent assets and liabilities. On an
on-going basis, we evaluate our estimates, including those related to bad debts,
product returns, inventories, investments, intangible assets and warranty
obligations. We base our estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources. In
the past, actual results have not been materially different from our estimates.
However, results may differ from these estimates under different assumptions or
conditions. We adopted SFAS No. 142 and, accordingly, goodwill and other
intangible assets with indefinite lives are no longer amortized, but rather such
assets are subject to annual impairment reviews or more frequently, if events or
circumstances indicate that they may be impaired There has been no change to our
critical accounting policies during the quarter ending March 31,
2005.
  26
  **Item 3.**
    **Controls
      and Procedures**
 
 Based on
an evaluation of our disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), the chief
executive officer and chief financial officer have concluded that our disclosure
controls and procedures as of the end of the three month period ended March 31,
2005, are designed to ensure that information required to be disclosed by us in
the reports that we file or submit under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the
SEC’s rules and forms and are operating in an effective manner.
 
 Based
upon the Controls Evaluation, our CEO and CFO have concluded that, as of the end
of the period covered by this quarterly review, our Disclosure Controls are
effective to ensure that material information relating to our company is made
known to management, including the CEO and CFO, particularly during the period
when our periodic reports are being prepared, and that our Internal Controls are
effective to provide reasonable assurance that our financial statements are
fairly presented in conformity with generally accepted accounting principles.
  27
  PART II:
OTHER INFORMATION
 
 Item 1.
    Legal
      Proceedings
 Not
      Applicable
 Item
      2.
    Unregistered Salesof
Equity
 
 During
the three months ended March 31, 2005, Laurus redeemed 25,762 shares of Series C
into 38,165 shares of the Company’s common stock at conversion price of $6.75
per share and redeemed approximately $3,000 of accrued dividends into 376 shares
of the Company’s common stock. The conversion of accrued dividends into common
stock resulted in additional dividends of approximately $1,000 during the three
months ended March 31, 2005, in excess of 5% stated value.
 
 During
the three months ended March 31, 2005, as a result of the successful completion
of a Series A financing by CorNova, the Company issued an additional 76,687
shares of common to CorNova equaling twenty-five percent (25%) of the gross
proceeds of the Series A Financing.
  Item
      3.
    DefaultsUpon Senior
Securities
 Not
      Applicable
 Item
      4.
    Submission of Matters to a Vote of
      Security-Holders
 Not
      Applicable
 Item
      5.
    OtherInformation
 
 **Certifications
      Under Sarbanes-Oxley Act**
 Our
      chief executive officer and chief financial officer have furnished to the
      SEC the certification with respect to this Report that is required by
      Section 906 of the Sarbanes-Oxley Act of 2002.
 
 Item 6. List of Exhibitsand Reports on Form 8-K
 (a)
    The
      following exhibits, required by Item 601 of Regulation S-B, are filed as
      part of this Quarterly Report on Form 10-QSB. Exhibit numbers, where
      applicable, in the left hand column correspond to those of Item 601 of
      Regulation S-B.
 
 **Exhibit
      No.**
    **Description**31.1
    Certification
      of Chief Executive Officer pursuant to Section 302 Sarbanes-Oxley Act of
      200231.2
    Certification
      of Chief Financial Officer pursuant to Section 302 Sarbanes-Oxley Act of
      200232.1
    Certification
      of the Chief Executive Officer Pursuant to 18 U.S.C. 1350, as adopted
      Pursuant to Section 906 of the Sarbanes-Oxley Act of
  2002.32.2
    Certification
      of the Chief Financial Officer Pursuant to 18 U.S.C. 1350, as adopted
      Pursuant to Section 906 of the Sarbanes-Oxley Act of
  2002.
 
 (b)
    Current
      Report on Form 8-K dated March 9, 2005 regarding the completion of a
      private placement .
 (c)
    Current
      Report on Form 8-K dated March 11, 2005 regarding the acquisition of
      Accurel Systems
 (d)
    Current
      Report on Form 8-K dated March 29, 2005 regarding theDevelopment,
      Distribution and Manufacturing Agreementwith Rapiscan Systems
 28
   SIGNATURES
 
 Pursuant
to the requirements of the Securities and Exchange Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
 
 Implant
      Sciences CorporationDate:
      May 16, 2005
    
    /s/
      Anthony J. ArminiAnthony
      J. ArminiPresident
      and CEODate:
      May 16, 2005
    
    /s/
      Diane J. RyanDiane
      J. RyanChief
      Financial Officer
  
 29