##  

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

** **

**FORM 10-Q/A**

**Amendment No. 1**

 

**x**                              Quarterlyreport pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934.

**Forthe quarterly period ending September 30, 2005.**

**o**                                 Transitionreport pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

**Forthe transition period from               to               .**

**Commissionfile number  000-25839**

**IMPLANT SCIENCES CORPORATION**

(Exact name of registrantas 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**                             |
| (Address of  Principal Executive Offices)                        |       | (Zip Code)                            |

 

**781-246-0700**(Registrant’s Telephone Number, Including Area Code)

Securities registered pursuant toSection 12(b) of the Act:
| **Title of Each Class**       | ** ** | **Name of  Each Exchange on Which Registered** |
|-------------------------------|------------|------------------------------------------------|
| Common Stock,  $.10 par value |       | American Stock  Exchange                       |
| Warrants                      |       | American Stock  Exchange                       |

 

Indicate by check mark whetherthe registrant (1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (orfor 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 by checkmark whether theRegistrant is a shell company (as defined in Rule 12B-2 of the Exchange Act)

YES  o     NO  x

State issuer’s revenues for itsmost recent fiscal year: $12,286,000

The aggregate market value of thevoting stock held by non-affiliates of the registrant was approximately$35,990,000 as of October 31, 2005 (based on the closing price for such stockas of October 31, 2005).

Indicate the number of shares outstanding of each of the issuer’sclasses of common stock:
| **Class**                     | ** ** | **Outstanding  at October 31, 2005** |
|-------------------------------|------------|--------------------------------------|
| Common Stock,  $.10 par value |       | 11,401,724                           |

 

 

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**IMPLANT SCIENCES CORPORATION**

**INDEX**
|                                | **Page No.** |
|--------------------------------|--------------|
| PART I.  FINANCIAL INFORMATION |
|                           |         |   |   |   |
|                           |         |   |   |   |
|                           |         | Explanatory Note |   | 3 |
|                           |         |   |   |   |
| Item 1.                        |         | Financial Statements: |   |   |
|                           |         |   |   |   |
|                           |         | Condensed Consolidated Balance Sheets as of September  30, 2005 (restated) and  June 30, 2005 |   | 4 |
|                           |         |   |   |   |
|                           |         | Condensed Consolidated Statements of Operations for  the Three Months Ended  September 30, 2005 and 2004 |   | 5 |
|                           |         |   |   |   |
|                           |         | Condensed Consolidated Statements of Cash Flows for  the Three Months Ended  September 30, 2005 (restated) and 2004 |   | 6 |
|                           |         |   |   |   |
|                           |         | Notes to Condensed Consolidated Financial Statements  (restated) |   | 8 |
|                           |         |   |   |   |
| Item 2.                        |         | Management’s Discussion and Analysis of Financial  Condition and Results of Operations  (restated) |   | 19 |
|                           |         |   |   |   |
| Item 3.                        |         | Quantitative and Qualitative Disclosure About Market  Risk |   | 27 |
|                           |         |   |   |   |
| Item 4.                        |         | Controls and Procedures (restated) |   | 28 |
|                           |
| PART II. OTHER  INFORMATION    |
|                           |         |   |   |   |
|                           |         |   |   |   |
| Item  1.                       |         | Legal  Proceedings |   | 29 |
|                           |         |   |   |   |
| Item 2.                        |         | Unregistered Sales of Equity Securities |   | 29 |
|                           |         |   |   |   |
| Item 3.                        |         | Defaults Upon Senior Securities |   | 29 |
|                           |         |   |   |   |
| Item 4.                        |         | Submission of Matters to a Vote of Security-Holders |   | 29 |
|                           |         |   |   |   |
| Item  5.                       |         | Other  Information |   | 29 |
|                           |         |   |   |   |
| Item 6.                        |         | Exhibits and Reports on Form 8-K |   | 30 |
|                           |         |   |   |   |
|                           |         | Signatures |   | 31 |
|                                |              |  |  |  |  |

 

----

 

**EXPLANATORY NOTE**

ThisAmendment No. 1 (the “Amended Report”) is being filed to correct an error inthe accounting and reporting of the fair value of certain embedded derivatesassociated with the Series D Cumulative Redeemable Preferred Stock (the “SeriesD”) as reflected in the Company’s financial statements reported on Form 10-Qfor the period ended September 30, 2005 (the “Original Report”). The disclosureerroneously neglected to bifurcate the embedded derivative instruments from thehost contract and report the embedded derivative instruments at fair value inaccordance with the provisions of Statement of Financial Accounting Standard(“SFAS”) No. 133, “Accounting for Derivative Instruments and HedgingActivities,” and Emerging Issues Task Force (“EITF”) Issue No. 00-19,“Accounting for Derivative Financial Instruments Indexed to and Potentially Settledin a Company’s Own Stock.”   The Companyis filing this Amended Report in order to restate its financial statements torecord the fair value of the embedded derivative instruments as a liability.   For this reason, the Company is filing thisReport in order to amend Part 1. Item 1. “Financial Statements,” Part 1. Item 2. “Management’s Discussion andAnalysis of Financial Condition and Results of Operations,” and Part 1. Item 3.“Controls and Procedures” solely to the extent necessary to reflect the adjustmentdescribed herein.  The remaining Items ofthe Original Report are not amended hereby.

Inorder to preserve the nature of the disclosures set forth in the OriginalReport, except as expressly noted above, this report speaks as of the date ofthe filing of the Original Report, dated November 21, 2005, and the Company hasnot updated the disclosures in this report to speak of as a later date.  All information contained in this AmendedReport is subject to updating and supplementing as provided in the Company’sreports with the SEC subsequent to the date of the Original Report.

3

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**IMPLANT SCIENCES CORPORATION****CONDENSED CONSOLIDATED BALANCE SHEETS**

 
| ** **                                                                                                                                                    | ** ** | **September 30,** | ** ** | **June 30,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|-------------------|------------|
| ** **                                                                                                                                                    | ** ** | **2005**               | ** ** | **2005**          | ** ** |
| ** **                                                                                                                                                    | ** ** | **(Restated)**         | ** ** | ** **        | ** ** |
| **ASSETS**                                                                                                                                                    | ** ** | ** **             | ** ** | ** **        | ** ** |
| Current assets:                                                                                                                                               |       |                   |       |              |       |
| Cash and cash  equivalents                                                                                                                                    |       | $                      | 3,432,000  |              | $          | 1,549,000 |   |
| Accounts receivable,  less allowance of $147,000 and $147,000, respectively                                                                                   |       | 2,462,000              |       | 3,003,000         |       |
| Accounts receivable,  unbilled                                                                                                                                |       | 542,000                |       | 298,000           |       |
| Inventories (Note 3)                                                                                                                                          |       | 1,768,000              |       | 1,204,000         |       |
| Investments — available  for sale securities                                                                                                             |       | 257,000                |       | 204,000           |       |
| Prepaid expenses and  other current assets                                                                                                                    |       | 304,000                |       | 224,000           |       |
| Total current assets                                                                                                                                          |       | 8,765,000              |       | 6,482,000         |       |
|                                                                                                                                                          |       |                   |       |              |       |
| Property and equipment,  net (Note 4)                                                                                                                         |       | 10,093,000             |       | 10,434,000        |       |
| Amortizable intangible  assets, net (Note 11)                                                                                                                 |       | 1,850,000              |       | 2,057,000         |       |
| Investment in  unconsolidated subsidiary (Note 5)                                                                                                             |       | 449,000                |       | 531,000           |       |
| Other non-current  assets                                                                                                                                     |       | 505,000                |       | 511,000           |       |
| Goodwill (Note 11)                                                                                                                                            |       | 12,235,000             |       | 12,213,000        |       |
| Total assets                                                                                                                                                  |       | $                      | 33,897,000 |              | $          | 32,228,000 |   |
|                                                                                                                                                          |       |                   |       |              |       |
| **LIABILITIES AND STOCKHOLDERS’  EQUITY**                                                                                                                | ** ** | ** **             | ** ** | ** **        | ** ** |
| Current liabilities:                                                                                                                                          |       |                   |       |              |       |
| Current maturities of long-term  debt and obligations under capital lease                                                                                     |       | $                      | 403,000    |              | $          | 2,052,000 |   |
| Payable to Med-Tec                                                                                                                                            |       | 318,000                |       | 348,000           |       |
| Accrued expenses                                                                                                                                              |       | 2,242,000              |       | 2,445,000         |       |
| Accounts payable                                                                                                                                              |       | 1,690,000              |       | 1,526,000         |       |
| Current portion of long  term lease liability                                                                                                                 |       | 102,000                |       | 102,000           |       |
| Deferred revenue                                                                                                                                              |       | 1,379,000              |       | 773,000           |       |
| Total current  liabilities                                                                                                                                    |       | 6,134,000              |       | 7,246,000         |       |
|                                                                                                                                                          |       |                   |       |              |       |
| Long-term liabilities:                                                                                                                                        |       |                   |       |              |       |
| Long-term debt and  obligations under capital lease, net of current maturities                                                                                |       | 835,000                |       | 897,000           |       |
| Long-term lease  liability                                                                                                                                    |       | 680,000                |       | 701,000           |       |
| Value of derivative  instruments                                                                                                                              |       | 1,397,000              |       | —            |       |
| Total liabilities                                                                                                                                             |       | 9,046,000              |       | 8,844,000         |       |
|                                                                                                                                                          |       |                   |       |              |       |
| Commitments and  Contingencies (Note 10)                                                                                                                      |       |                   |       |              |       |
| Series D Convertible  Redeemable Preferred Stock                                                                                                              |       |                   |       |              |       |
| Series D Cumulative  Redeemable Preferred Stock; $10 stated value; 500,000 shares designated;  500,000 shares issued and outstanding as of September 30, 2005 |       | 2,660,000              |       | —            |       |
|                                                                                                                                                          |       |                   |       |              |       |
| Stockholders’ equity:                                                                                                                                    |       |                   |       |              |       |
| Common stock, $0.10 par  value; 20,000,000 shares authorized; 11,379,275 and 10,734,393 shares  issued and outstanding, respectively                     |       | 1,140,000              |       | 1,075,000         |       |
| Additional paid-in  capital                                                                                                                                   |       | 51,807,000             |       | 50,995,000        |       |
| Accumulated deficit                                                                                                                                           |       | (30,482,000            | )          | (28,115,000       | )          |
| Deferred compensation                                                                                                                                         |       | (63,000                | )          | (349,000          | )          |
| Accumulated other  comprehensive income (loss)                                                                                                                |       | 6,000                  |       | (5,000            | )          |
| Treasury stock, 22,449  and 22,449 common shares, respectively, at cost                                                                                       |       | (217,000               | )          | (217,000          | )          |
| Total stockholders’  equity                                                                                                                              |       | 22,191,000             |       | 23,384,000        |       |
|                                                                                                                                                          |       |                   |       |              |       |
| Total liabilities and stockholders’ equity                                                                                                               |       | $                      | 33,897,000 |              | $          | 32,228,000 |   |

 

The accompanying notes are an integral part of these condensedconsolidated financial statements

4

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**IMPLANT SCIENCES CORPORATIONCONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS**
| ** **                                                                                           | ** ** | **Three Months Ended  September 30,** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                                                           | ** ** | **2005**                                             | ** ** | **2004** | ** ** |
| Revenues:                                                                                            |       |                                                 |       |   |   |
| Medical                                                                                              |       | $                                                    | 1,149,000  |   | $ | 960,000 |   |
| Semiconductor                                                                                        |       | 3,122,000                                            |       | 334,000 |   |
| Explosives detection                                                                                 |       | 401,000                                              |       | 980,000 |   |
| Total revenues                                                                                       |       | 4,672,000                                            |       | 2,274,000 |   |
|                                                                                                 |       |                                                 |       |   |   |
| Cost of  revenues:                                                                                   |       |                                                 |       |   |   |
| Cost of medical revenues                                                                             |       | 959,000                                              |       | 797,000 |   |
| Cost of semiconductor revenues                                                                       |       | 2,697,000                                            |       | 371,000 |   |
| Cost of explosives detection revenues                                                                |       | 1,022,000                                            |       | 638,000 |   |
| Total cost of revenues                                                                               |       | 4,678,000                                            |       | 1,806,000 |   |
|                                                                                                 |       |                                                 |       |   |   |
| Gross margin                                                                                         |       | (6,000                                               | )          | 468,000 |   |
|                                                                                                 |       |                                                 |       |   |   |
| Operating  expenses:                                                                                 |       |                                                 |       |   |   |
| Research and development                                                                             |       | 316,000                                              |       | 586,000 |   |
| Selling, general and administrative                                                                  |       | 1,923,000                                            |       | 1,060,000 |   |
| Total operating expenses                                                                             |       | 2,239,000                                            |       | 1,646,000 |   |
|                                                                                                 |       |                                                 |       |   |   |
| Loss from  operations                                                                                |       | (2,245,000                                           | )          | (1,178,000 | ) |
|                                                                                                 |       |                                                 |       |   |   |
| Other income  (expenses):                                                                            |       |                                                 |       |   |   |
| Interest income                                                                                      |       | 11,000                                               |       | 16,000 |   |
| Interest expense                                                                                     |       | (92,000                                              | )          | (18,000 | ) |
| Equity losses in unconsolidated subsidiaries                                                         |       | (41,000                                              | )          | (11,000 | ) |
| Total other expense, net                                                                             |       | (122,000                                             | )          | (13,000 | ) |
|                                                                                                 |       |                                                 |       |   |   |
| Net loss                                                                                             |       | (2,367,000                                           | )          | (1,191,000 | ) |
|                                                                                                 |       |                                                 |       |   |   |
| Preferred  distribution, dividends and accretion                                                     |       | —                                               |       | (284,000 | ) |
|                                                                                                 |       |                                                 |       |   |   |
| Net loss  applicable to common shareholders                                                          |       | $                                                    | (2,367,000 | ) | $ | (1,475,000 | ) |
|                                                                                                 |       |                                                 |       |   |   |
| Net per share  applicable to common shareholders, basic and diluted                                  |       | $                                                    | (0.22      | ) | $ | (0.17 | ) |
|                                                                                                 |       |                                                 |       |   |   |
| Weighted average  common shares outstanding used in computing basic and diluted loss  per share |       | 10,962,703                                           |       | 8,466,559 |   |

 

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

5

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**IMPLANT SCIENCES CORPORATIONCONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**
| ** **                                                                                                              | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                                              | ** ** | **September 30,**           | ** ** |
| ** **                                                                                                              | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| ** **                                                                                                              | ** ** | **(Restated)**                   | ** ** | ** ** | ** ** |
| **Cash  flows from operating activities:**                                                                              | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net loss                                                                                                                |       | $                                | (2,367,000 | ) | $ | (1,191,000 | ) |
| Adjustments to reconcile net loss to net cash used  in operating activities:                                            |       |                             |       |   |   |
| Depreciation and amortization                                                                                           |       | 579,000                          |       | 334,000 |   |
| Amortization of intangible assets                                                                                       |       | 220,000                          |       | — |   |
| Stock-based compensation expense                                                                                        |       | 411,000                          |       | 63,000 |   |
| Equity loss in unconsolidated subsidiaries                                                                              |       | 41,000                           |       | 11,000 |   |
| Loss on equipment write down                                                                                            |       | —                           |       | 6,000 |   |
| Changes in operating assets and liabilities:                                                                            |       |                             |       |   |   |
| Accounts receivable                                                                                                     |       | 296,000                          |       | (889,000 | ) |
| Inventories                                                                                                             |       | (564,000                         | )          | (8,000 | ) |
| Prepaid expenses and other current assets                                                                               |       | (80,000                          | )          | 30,000 |   |
| Deferred revenue                                                                                                        |       | 606,000                          |       | — |   |
| Accounts payable                                                                                                        |       | 136,000                          |       | 378,000 |   |
| Accrued expenses                                                                                                        |       | (224,000                         | )          | 18,000 |   |
| Net cash used in operating activities                                                                                   |       | (946,000                         | )          | (1,248,000 | ) |
|                                                                                                                    |       |                             |       |   |   |
| **Cash  flows from (for) investing activities:**                                                                        | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Purchase of property and equipment                                                                                      |       | (170,000                         | )          | (142,000 | ) |
| Investment in Core Systems                                                                                              |       | (9,000                           | )          | — |   |
| Investment in Accurel Systems International                                                                             |       | (2,000                           | )          | — |   |
| Increase in other non-current assets                                                                                    |       | (19,000                          | )          | (83,000 | ) |
| Net cash used in investing activities                                                                                   |       | (200,000                         | )          | (225,000 | ) |
|                                                                                                                    |       |                             |       |   |   |
| **Cash  flows from financing activities:**                                                                              | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Proceeds from issuance of common stock in connection  with the exercise of options and the Employee Stock Purchase Plan |       | 29,000                           |       | 774,000 |   |
| Proceeds from exercise of warrants and non-employee  options                                                            |       | 69,000                           |       | 10,000 |   |
| Proceeds from issuance of 5% Series D Cumulative  Redeemable Preferred Stock, net of issuance costs                     |       | 1,883,000                        |       | — |   |
| Proceeds from secured term note, net of fees and  transaction costs                                                     |       | 2,833,000                        |       | — |   |
| Repayments of long-term debt and capital lease  obligations                                                             |       | (1,760,000                       | )          | (194,000 | ) |
| Acqusition of treasury shares                                                                                           |       | —                           |       | (54,000 | ) |
| Proceeds from issuance of common stock in connection  with private placement, net of issuance costs                     |       | (25,000                          | )          | (25,000 | ) |
| Net cash provided by financing activities                                                                               |       | 3,029,000                        |       | 511,000 |   |
|                                                                                                                    |       |                             |       |   |   |
| Net (decrease) increase in cash and cash equivalents                                                                    |       | 1,883,000                        |       | (962,000 | ) |
| Cash and cash equivalents, beginning                                                                                    |       | 1,549,000                        |       | 6,906,000 |   |
| Cash and cash  equivalents, ending                                                                                      |       | $                                | 3,432,000  |   | $ | 5,944,000 |   |

 

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

6

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** **
| ** **                                                                                                              | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                                              | ** ** | **September 30,**           | ** ** |
| ** **                                                                                                              | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| ** **                                                                                                              | ** ** | **(Restated)**                   | ** ** | ** ** | ** ** |
| **Supplemental  Disclosure of Cash Flow Information:**                                                                  | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Interest paid in  cash                                                                                                  |       | $                                | 109,000    |   | $ | 18,000 |   |
|                                                                                                                    |       |                             |       |   |   |
| **Noncash  Investing and Financing Activity:**                                                                          | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Conversion of  Series C Cumulative Convertible Preferred Stock and accrued dividends into  common stock                 |       | $                                | —     |   | $ | 577,000 |   |
| Accretion of 5%  Series C Cumulative Convertible Preferred Stock dividends, beneficial  conversion feature and warrants |       | $                                | —     |   | $ | 284,000 |   |
| Repayment of  term note a with Series D Convertible Redeemable Preferred Stock                                          |       | $                                | 3,000,000  |   | $ | — |   |
| Capital  equipment acquired under capital lease                                                                         |       | $                                | 42,000     |   | $ | — |   |

 

The accompanyingnotes are an integral part of these condensed consolidated financialstatements.

7

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**IMPLANTSCIENCES CORPORATIONNOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTSSeptember 30, 2005(Restated)**

**1.****                                Descriptionof Business**

Implant SciencesCorporation (the “Company”) develops products for the medical device andexplosives detection industry and provides services to the semiconductorindustry.  Its core technology involvesion implantation and thin film coatings of radioactive and non-radioactivematerials.  The Company has received Foodand Drug Administration 510(k) clearance to market radioactive seeds for thetreatment of prostate cancer and breast cancer therapy.  The Company also modifies the surfacecharacteristics of orthopedic joint implants to reduce polyethylene wear andthereby increasing the life of the implant. The Company also provides ion implantation, analytical services andequipment to the semiconductor industry. The Company continues to make significant investments in developing newapplications of its explosives detection systems while ramping up itsmanufacturing capabilities in anticipation of order fulfillment.

These condensedconsolidated financial statements have been prepared on a going concern basis,which contemplates the realization of assets and the satisfaction ofliabilities in the normal course of business.  For the three months ended September 30, 2005the Company had a net loss from continuing operations of $2,367,000.  The Company also had cash and cashequivalents of $3,432,000 and net working capital of $2,631,000.  The Company continually reviews its operatingplans to determine if it has adequate cash flows to fund its operations andachieve its operating plans.  Althoughthe Company believes it can achieve these plans there can be no assurances thatit will.  If the Company fails to achieveits revenue and gross margin goals, it would have to undertake additional stepsto fund operations.  These steps mayinclude: obtaining additional financing, entering into strategic agreements tofund the development of our products and/or cutting costs and expenses.

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

The accompanyingcondensed consolidated financial statements of the Company have been preparedin accordance with the accounting principles generally accepted in the UnitedStates of America. In the opinion of management, the accompanying condensedconsolidated financials statements includes all adjustments (consisting only ofnormal recurring adjustments), which the Company considers necessary for a fairpresentation of the financial position at such date and of the operatingresults and cash flows for these periods. The result of operations and cash flows for the three months endedSeptember 30, 2005 may not necessarily be indicative of results that may beexpected for any succeeding quarter or for the entire fiscal year.  The information contained in this Form 10-Qshould be read in conjunction with the Company’s audited financial statements,included in our Form 10-KSB as of and for the year ending June 30, 2005 filedwith the Securities and Exchange Commission on October 13, 2005.

The accompanyingconsolidated financial statements include the accounts of the Company and itswholly owned subsidiaries.  Allintercompany balances have been eliminated in consolidation.

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States (“U.S. GAAP”) requires management to makeestimates and judgments, which are evaluated on an on-going basis, that affectthe amounts reported in the Company’s condensed consolidated financial statementsand accompanying notes.  Management basesits estimates on historical experience and on various other assumptions that itbelieves are reasonable under the circumstances, the results of which form thebasis for making judgments about the carrying values of assets and liabilitiesand the amounts of revenues and expenses that are not readily apparent fromother sources.  Actual results coulddiffer from those estimates and judgments, In particular, significant estimates and judgments include those relatedto revenue recognition, allowance for doubtful accounts, useful lives ofproperty and equipment, inventory reserves, business combinations, valuationfor goodwill and acquired intangible assets, and warranty reserves.

8

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**3.****                                      Inventories**

Inventories consist ofthe following:

|                  | ** ** | **September 30,** | ** ** | **June 30,** | ** ** |
|------------------|------------|------------------------|------------|-------------------|------------|
| ** **       | ** ** | **2005**               | ** ** | **2005**          | ** ** |
| Raw materials    |       | $                      | 837,000    |              | $          | 548,000 |   |
| Work-in-progress |       | 536,000                |       | 416,000           |       |
| Finished goods   |       | 395,000                |       | 240,000           |       |
|             |       | $                      | 1,768,000  |              | $          | 1,204,000 |   |

 

**4.****                                      Propertyand Equipment**

Propertyand equipment consists of the following**:**

|                                                  | ** ** | **September 30,** | ** ** | **June 30,** | ** ** |
|--------------------------------------------------|------------|------------------------|------------|-------------------|------------|
| ** **                                       | ** ** | **2005**               | ** ** | **2005**          | ** ** |
| Total property  and equipment                    |       | 15,837,000             |       | 15,624,000        |       |
| Less:  Accumulated depreciation and amortization |       | (5,744,000             | )          | (5,190,000        | )          |
| Property, plant and  equipment, net              |       | $                      | 10,093,000 |              | $          | 10,434,000 |   |
|                                                  |            |                        |            |                   |            |  |  |

 

**5.****                                      RelatedParty Transactions**

Statement of FinancialAccounting Standard (“SFAS”) No. 57, “Related Party Disclosures,” specifies thenature of information that should be disclosed in financial statementsregarding related party transactions. CardioTech, a publicly traded company whose common stock trades underthe symbol CTE on the American Stock Exchange, is a related party with theCompany by virtue of its significant business relationships.

Certain directors of theCompany hold positions as directors of CardioTech.  The CEO and Chairman of the Board ofDirectors of the Company is also a director of CardioTech.  The CEO and Chairman of the Board ofDirectors of CardioTech is also a director of the Company.

In March 2000, theCompany entered into a joint research agreement with CardioTech to develop aproprietary porous polymer biocompatible coating technology as a platform forthe Company’s proprietary radioactive brachytherapy technology.  In consideration for this agreement, theCompany agreed to pay $150,000 in cash and purchase 100,000 shares ofCardioTech stock at a price of $1.00 per share. As of September 30, 2005, the Company has purchased these shares, thefair market value of which is $257,000 and is recorded as investments inavailable for sale securities in the accompanying consolidated balancesheet.  The unrealized holding gains andlosses are recorded as accumulated other comprehensive income (loss) withinstockholders’ equity.

In March 2004 the Companyentered into an Exchange & Venture Agreement with CardioTech andCorNova.  The Company’s CEO and theCompany’s Chairman of the Nominating Committee are also on the Board ofDirectors of CorNova.

**6.****                                      EmployeeStock-Based Compensation**

On December 16, 2004, theFinancial Accounting Standards Board (“FASB”) issued SFAS No. 123 (Revised2004) (“SFAS 123R”), “Share-Based Payments,” which is a revision of SFAS No.123, “Accounting for Stock-Based Compensation.” SFAS 123R supersedes Accounting Principal Board (“APB”) Opinion No. 25, “Accountingfor Stock Issued to Employees,” and amends SFAS No. 95, “Statement of CashFlows.”  Generally, the approach in SFAS123R is similar to the approach described in SFAS 123.  However, SFAS 123R requires all share-basedpayments to employees, including grants of 

9

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employee stock options and stock issued from certainemployee stock purchase plans, to be recognized in the income statement basedon their fair values.  Pro formadisclosure is no longer an alternative.

Prior to the quarterending September 30, 2005, as was permitted under SFAS No. 123, the Companyaccounted for stock-based awards using the intrinsic value method under APB No.25.  Under APB No. 25, when the exerciseprice of options granted to employees and non-employee directors under theseplans equals the market price of the underlying stock on the date of the grant,no compensation expense was recorded.

Effective July 1, 2005,the Company adopted SFAS 123R.  TheCompany selected the modified prospective method of adoption in whichcompensation cost is recognized beginning with the effective date for allshare-based payments to employees after July 1, 2005 and any unvestedshare-based payments to employees as of the effective date.  In accordance with the modified prospectivemethod of adoption, the Company’s results of operations for prior periods havenot been restated.

The Company has refinedcertain estimates used previously based upon the guidance provided under SFAS123R, specifically the expected life of the option.  The calculation of the fair value of theawards for the quarter ended September 30, 2005 has been adjusted to reflectthese refined assumptions..

The followingtable illustrates the effect on net loss applicable to common shareholders andnet loss per share applicable to common shareholders as if the fair valuemethod had been applied to all outstanding and unvested awards in the priorperiod:

|                                                                                                                                                    | ** ** | **Three Months Ended  September 30,  2004** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------|------------|
| Net loss applicable to common shareholders as  reported for the three month period ended September 30, 2004.                                       |       | $                                                     | (1,475,000 | ) |
|                                                                                                                                               |       |                                                  |       |
| Add: Stock-based employee compensation expense  included in proforma net loss and reported net loss applicable to common  shareholders, net of tax |       | 59,000                                                |       |
|                                                                                                                                               |       |                                                  |       |
| Deduct: Total stock-based employee compensation  expense determined under the fair value based method of all awards, net of  tax                   |       | (213,000                                              | )          |
|                                                                                                                                               |       |                                                  |       |
| Proforma net loss, for the three month periods ended  September 30, 2004 applicable to common shareholders after adopting SFAS 123R      |       | $                                                     | (1,629,000 | ) |
|                                                                                                                                               |       |                                                  |       |
| Net loss per share applicable to common  shareholders, basic and diluted:                                                                          |       |                                                  |       |
| As reported                                                                                                                                        |       | $                                                     | (0.17      | ) |
| Pro forma, three months ended September 30, 2004                                                                                                   |       | $                                                     | (0.19      | ) |

 

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Underthe provisions of SFAS 123R the Company recorded $385,000 of stock basedcompensation on its condensed consolidated statement of operations for thethree month period ended September 30, 2005, included in the following expensecategories:

| Cost of revenues                      |   | $      | 82,000  |   |
|---------------------------------------|--------|--------|---------|--------|
| Research and  development             |   | 68,000 |    |
| Selling, general  and administrative  |   | $      | 235,000 |   |
|                                  |   |   |    |
| Total SFAS 123R  compensation expense |   | $      | 385,000 |   |

 

Expense related toshares to be purchased in the Employee Stock Purchase Plan were not material.The Company also had $26,000 of compensation expense attributable tonon-employee options and warrants.

The fair value of each option award is estimated on the date of grantusing the Black-Scholes option pricing model using the assumptions noted in thefollowing table.  Expected volatilitiesare based on historical volatility of the Company’s stock options.  The Company uses historical data to estimateoption forfeitures within the valuation model. The expected term of optionsgranted is calculated using the “Simplified Method” as outlined SFAS 123R andreflects the period of time that options granted are expected to beoutstanding.  The risk-free rate forperiods within the contractual life of the option is based on the U.S Treasuryyield curve in effect at the time of grant.

|                         | ** ** | **Stock Options  Plans** | ** ** | **Stock Purchase  Plan** |
|-------------------------|------------|-------------------------------|------------|-------------------------------|
| Risk free interest rate |       | 3.34%-4.35%                   |       | 3.22                          |
| Expected dividend yield |       | 0%                            |       | 0%                            |
| Expected lives (years)  |       | 3.5  - 6 years(1)             |       | 6  months                     |
| Expected volatility     |       | 57% - 80%                     |       | 81%                           |

----

(1)          Theestimate of an options expected life has been updated and revised for allgrants outstanding prior to adoption based upon guidance provided under SFAS123R and SAB Topic 14. The estimate of expected life was revised to use the “simplifiedmethod” to determine the expected life of an option versus the contractual lifeas previously used.

**7.****                         ****Share-basedCompensation Plans**

The Company hastwo types of shared based compensation plans, a Stock Option Plan and anEmployee Stock Purchase Plan.

*Stock Option Plans*

In September 1998,the Company adopted the 1998 Stock Option Plan (the “1998 Plan”).  The 1998 Plan provides for the grant ofincentive stock options and nonqualified stock options to employees andaffiliates.  The exercise price of theoptions equals 100% of the fair market value on the date of the grant.  Options expire ten years from the date of theoption grant and vest ratably over a three-year period commencing with thesecond year.

In December 2000,the Company adopted the 2000 Incentive and Non Qualified Stock Option Plan (the“2000 Plan”).  The 2000 Plan provides forthe grant of incentive stock options and nonqualified stock options toemployees and affiliates.  The exerciseprice of the options equal 100% of the fair market value 

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on the date of the grantor 110% of the fair market value for greater than 5% beneficial owners of theCompany stock.  Options expire betweenfive and ten years from the date of the option grant and have variable vestingperiods.

In December 2004,the Company adopted the 2004 Stock Option Plan. The 2004 Plan provides for the grant of incentive stock options andnonqualified stock options to employees and affiliates.  The exercise price of the options equal 100%of the fair market value on the date of the grant or 110% of the fair marketvalue for greater than 10% beneficial owners of the Company stock.  Options expire between five and ten yearsfrom the date of the option grant and have variable vesting periods

A summary of optionactivity under the plans as of and for the period September 30, 2005 are asfollows:

|                                    | ** ** | **Shares** | ** ** | **Weighted-Average  Exercise Price** | ** ** |
|------------------------------------|------------|------------|------------|-------------------------------------------|------------|
| Outstanding at  June 30, 2005      |       | 1,908,331  |       | $                                         | 5.66       |   |
|                               |       |       |       |                                      |       |
| Granted                            |       | 88,000     |       | 6.72                                      |       |
| Exercised                          |       | (2,500     | )          | 2.10                                      |       |
| Canceled                           |       | (184,440   | )          | 6.30                                      |       |
| Outstanding at  September 30, 2005 |       | 1,809,391  |       | $                                         | 6.30       |   |

 

A summary of theunvested option activity under the plans as of and during the three monthperiod ended September 30, 2005 is as follows:

| Unvested Options           | ** ** | **Shares** | ** ** | **Weighted-Average  Fair Value** | ** ** |
|---------------------------------|------------|------------|------------|---------------------------------------|------------|
| Unvested at June  30, 2005      |       | 891,969    |       | $                                     | 4.79       |   |
|                            |       |       |       |                                  |       |
| Granted                         |       | 88,000     |       | 4.79                                  |       |
| Vested                          |       | (141,503   | )          | 5.47                                  |       |
| Forfeited                       |       | (64,099    | )          | 5.71                                  |       |
| Unvested at  September 30, 2005 |       | 774,367    |       | $                                     | 4.59       |   |

 

As of September 30, 2005there was $2,917,000 of total unrecognized compensation expense related tounvested share based compensation arrangements under the plan.  This expense is expected to be recognized asfollows:

| Year ending June 30: | ** ** | ** ** | ** ** |
|-------------------------------------|------------|------------|------------|
| 2006                                |       | $          | 1,235,000  |   |
| 2007                                |       | 1,151,000  |       |
| 2008                                |       | 502,000    |       |
| 2009                                |       | 29,000     |       |
|                                |       |       |       |
| Total                               |       | $          | 2,917,000  |   |

 

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*EmployeeStock Purchase Plan*

In September 1998,the Company adopted the 1998 Employee Stock Purchase Plan (the “Plan”).  The Plan provides a method whereby employeesof the Company will have an opportunity to acquire an ownership interest in theCompany through the purchase of shares of common stock of the Company throughpayroll deductions.  After 12 months ofemployment, an employee is eligible to participate and can defer up to 10% oftheir wages into this Plan, with a maximum of $25,000 in any calendaryear.  The purchase price of the commonstock is calculated at the lower of 85% of the closing price of the stock onthe first day of the plan period or the last day of the plan period.  The periods are January 1 to June 30 and July1 to December 31.  Fractional shares arenot issued.  Participants may withdraw atany time by giving written notice to the Company and will be credited theamounts of deferrals in their account. The maximum number of shares eligible to be issued under the Plan is141,000.  As of June 30, 2005, a total of119,681 shares are available for issuance under the Plan.   Estimated compensation expense under theplan for the period ended September 30, 2005 is $17,000.

**8.****                                      SecuredTerm Note and Series D Cumulative Redeemable Preferred Stock Financing**

On July 6, 2005, the Company executed a $3.0 million securedterm note payable to Laurus Master Fund, Ltd. (“Laurus”).   The Company received $3,000,000 in grossproceeds, less a management fee of $135,000 and related transaction costs ofapproximately $32,000.  The term note wascollateralized by substantially all of the Company’s assets, had a 4-month termand bore interest at a rate equal to the prime rate plus once percent(1%).  In connection with the financing,on September 30, 2005, the Company issued Laurus a warrant to purchase up to250,000 shares of the Company’s common stock at a price equal to $3.75 pershare.  The warrants were valued usingthe Black Scholes model and the following assumptions:  volatility of 67%, expected life of 5 yearsand a risk free interest rate of 3.77%. Net proceeds from the financing were used for increasing the capacity ofthe Quantum SnifferTM production line, increasing unit inventories and therepayment of certain indebtedness due and owed by the Company to the formershareholders of Accurel in connection with the acquisition of this wholly-ownedsubsidiary.

OnSeptember 30, 2005, the Company issued 500,000 shares of Series DConvertible Redeemable Preferred Stock (“Series D”) having a stated value of $10per share, pursuant to a Securities Purchase Agreement with Laurus.  The Company received $5,000,000 in grossproceeds, less a management and placement agent fee of approximately $90,000,and related transaction costs of approximately $27,000.  The Series D has a dividend equal to theprime rate plus one percent (1%)  (6.75%as of September 30, 2005) and provides for redemption over a thirty-six monthperiod pursuant to an amortization schedule.

The following tablereflects the required redemption of the Series D before the effect of theaccrued dividends:

Monthly redemption

|                       | ** ** | **Preferred Stock  Redemption  Schedule** | ** ** |
|-----------------------|------------|------------------------------------------------|------------|
| Year ending June  30: |       |                                           |       |
| 2006                  |       | $                                              | 912,000    |   |
| 2007                  |       | 1,824,000                                      |       |
| 2008                  |       | 1,824,000                                      |       |
| 2009                  |       | 440,000                                        |       |
| Total                 |       | $                                              | 5,000,000  |   |

 

The monthly redemption ofapproximately $152,000 plus accrued dividends commences on January 1,2006.  Subject to certain conditions, itis at the Company’s option to pay this amount in cash or in common stock at afixed conversion price of $6.80 per common share. This fixed conversion priceis

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subject to reset should the Company declare a stockdividend or split, combine the outstanding Common Stock into a smaller numberof shares, or issue, by reclassification of its Common Stock, any shares orother securities of the Corporation.  Thefixed conversion price shall be adjusted proportionately so that the holder ofthe Series D shall be entitled to receive the kind and number of shares orother securities of the Corporation which such Holder would have owned or havebeen entitled to receive after the happening of any of the events describedabove, had such shares of Series D Preferred Stock been converted immediatelyprior to the happening of such event.

The following conditionsmust be met in order for the Company to be permitted to pay in commonstock:  (1) the shares must be issuedpursuant to an effective registration statement, (2) the average closing marketprice of the common stock for the five trading days immediately preceding apayment date must exceed the fixed conversion price by 110% and no one day’sclosing price may be less than the fixed conversion price, and (3) theconversion dollar value may not exceed the aggregate of the prior 22 tradingdays’ dollar volume.  The dividend rateis subject to a 2% decrease for every 25% the average trading price for thefive trading days prior to a repayment date exceeds the fixed conversion price,to a minimum of 0%.  In addition, uponnotifying the holder, the Company has the option of redeeming any outstandingshares of Series D with cash by paying 130% of the stated value plus accruedinterest.

As a condition ofclosing, the Company and each of its Subsidiaries granted a security interestin their respective assets as well as providing Laurus a right of first refusalon future financing arrangements during the term of the Agreement.  In the event Laurus declines to exercise itsright of first refusal, it agreed to enter into such documentation as shall bereasonably requested by the Company in order to subordinate its rights underthe Series D to the subsequent financier.  The registration rights associated with the Agreement state that theCompany will use its best efforts to have the registration statement effectivewithin 120 days from closing.  In addition,the Company is required to maintain an effective registration statement, andensure that shares are not suspended from trading.  Upon notice from Laurus, should the Companybe declared in default of these items and have not cured the default within theprescribed period, the Company may be assessed liquidated damages equal to 1/30th of 0.1% of the outstanding preferred balance,payable in cash, for each day the event has occurred and remainsoutstanding.  However, pursuant to theAgreement, “liquidated damages do not apply should the Securities and ExchangeCommission (“SEC”) have an issue with respect to the Holder or with respect tothe structure of the transaction.”

In conjunction with theSeries D, the Company also issued to Laurus a warrant to purchase up to 50,000shares of the Company’s common stock at a price equal to $10.20 per share.  The warrants were valued using the BlackScholes model and the following assumptions: volatility of 80%, an expected life 5 years, and a risk free interest rateof 4.12%.  The Company utilized theproceeds of the Series D to repay the $3 million term note with Laurus datedJuly 6, 2005, plus accrued interest, and for working capital purposes.

In accordance with theprovisions of Emerging Issues Task Force (“EITF”) Issue 00-19, “Accounting forDerivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock,” the Company concluded that the Series D contained aconversion feature which should be valued at fair value and be recorded as aliability on the balance sheet.  Thisconversion feature is not considered to be a “conventional preferred”instrument because the Agreement includes certain conditions under which theconversion price may be reset.  Thiscondition would suggest that the number of shares to be issued upon conversionis not fixed, which is a requirement of a “conventional preferred”instrument.  This conversion feature wasalso determined to be a liability since it may be required to be repaid incash, cannot be paid in unregistered shares and has certain penalties.  These conditions define the conversionfeature as an embedded derivative which must be separated from the host andreported at fair value pursuant to SFAS 133, “Accounting for DerivativeInstruments and Hedging Activities” (“SFAS No. 133”).

The Series D alsocontains certain other embedded derivatives which, pursuant to SFAS No. 133,must be bifurcated from the host contract and reported at its fair marketvalue.  The first feature includes adividend rate that is subject to adjustment based on the market price of theCompany’s common stock.  The secondfeature, related to potential default provisions, could potentially increasethe dividend and redemption price, similar to a default or penalty clause in adebt-like instrument.  Although theCompany

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has valued all embedded derivatives of the hostcontract as one derivative instrument, the Company  believes the value of the adjustable dividendrate and the potential default provisions features are immaterial.  Management considered a number of factors,including independent appraisals when making this determination.  The Company will continue to measure allderivatives at each reporting period as future changes in value may becomematerial.

The conversion featureaggregated to $1,397,000 on September 30, 2005 based on the Black- Scholesvaluation model and the following assumptions: volatility 80%, expected life 1.5 years, and a risk free interest rateof 3.96%.  The conversion feature will bemarked to market at each reporting period with changes flowing through thestatement of operations.

The Company valuedthe Series D at issuance at its residual value of $2,660,000 based on the fairvalues of the financial instruments issued in connection with this preferredstock financing, including the warrants, the embedded derivative instrumentsand offering costs.  The amounts recordedin the financial statements represent the amounts attributed to the sale of theSeries D preferred stock, the amount allocated to warrants of $672,000, thevalue attributed to the embedded derivatives of $1,397,000 and $271,000 ofissuance costs (including $154,000 of unamortized costs of the July 6, 2005term note).  The Company is accretingthese discounts on the carrying value of the preferred stock to its redemptionvalue of $5,000,000 at September 1, 2008, or the actual conversion date,whichever is earlier.  The accretion ofthese amounts is being recorded as a preferred dividend in the period ofaccretion.  As of September 30, 2005, nopreferred shares have been converted. Net cash proceeds were $1,883,000 (whichincluded repayments of $3,000,000 of principal related to the July 6, 2005 termnote and $117,000 of issuance costs).

**9.****                                      Loss Per Share**

Basic loss per share iscomputed based only on the weighted average number of common shares outstandingduring the period.  Diluted earnings pershare is computed by using the weighted average number of common sharesoutstanding during the period, plus the dilutive effects of shares issuable throughthe exercise of stock options and warrants (common stock equivalents) unlesstheir inclusion would be antidilutive.

**10.****                               FinancialInformation by Segment**

Under SFAS No. 131, “Disclosures about Segments of an Enterpriseand Related Information,” operating segments are defined as componentsof an enterprise about which separate financial information is available thatis evaluated regularly by the chief operating decision maker, or decisionmaking group, in deciding how to allocate resources and in assessingperformance.  The Company’s chiefoperating decision making group is composed of the chief executive officer andmembers of senior management. The Company’s reportable segments are:  Medical, Semiconductor and Explosives.

Gross margin is themeasure that management uses when evaluating the Company’s segments; therefore,operating expenses are excluded from the financial information below.

The revenues andexpenses related to these segments for the three months ended September 30,2005 and 2004 are:

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| ** **   | ** ** | **Three Months Ended September 30, 2005** | ** ** |
|--------------|------------|--------------------------------------------------------------------|------------|
| ** **   | ** ** | **Medical**                                                        | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total** | ** ** |
|         |       |                                                               |       |   |   |   |   |   |   |
| Revenue      |       | $                                                                  | 1,149,000  |   | $ | 3,122,000 |   | $ | 401,000 |   | $ | 4,672,000 |   |
| COGS         |       | (959,000                                                           | )          | (2,697,000 | ) | (1,022,000 | ) | (4,678,000 |   |
| Gross Margin |       | $                                                                  | 190,000    |   | $ | 425,000 |   | $ | (621,000 | ) | $ | (6,000 | ) |

 
| ** **   | ** ** | **Three Months Ended September 30, 2004** | ** ** |
|--------------|------------|--------------------------------------------------------------------|------------|
| ** **   | ** ** | **Medical**                                                        | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total** | ** ** |
|         |       |                                                               |       |   |   |   |   |   |   |
| Revenue      |       | $                                                                  | 960,000    |   | $ | 334,000 |   | $ | 980,000 |   | $ | 2,274,000 |   |
| COGS         |       | (797,000                                                           | )          | (371,000 | ) | (638,000 | ) | (1,806,000 |   |
| Gross Margin |       | $                                                                  | 163,000    |   | $ | (37,000 | ) | $ | 342,000 |   | $ | 468,000 |   |

 

**11.****                              ****Goodwill and Other Intangible Assets:**

At September 30, 2005, theCompany had goodwill and intangible assets of $14,085,000.  SFAS No. 142, Goodwill and Other IntangibleAssets, requires that goodwill and intangible assets with indefinite lives nolonger be amortized but instead be measured for impairment at least annually orwhenever events indicate that there may be an impairment.  The Company has four reporting units, medical,explosives detection, semiconductor wafer processing and semiconductoranalytical services. All of the Company’s goodwill is allocated to thesemiconductor wafer processing and the semiconductor analytical servicesreporting units.  Determining thereporting unit’s fair value requires management to make estimates based onmarket conditions and operational performance. Absent an event that indicates aspecific impairment may exist, management has selected August 31as the date ofperforming the annual goodwill impairment test. In order to determine if impairment exists, management continuallyestimates the reporting unit’s fair value based on market conditions andoperational performance.  The Company mayemploy the work of independent appraisers in making its determination.  As of August 31, 2005, goodwill existed intwo of our reporting units, our semiconductor wafer processing andsemiconductor analytical services units.  The Company, in conjunction with a report from and independent appraisermade its annual assessment of goodwill attributable to its semiconductor waferprocessing reporting unit on August 31, 2005 and determined that the reportingunit’s goodwill is not impaired.  Inaddition, management conducted an internal assessment of the semiconductoranalytical services reporting unit’s goodwill and concluded that these assetswere not impaired as well.

The following table summarizesthe Company’s goodwill assets as of September 30, 2005 and June 30, 2005:

| Reporting Unit                | ** ** | **September 30, 2005** | ** ** | **June 30, 2005** | ** ** |
|------------------------------------|------------|----------------------------------|------------|-----------------------------|------------|
|                               |       |                             |       |                        |       |
| Semiconductor  Wafer Processing    |       | $                                | 4,660,000  |                        | $          | 4,647,000 |   |
|                               |       |                             |       |                        |       |
| Semiconductor  Analytical Services |       | 7,574,000                        |       | 7,566,000                   |       |
|                               |       |                             |       |                        |       |
| Total Goodwill                     |       | $                                | 12,234,000 |                        | $          | 12,213,000 |   |

 

Intangible assets with finitelives are valued according to the future cash flows they are estimated toproduce.  These assigned values areamortized over the period of time those cash flows are estimated to beproduced.  Management continuallyevaluates whether events or circumstances have occurred that

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indicate that the estimated remaining useful life or thecarrying value of these assets has been impaired. As of September 30, 2005management believes no impairment exists.

Future events could causemanagement to conclude that impairment indicators exist and that goodwill andintangible assets with indefinite lives associated with the Company’s acquiredbusinesses are impaired.  Any resultingimpairment loss could have a material adverse impact on the Company’s financialcondition and results of operations.

The following table summarizesthe Company’s intangible assets as of September 30, 2005 and June 30, 2005:
| ** **       | ** ** | ** **           | ** ** | **September 30, 2005** | ** ** | **June 30, 2005**   | ** ** |
|------------------|------------|----------------------|------------|----------------------------------|------------|-------------------------------|------------|
| ** **       | ** ** | **Useful Life** | ** ** | **Gross Carrying  Amount**  | ** ** | **Accumulated  Amortization** | ** ** | **Net Carrying  Amount** | ** ** | **Gross Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** | **Net Carrying  Amount** | ** ** |
|             |       |                 |       |                             |       |                          |       |   |   |   |   |   |   |   |   |
| Non-Compete      |       | 18-36 mo.            |       | $                                | 1,057,000  |                          | $          | 922,000 |   | $ | 135,000 |   | $ | 1,057,000 |   | $ | 809,000 |   | $ | 248,000 |   |
|             |       |                 |       |                             |       |                          |       |   |   |   |   |   |   |   |   |
| Name Recognition |       | 60-84 mo.            |       | 200,000                          |       | 16,000                        |       | 184,000 |   | 200,000 |   | 9,000 |   | 191,000 |   |
|             |       |                 |       |                             |       |                          |       |   |   |   |   |   |   |   |   |
| Customer Base    |       | 60 mo.               |       | 1,630,000                        |       | 200,000                       |       | 1,430,000 |   | 1,630,000 |   | 119,000 |   | 1,511,000 |   |
|             |       |                 |       |                             |       |                          |       |   |   |   |   |   |   |   |   |
| Technology       |       | 60 mo.               |       | 125,000                          |       | 24,000                        |       | 101,000 |   | 125,000 |   | 18,000 |   | 107,000 |   |
|             |       |                 |       |                             |       |                          |       |   |   |   |   |   |   |   |   |
| Total            |       |                 |       | $                                | 3,012,000  |                          | $          | 1,162,000 |   | $ | 1,850,000 |   | $ | 3,012,000 |   | $ | 955,000 |   | $ | 2,057,000 |   |

 

Estimated futureamortization expense for intangible assets with finite lives as of September30, 2005 is as follows:

| Remainder of fiscal year |   | 2006       |   | $       | 414,000   |   |
|--------------------------|--------|------------|--------|---------|-----------|--------|
|                     |   | 2007       |   | 387,000 |      |
|                     |   | 2008       |   | 380,000 |      |
|                     |   | 2009       |   | 380,000 |      |
|                     |   | 2010       |   | 244,000 |      |
|                     |   | thereafter |   | 45,000  |      |
|                     |   |       |   | $       | 1,850,000 |   |

 

**12.****                               CreditArrangements**

At the time of itsacquisition, Accurel Systems had a $1,400,000 fixed rate installment note witha bank. The note calls for monthly payments of $29,000 plus interest at a rateof 6.84%, through September 1, 2008.  Thebank has consented to continue the note under the same terms after theacquisition. As of September 30, 2005, the note balance is $1,079,000.  The note is secured by substantially allassets of Accurel.

The Loan Agreementrequires Accurel to report monthly financial results to the bank and forAccurel to comply with certain financial covenants.   As of September 30, 2005, Accurel was incompliance with the covenants.

OnJune 8, 2005, the Company executed a revolving credit facility for $1,500,000with Silicon Valley based Bridge Bank, N.A. The revolving credit facility has a one year term, provides for advancesof

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up to eightypercent (80%) of the Company’s eligible accounts receivable, bears interest atthe prime rate plus one-half percent (1/2%), and is secured by certain assetsof the Company and is subject to certain covenants.  As of September 30,2005, the company has not drawn down any funds on the credit facility.

**13.****                               SubsequentEvents**

On October 12, 2005, theCompany executed a modification to its revolving credit facility for $1,500,000with Bridge Bank, N.A. extending the expiration date to December 31, 2006 andmodifying certain compliance covenants. All other terms remain unchanged.

**14.****                               Restatement**

The previously issued consolidated financialstatements as of September 30, 2005 and for the three months then ended havebeen restated to correct an error in the accounting for the issuance of theSeries D Redeemable Convertible Preferred Stock (“Series D”).  TheSeries D contains a conversion feature, an adjustable dividend rate based onthe Company’s stock performance, and potential default provisions which wouldincrease the dividend rate and redemption price, which the Company hasdetermined are embedded derivative instruments requiring bifurcation from thehost contract under SFAS 133, “*Accounting for DerivativeInstruments and Hedging Activities”*, and EITF 00-19, “*Accounting for Derivative Financial Instruments Indexed to, andPotentially Settled in, a Company’s Own Stock.” *The fair value of these embedded derivatives was determinedto be $1,397,000 and is being reported as a liability related to the value ofderivative instruments in the accompanying consolidated balance sheet.The Company’s consolidated balancesheet and consolidated statement of cash flows have been restated as of and forthe three months ended September 30, 2005 as follows:
| ** **                                      | ** ** | **September 30, 2005** | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|
| ** **                                      | ** ** | **As reported**             | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
| **Long-term liabilities**                       | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Value of  derivative instruments                |       | —                           |       | 1,397,000 |   | 1,397,000 |   |
|                                            |       |                             |       |   |   |   |   |
| **Convertible preferred stock**                 | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Series D  Cumulative Redeemable Preferred Stock |       | 3,207,000                        |       | (547,000 | ) | 2,660,000 |   |
|                                            |       |                             |       |   |   |   |   |
| **Stockholder’s equity**                   | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Additional  paid-in cpaital                     |       | 52,657,000                       |       | (850,000 | ) | 51,807,000 |   |

 
| ** **                                                                                        | ** ** | **Three Months Ended September 30, 2005** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|
| ** **                                                                                        | ** ** | **As reported**                                               | ** ** | **Adjustments** | ** ** | **As restated** | ** ** |
| **Cash  flows from operating activities:**                                                        | ** ** | ** **                                                         | ** ** | ** ** | ** ** | ** ** | ** ** |
| Amortization of  intangible assets                                                                |       | 207,000                                                            |       | 13,000 |   | 220,000 |   |
|                                                                                              |       |                                                               |       |   |   |   |   |
| **Cash  flows from financing activities:**                                                        | ** ** | ** **                                                         | ** ** | ** ** | ** ** | ** ** | ** ** |
| Proceeds from  issuance of Series D Cumulative Redeemable Preferred Stock, net of issuance  costs |       | —                                                             |       | 1,883,000 |   | 1,883,000 |   |
|                                                                                              |       |                                                               |       |   |   |   |   |
| Proceeds from  secured term note, net of fees and transaction costs                               |       | 4,729,000                                                          |       | (1,896,000 | ) | 2,833,000 |   |
|                                                                                              |       |                                                               |       |   |   |   |   |
| **Noncash  Investing and Financing Activity:**                                                    | ** ** | ** **                                                         | ** ** | ** ** | ** ** | ** ** | ** ** |
| Repayment of  term note with Series D Cumulative Redeemable Preferred Stock                       |       | —                                                             |       | 3,000,000 |   | 3,000,000 |   |

 

All applicable amounts relating to the aforementionedrestatements have been reflected in these consolidated financial statemens andnotes hereto. There was no cumulative effect on the accumulated deficit.

18

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**ITEM 2.                    MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS (RESTATED)**

The followingmanagement discussion and analysis should be read in conjunction with thefinancial statements and notes thereto as filed in our Form 10-KSB for the yearended June 30, 2005.  In addition tohistorical information, this Form 10-Q/A contains forward-looking statements.  The forward-looking statements are subject tocertain risks and uncertainties that could cause actual results to differmaterially from those reflected in such forward-looking statements.  Readers are cautioned not to place unduereliance on these forward-looking statements, which reflect management’sopinions only as of the date hereof.  Weundertake no obligation to revise or publicly release the results of anyrevision to these forward-looking statements. Readers should carefully review documents that we file from time to timewith the Securities and Exchange Commission, including our Quarterly Reportsand Annual Reports filed by us in fiscal 2005 and 2004.

ImplantSciences Corporation, incorporated in 1984, has three locations.  It operates out of a 51,000 square footleased facility in Wakefield, Massachusetts. Since October 15, 2004, Implant also operates out of a 35,000 squarefoot leased facility in Sunnyvale, California and since March 9, 2005, out of a20,000 square foot leased facility also in Sunnyvale, California.  The Company has approximately 155 employeesand runs three shifts in Wakefield and two shifts in Sunnyvale.  The Company generates revenues from the saleof ion implantation and analytical services for the semiconductor industry,radioactive prostate seeds and medical coatings, explosives trace detectionequipment and government research and development contracts for both medicalproducts and explosives detection segments. Semiconductor products and servicesare conducted in both the Wakefield and Sunnyvale facilities.  Medical and industrial coatings, radioactiveprostate seed manufacturing, explosives detection equipment manufacturing andresearch and development programs are conducted in Wakefield.

Thequarter ended September 30, 2005 includes revenues from Core Systems which wasacquired by the Company on October 15, 2004, and Accurel Systems which wasacquired on March 9, 2005.  Theseacquisitions contributed revenues of $3.0 million in the quarter out of totalrevenues of $4.7 million. Core and Accurel are included in the semiconductorsegment.  Revenues from our explosivesdetection segment, during the quarter ended September 30, 2005, are down$600,000 from the prior year quarter. This decline is attributable to government contracts in the previousyear quarter which were completed by December 31, 2004.  We have recently announced the signing of adevelopment agreement with the Transportation Security Administration (“TSA”)for our explosives detection products and are scheduled to ship explosivesdetection equipment against a previously announced order from China in thecoming months.

As aresult of the acquisition of Core and Accurel on October 15, 2004 and March 9,2005, respectively, and the Company’s presentation of consolidated financialstatements, it should be noted that the fiscal 2006 versus fiscal 2005comparative information may not be meaningful.

OnJuly 1, 2005, the Company adopted SFAS 123R, “Share-Based Payments,” which is arevision of SFAS No. 123, “Accounting for Stock-Based Compensation,” using themodified prospective method.  Prior tothis the Company had elected to use the disclosure-only provisions of SFAS No.123. The Company was required to adopt on July 1, 2005 because it no longerqualifies as a “small business” filer for SEC reporting purposes as of thatdate. Under SFAS 123R, the Company is required to account for all optionsgranted to employees after July 1, 2005 and any unvested portion of optionsoutstanding as to the effective date, using the fair value method. The Companypreviously accounted for its employee stock-based compensation arrangementsunder the provisions of Accounting Principal Board (“APB”) Opinion No. 25, “Accountingfor Stock Issued to Employees,” rather than the alternative fair valueaccounting method provided for under SFAS No. 123. Previously under APB 25,when the exercise price of options granted to employees and non-employeedirectors under these plans equals the market price of the underlying stock onthe date of the grant, no compensation expense is recorded.  Because of the adoption of SFAS 123Rcomparisons with previous periods may not be meaningful.

**RESULTSOF OPERATIONS**

Thefollowing is a discussion and analysis of the financial condition and resultsof operation of the Company for the three month period ended September 30, 2005and 2004.  It should be read inconjunction with the condensed consolidated financial statements and notesthereto appearing elsewhere herein.

19

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*ThreeMonth Period Ended September 30, 2005 vs. September 30, 2004*

*Revenues.*  Total revenues for the period ended September30, 2005 were $4,672,000 as compared to $2,274,000 for the comparable prioryear period, an increase of $2,398,000 or 105%.   Our revenues by business segment are asfollows:

| Three Months Ended September 30, 2005 | ** ** |
|----------------------------------------------------------------|------------|
| **Medical**                                                    | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total Revenues** | ** ** |
| $ 1,149,000                                               |       | $ | 3,122,000 |   | $ | 401,000 |   | $ | 4,672,000 |   |
|                                                                |            |  |  |  |  |  |  |  |  |  |

 

| Three Months Ended September 30, 2004 | ** ** |
|----------------------------------------------------------------|------------|
| **Medical**                                                    | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total Revenues** | ** ** |
| $ 960,000                                                 |       | $ | 334,000 |   | $ | 980,000 |   | $ | 2,274,000 |   |
|                                                                |            |  |  |  |  |  |  |  |  |  |

 

The overall increase inrevenues is attributable primarily to revenues from Core Systems and AccurelSystems. Core and Accurel were acquired on October 15, 2004 and March 9, 2005respectively, and their results were not included in the previous yearperiod.  Revenues from Core and Accureltotaled approximately $2,952,000 and are included in our semiconductorsegment.  Semiconductor revenues were$3,122,000 as compared to $334,000 in the comparable prior year period, anincrease of $2,788,000 or 835%.  Sincethe acquisition of Core on October 15, 2004 the Company has transitioned somesemiconductor work from Wakefield to Sunnyvale to take advantage of operatingefficiencies.

Medical revenues were $1,149,000 as compared to $960,000 forthe comparable prior year period, an increase of $189,000 or 20%.  The increase in medical revenues was dueprimarily from a turn around in the radioactive seeds volumes, providing$93,000 of the increase, and revenues from a new non-orthopedic related coatingscustomer.  After a lengthy period ofdecline, management believes seed volumes have now stabilized, and has takensteps to achieve increasing seed volumes in the coming year, including thebenefits of selling our recently acquired treatment planning software to ourcustomers. The treatment planning software is a proprietary treatmentplanning technology marketed as “I-PlantTPS”TM. In its latest version, a new module aids the physician inmaking 2 and 3 dimensional maps of stage, grade and location of cancer withinthe prostate gland. This “Pathology Mapping Module” TM is in addition to the standard treatmentplanning function used for prostate Brachytherapy and will provide for imageguided, focal treatment of the disease.

Revenues from the Company’s explosives detection businessdeclined to $401,000 as compared to $980,000 for the comparable prior yearperiod, a decrease of $579,000 or 59%. This decrease is attributable to certain government contracts which werein place in the prior year period that had been completed prior to the currentfiscal year.  Explosives detectioncontract revenues were $288,000 and $935,000 for the three months endedSeptember 30, 2005 and 2004, respectively. The Company is transitioning theexplosives business from primarily a contracts/development business to aproduct sales business.  To that extent,we have established strategic sales and distribution relationships bothdomestically and internationally.  TheCompany recently announced a major order for its explosives detection productfrom its distributor in China that is expected to begin shipping during thesecond quarter of fiscal 2006. Explosives detection product revenues were $113,000 and $45,000 for thethree months ended September 30, 2005 and 2004, respectively.

*Cost of Revenues*.  Cost of revenues for the three months endedSeptember 30, 2005 was $4,678,000 as compared to $1,806,000 for the comparableprior year period, an increase of $2,872,000 or 159%.  The cost of revenues by business segment isas follows:

20

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| Three Months Ended September 30, 2005 | ** ** |
|----------------------------------------------------------------|------------|
| **Medical**                                                    | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total Cost of  Revenues** | ** ** |
| $ 959,000                                                 |       | $ | 2,697,000 |   | $ | 1,022,000 |   | $ | 4,678,000 |   |
|                                                                |            |  |  |  |  |  |  |  |  |  |

 

| Three Months Ended September 30, 2004 | ** ** |
|----------------------------------------------------------------|------------|
| **Medical**                                                    | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total Cost of  Revenues** | ** ** |
| $ 797,000                                                 |       | $ | 371,000 |   | $ | 638,000 |   | $ | 1,806,000 |   |
|                                                                |            |  |  |  |  |  |  |  |  |  |

 

Theoverall increase in cost of revenues is primarily a result of costsattributable to Core and Accurel.  Coreand Accurel were acquired on October 15, 2004 and March 9, 2005, respectively,and their results were not included in the comparable prior year period.  Cost of revenues at Core and Accurel totaled$2,335,000 and are included in our semiconductor segment.  In addition, our cost of revenues also increaseddue to our efforts to ramp up our explosives detection manufacturing capabilityas we transition from primarily contract/development revenues to higher volumesof product sales related to the explosives detection equipment.  The cost of our explosives detection revenueswere $1,022,000 compared to $638,000 in the comparable prior year period, anincrease of $384,000 or 60%. Medical products costs increased to $959,000 ascompared to $797,000 in the comparable prior year period, an increase of $162,000or 20%.  This increase is primarily dueto materials required to provide increased volumes of radioactive seeds.Included in cost of sales for the period ended September 30, 2005, is $82,000of share-based compensation as required by SFAS 123R.

*Gross Margins*.  Overall gross margins were 0%of revenues in the three month period ended September 30, 2005 as compared to21% of revenues in the comparable prior year period.  The decrease in the gross margin percentageis attributable to the transition from contract/development work in theexplosives detection segment, to product manufacturing.  This transition has created a situation inwhich the Company had declining revenues, due to completion of major contractsin the prior fiscal year, at the same time it is expanding its productmanufacturing capability and building limited saleable product which resultedin certain fixed manufacturing costs being incurred and expensed.  The result of this transition was a grossmargin loss $621,000 or 155% of sales for the explosives detection segment forthe three months ended September 30, 2005, as compared to gross margins of$342,000 or 35% in the comparable prior year period.  Semiconductor margins were 14% of revenues ascompared to a gross margin loss of 11% in the comparable prior year period.This turnaround is attributable to Accurel. Accurel was acquired on March 9, 2005 and its results are not includedin the comparable prior year period. Management expects continued semiconductor gross margin improvements asvolumes continue to increase and operating efficiencies at Core arerealized.  Gross margins by businesssegment are as follows:

| Three Months Ended September 30, 2005 |
|---------------------------------------|
| **Medical**                           | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total Gross  Margin** |
| 16%                                   |   | 14% |   | -155% |   | 0% |

 

| Three Months Ended September  30, 2004 |
|----------------------------------------|
| **Medical**                            | ** ** | **Semiconductor** | ** ** | **Explosives** | ** ** | **Total Gross  Margin** |
| 17%                                    |   | -11% |   | 35% |   | 21% |

 

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* *

*Research and Development*.  Research and development expense for thethree month period ended September 30, 2005 was $316,000 as compared to$586,000 for the comparable prior year period, a decrease of $270,000 or46%.  In the three month period endedSeptember 30, 2005, certain of the Company’s R&D resources were temporarilytransferred to explosives detection product manufacturing team to assist withorder fulfillment of our handheld explosives detectors.  However, the Company continues to expendfunds to further the development of new products in the areas of explosives andtoxic substance detection and temporary brachytherapy areas.   Included in research and development costsfor the period ended September 30, 2005, is $68,000 of share-based compensationas required by SFAS 123R.

*Selling, General and Administrative*.  Selling, general and administrative expensesfor the three month period ended September 30, 2005 were $1,923,000 as comparedto $1,060,000 for the comparable prior year period, an increase of $865,000 or82%.   This increase is primarily relatedto $624,000 of additional selling, general and administrative expenses incurreddue to the acquisition of Core and Accurel. Core and Accurel were acquired on October 15, 2004 and March 9, 2005,respectively and their results were not included in the comparable prior yearperiod.  Selling expense associated withour treatment planning software line were $92,000 in the three month periodended September 30, 2005 as compared to $0 for the same period in 2004.Included in selling, general and administrative costs for the period endedSeptember 30, 2005, is $235,000 of share-based compensation as required by SFAS123R.

* Other Incomeand Expenses, Net*.  Forthe year ended September 30, 2005, we recorded other expense, net, of $122,000as compared to $13,000, in the comparable prior year period.  This increase includes interest expense of$92,000, primarily due to the Laurus financing in July of 2005 and debt held byAccurel as compared to interest expense of $18,000 in the comparable prior yearperiod.    In addition, equity losses inunconsolidated subsidiaries increased by $30,000 in the current fiscal yearperiod.

*Net Loss.*  Net loss for the three month period endedSeptember 30, 2005 was $2,367,000 as compared with $1,191,000 for thecomparable prior year period, an increase in net loss of $1,176,000 or99%.  The increase in net loss isprimarily due to losses in the explosives detection business due to thecompletion of certain government contracts during the prior fiscal year andcosts related to increasing our manufacturing capability ahead of expectedproduct orders. The increase in net loss due to our explosives detectionbusiness is approximately $963,000. This is offset somewhat by our transfer ofR&D expenses to cost of sales resulting in lower R&D costs for theperiod.   The acquisition of Core Systemson October 15, 2004 was expected to have a positive impact on earnings becauseof expected operating efficiencies and increased revenues when combined withthe Company’s existing semiconductor operations.  These benefits have been slow to develop andCore has experienced losses since it was acquired.  Management continues to focus onopportunities for Core that could have significant profit potential. TheCompany continually reviews its goodwill assets for potential impairment.  The Company has four reporting units,medical, explosives detection, semiconductor wafer processing and semiconductoranalytical services. All of the Company’s goodwill is allocated to thesemiconductor wafer processing and the semiconductor analytical servicesreporting units.  Determining thereporting unit’s fair value requires management to make estimates based onmarket conditions and operational performance. Absent an event that indicates aspecific impairment may exist, management has selected August 31 as the date ofperforming the annual goodwill impairment test. The results of this assessment,based on management forecasts, conclude that the goodwill is not impaired.  However, if events should occur and animpairment charge is warranted it could have a significant impact on theCompany’s financial results for the period then reported.

Preferreddistribution, dividends and accretion were $0 in the three month period endedSeptember 30, 2005 as compared to $284,000 in the period ended September 30,2004.  This decrease is attributable tothe conversion of preferred stock to common stock prior to the three monthperiod ending September 30, 2005. Included in net loss for the period ended September 30, 2005, is$385,000 of share-based compensation as required by SFAS 123R.  The Company also had $26,000 of non-SFAS 123Rcompensation.

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**LIQUIDITYAND CAPITAL RESOURCES**

The Company continually reviews its operating plans todetermine if it has adequate cash flows to fund its operations and achieve itsoperating plans.  Although the Companybelieves it can achieve these plans there can be no assurances that itwill.  If the Company fails to achieveits revenue and gross margin goals, it would have to undertake additional stepsto fund operations.  These steps mayinclude: obtaining additional financing, entering into strategic agreements tofund the development of our products and/or cutting costs and expenses.

Asof September 30, 2005, the Company had approximately $3,432,000 in the form ofcash and cash equivalents and net working capital of $2,631,000.  During the three month period ended September30, 2005, operating activities used cash of approximately $946,000.  Net cash used by operating activities primarilyreflects the $2,367,000 net loss offset by $1,251,000 in depreciation,amortization and other non-cash expenses. In addition the Company invested $564,000 in inventory as it continuesits production of the explosives detection product, which is expected to shipin the Company’s second quarter.  TheCompany realized cash of $296,000 from its accounts receivables due to timelypayments from revenues booked at the end of the fiscal 2005 fourth quarter.Accounts payables and accruals were paid down by $88,000. Deferred revenuesincreased $606,000, primarily from cash deposits received by the Company forproducts scheduled to ship in the Company’s second quarter.  During the three months ended September 30,****2005, investing activities used cash of approximately$200,000, which was primarily attributable to $170,000 used for additions toplant and equipment.  The additions wereprimarily used to increase production capacity at Core and for explosivesdetection products production in Wakefield. During the three month period ended September 30, 2005, financingactivities provided approximately $3,029,000 in cash.

On July 6, 2005, theCompany executed a $3.0 million secured term note payable to Laurus MasterFund, Ltd. (“Laurus”).  The Companyreceived $3,000,000 in gross proceeds, less a management fee of $135,000 andrelated transaction costs of approximately $32,000.  The term note was collateralized bysubstantially all of the Company’s assets, had a 4-month term and bore interestat a rate equal to the prime rate plus once percent (1%).  In connection with the financing, on September30, 2005, the Company issued Laurus a warrant to purchase up to 250,000 sharesof the Company’s common stock at a price equal to $3.75 per share.  The warrants were valued using the BlackScholes model and the following assumptions: volatility of 67%, expected lifeof 5 years and a risk free interest rate of 3.77%.  Net proceeds from the financing were used forincreasing the capacity of the Quantum SnifferTM production line, increasingunit inventories and the repayment of certain indebtedness due and owed by theCompany to the former shareholders of Accurel in connection with theacquisition of this wholly-owned subsidiary.

On September 30, 2005,the Company issued 500,000 shares of Series D Convertible Redeemable PreferredStock (“Series D”) having a stated value of $10 per share, pursuant to aSecurities Purchase Agreement with Laurus. The Company received $5,000,000 in gross proceeds, less a management andplacement agent fee of approximately $90,000, and related transaction costs ofapproximately $27,000.  The Series D hasa dividend equal to the prime rate plus one percent (1%)  (6.75% as of September 30, 2005) and providesfor redemption over a thirty-six month period pursuant to an amortizationschedule.

Thefollowing table reflects the required redemption of the Series D before theeffect of the accrued dividends:

Monthly redemption

|                      | ** ** | **Preferred Stock  Redemption Schedule** | ** ** |
|----------------------|------------|----------------------------------------------------|------------|
| Year ending June 30: |       |                                               |       |
| 2006                 |       | $                                                  | 912,000    |   |
| 2007                 |       | 1,824,000                                          |       |
| 2008                 |       | 1,824,000                                          |       |
| 2009                 |       | 440,000                                            |       |
| Total                |       | $                                                  | 5,000,000  |   |

 

23

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Themonthly redemption of approximately $152,000 plus accrued dividends commenceson January 1, 2006.  Subject to certainconditions, it is at the Company’s option to pay this amount in cash or incommon stock at a fixed conversion price of $6.80 per common share.  This fixed conversion price is subject toreset should the Company declare a stock dividend or split, combine theoutstanding Common Stock into a smaller number of shares, or issue, byreclassification of its Common Stock, any shares or other securities of theCorporation.  The fixed conversion priceshall be adjusted proportionately so that the holder of the Series D shall beentitled to receive the kind and number of shares or other securities of theCorporation which such Holder would have owned or have been entitled to receiveafter the happening of any of the events described above, had such shares ofSeries D Preferred Stock been converted immediately prior to the happening ofsuch event.

Thefollowing conditions must be met in order for the Company to be permitted topay in common stock:  (1) the shares mustbe issued pursuant to an effective registration statement, (2) the averageclosing market price of the common stock for the five trading days immediatelypreceding a payment date must exceed the fixed conversion price by 110% and noone day’s closing price may be less than the fixed conversion price, and (3)the conversion dollar value may not exceed the aggregate of the prior 22trading days’ dollar volume.  Thedividend rate is subject to a 2% decrease for every 25% the average tradingprice for the five trading days prior to a repayment date exceeds the fixedconversion price, to a minimum of 0%.  Inaddition, upon notifying the holder, the Company has the option of redeemingany outstanding shares of Series D with cash by paying 130% of the stated valueplus accrued interest.

As acondition of closing, the Company and each of its Subsidiaries granted asecurity interest in their respective assets as well as providing Laurus aright of first refusal on future financing arrangements during the term of theAgreement.  In the event Laurus declinesto exercise its right of first refusal, it agreed to enter into suchdocumentation as shall be reasonably requested by the Company in order to subordinateits rights under the Series D to the subsequent financier.   The registration rights associated with theAgreement state that the Company will use its best efforts to have theregistration statement effective within 120 days from closing.  In addition, the Company is required tomaintain an effective registration statement, and ensure that shares are notsuspended from trading.  Upon notice fromLaurus, should the Company be declared in default of these items and have notcured the default within the prescribed period, the Company may be assessedliquidated damages equal to 1/30th of0.1% of the outstanding preferred balance, payable in cash, for each day theevent has occurred and remains outstanding. However, pursuant to the Agreement, “liquidated damages do not applyshould the Securities and Exchange Commission (“SEC”) have an issue withrespect to the Holder or with respect to the structure of the transaction.”

Inconjunction with the Series D, the Company also issued to Laurus a warrant topurchase up to 50,000 shares of the Company’s common stock at a price equal to$10.20 per share.  The warrants werevalued using the Black Scholes model and the following assumptions:  volatility of 80%, an expected life 5 years,and a risk free interest rate of 4.12%. The Company utilized the proceeds of the Series D to repay the $3million term note with Laurus dated July 6, 2005, plus accrued interest, andfor working capital purposes.

Inaccordance with the provisions of Emerging Issues Task Force (“EITF”) Issue00-19, “Accounting for Derivative Financial Instruments Indexed to, andPotentially Settled in, a Company’s Own Stock,” the Company concluded that theSeries D contained a conversion feature which should be valued at fair valueand be recorded as a liability on the balance sheet.  This conversion feature is not considered tobe a “conventional preferred” instrument because the Agreement includes certainconditions under which the conversion price may be reset.  This condition would suggest that the numberof shares to be issued upon conversion is not fixed, which is a requirement ofa “conventional preferred” instrument. This conversion feature was also determined to be a liability since itmay be required to be repaid in cash, cannot be paid in unregistered shares andhas certain penalties.  These conditionsdefine the conversion feature as an embedded derivative which must be separatedfrom the host and reported at fair value pursuant to SFAS 133, “Accounting forDerivative Instruments and Hedging Activities” (“SFAS No. 133”).

TheSeries D also contains certain other embedded derivatives which, pursuant toSFAS No. 133, must be bifurcated from the host contract and reported at itsfair market value.  The first featureincludes a dividend rate that is subject to adjustment based on the marketprice of the Company’s common stock.  Thesecond feature, related to potential default provisions, could potentiallyincrease the dividend and redemption price, similar to a default or 

24

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penalty clause ina debt-like instrument.  Although theCompany has valued all embedded derivatives of the host contract as onederivative instrument, the Company believes the value of the adjustable dividend rate and the potentialdefault provisions features are immaterial. Management considered a number of factors, including independentappraisals when making this determination. The Company will continue to measure all derivatives at each reportingperiod as future changes in value may become material.

Theconversion feature aggregated to $1,397,000 on September 30, 2005 based on theBlack- Scholes valuation model and the following assumptions:  volatility 80%, expected life 1.5 years, anda risk free interest rate of 3.96%.  Theconversion feature will be marked to market at each reporting period withchanges flowing through the statement of operations.

The Company valued the Series D at issuance at itsresidual value of $2,660,000 based on the fair values of the financialinstruments issued in connection with this preferred stock financing, includingthe warrants, the embedded derivative instruments and offering costs.  The amounts recorded in the financialstatements represent the amounts attributed to the sale of the Series Dpreferred stock, the amount allocated to warrants of $672,000, the valueattributed to the embedded derivatives of $1,397,000 and $271,000 of issuancecosts (including $154,000 of unamortized costs of the July 6, 2005 termnote).  The Company is accreting thesediscounts on the carrying value of the preferred stock to its redemption valueof $5,000,000 at September 1, 2008, or the actual conversion date, whichever isearlier.  The accretion of these amountsis being recorded as a preferred dividend in the period of accretion.  As of September 30, 2005, no preferred shareshave been converted. Net cash proceeds were $1,883,000 (which includedrepayments of $3,000,000 of principal related to the July 6, 2005 term note and$117,000 of issuance costs).

Weare currently expending significant resources to set up our explosivesdetection manufacturing facility in anticipation of our explosives detectionequipment orders.  Although we continueto fund as much research and development as possible through government grantsand contracts in accordance with the provisions of the respective grant awards,we will require additional funding in order to continue the advancement of thecommercial development and manufacturing of the explosives detectionsystem.  We will attempt to obtain suchfinancing by: (i) government grants, (ii) the exercise of the redeemable commonstock purchase warrants, (iii) private financing, or (iv) strategicpartnerships.  However, there can be noassurance that we will be successful in our attempts to raise such additionalfinancing.   Should funding not beavailable, we may be forced to sell certain company assets in order to fund thecontinued research and development of our explosives detection product and/orcurtail the amount of resources dedicated to it.

Wewill require substantial funds for further research and development, regulatoryapprovals and continued expansion of commercial-scale manufacturingcapabilities, and the marketing of our products.  Our capital requirements depend on numerousfactors, including but not limited to, the progress of our research anddevelopment programs; the cost of filing, prosecuting, defending and enforcingany intellectual property rights; competing technological and marketdevelopments; changes in our development of commercialization activities andarrangements; and the purchase of additional facilities and capital equipment.

TheCompany’s future minimum payments under contractual obligations related tocapital leases, operating leases and term notes as of September 30, 2005 are asfollows:

|                       | ** ** | **Debt and  Capital Leases** | ** ** | **Operating  Lease** | ** ** | **MED-TEC** | ** ** | **Total** | ** ** |
|-----------------------|------------|----------------------------------------|------------|----------------------|------------|-------------|------------|-----------|------------|
| Year ending June  30: |       |                                   |       |                 |       |        |       |      |       |
| 2006                  |       | $                                      | 305,000    |                 | $          | 1,224,000   |       | $         | 318,000    |   | $ | 1,847,000 |   |
| 2007                  |       | 393,000                                |       | 1,673,000            |       |        |       | 2,066,000 |       |
| 2008                  |       | 386,000                                |       | 1,713,000            |       |        |       | 2,099,000 |       |
| 2009                  |       | 140,000                                |       | 1,454,000            |       |        |       | 1,594,000 |       |
| 2010                  |       | 14,000                                 |       | 838,000              |       |        |       | 852,000   |       |
|                  |       |                                   |       |                 |       |        |       |      |       |
| Total                 |       | $                                      | 1,238,000  |                 | $          | 6,902,000   |       | $         | 318,000    |   | $ | 8,458,000 |   |

 

*Restatement andRelated Control Deficiency*

This amended 10-Q/A is being filed to correct theaccounting and reporting of the fair value of the embedded derivativesassociated with the Series D Cumulative Redeemable Preferred Stock (the“Series D”) in the three months ended September 30, 2005.Note 14 in the “Notes to Condensed Consolidated Financial Statements”identifies the impact of the error and related changes to the previouslyreported financial information. As a result of this restatement, management hasconcluded that the Company’s disclosure controls are not effective to provide areasonable assurance that our financial statements are fairly presented. As aresult, the Company may be required to expend additional funds to institute thecontrols and procedures necessary to remedy this material control weakness.

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*CriticalAccounting Policies*

Our significant accounting policies are described inNote 2 to the financial statements included in Item 7 of our Form 10-KSB as ofJune 30, 2005.  Our discussion andanalysis of our financial condition and results of operations are based uponthe financial statements, which have been prepared in accordance withaccounting principles generally accepted in the United States.  The preparation of these financial statementsrequires us to make estimates and judgments that affect the reported amounts ofassets, liabilities, revenues and expenses, and related disclosure ofcontingent assets and liabilities.  On anon-going basis, we evaluate our estimates, including those related to baddebts, product returns, inventories, investments, intangible assets and warrantyobligations.  We base our estimates onhistorical experience and on various other assumptions that are believed to bereasonable under the circumstances, the results of which form the basis formaking judgments about the carrying values of assets and liabilities that arenot readily apparent from other sources. In the past, actual results have not been materially different from ourestimates.  However, results may differfrom these estimates under different assumptions or conditions.  We adopted SFAS No. 142 and, accordingly,goodwill and other intangible assets with indefinite lives are no longeramortized, but rather such assets are subject to annual impairment reviews ormore frequently, if events or circumstances indicate that they may be impaired.

*Share-BasedPayment.**  ***InDecember 2004, the Financial Accounting Standards Board issued Statementof Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment,” which is arevision of Statement No. 123 as amended by No. 148, “Accounting for Stock-Based Compensation”.SFAS 123R supercedes APB Opinion No. 25. Generally, the approach inSFAS123R is similar to the approach described in SFAS Statement No. 123.However, SFAS123R requires all share-based payments to employees, includinggrants of employee stock options, to be recognized in the income statementbased on their fair values at the date of grant. Pro forma disclosure is nolonger an alternative. This Statement is effective for the Company beginningwith the first quarter of fiscal 2006.

SFAS 123R permits public companies to adopt itsrequirements using one of two methods. The “modified prospective” methodrequires compensation cost to be recognized beginning with the Statement’seffective date (a) based on the requirements of SFAS 123R for allshare-based payments granted after the effective date and (b) based on therequirements of Statement 123 for all awards granted to employees prior to theeffective date of SFAS 123R that remain unvested on the effective date. The “modifiedretrospective” method includes the requirements of the modified prospectivemethod described above, but also permits entities to restate based on theamounts previously recognized under Statement 123 for purposes of pro formadisclosures either (a) all prior periods presented or (b) prior interimperiods of the year of adoption. The Company has not adopted the “modifiedretrospective” method and previous amounts have not been restated (Note 6).

In April 2005, the U.S. Securities and ExchangeCommission issued Staff Accounting Bulletin No. 107. The Bulletin confirmsthe latitude in SFAS 123R’s provisions on selecting models for valuing shareoptions and clarifies other positions on accounting and disclosure forshare-based-payment arrangements. In addition, the Bulletin permits registrantsto choose from different models to estimate the fair value of share options,provides guidance on developing assumptions used in the models, and addressesthe interaction between SFAS 123R and other SEC literature.

The Company applies the requirements of SFAS 123Rusing the Black-Scholes option pricing model to value its share options, andthe “modified prospective” method.

*Accounting for Derivatives  *InJune 1998, FASB issued SFAS No. 133, “Accounting for Derivative Instruments andHedging Activities.” The Statement establishes accounting and reportingstandards for derivative instruments, including certain derivative instrumentsembedded in other contracts, (collectively referred to as derivatives) and forhedging activities. It requires that an entity recognize all derivatives aseither assets or liabilities in the statement of financial position and measurethose instruments at fair value.

OnSeptember 30, 2005, the Company issued 500,000 shares of Series D ConvertibleRedeemable Preferred Stock (“Series D”) and 50,000 warrants.  The Company evaluated the transaction as aderivative transaction in accordance with SFAS No. 133 and determined that embeddedderivatives exist.   In accordance withthe provisions 

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of Emerging IssuesTask Force (“EITF”) Issue 00-19, “Accounting for Derivative FinancialInstruments Indexed to, and Potentially Settled in, a Company’s Own Stock,” theCompany concluded that the Series D contained a conversion feature which shouldbe valued at fair value and be recorded as a liability on the balancesheet.  This conversion feature is not a“conventional preferred” instrument because the agreement includes certainconditions under which the conversion price may be reset.  This condition would suggest that the numberof shares to be issued upon conversion is not fixed, a requirement of aconventional preferred classification. In addition, this conversion feature was also concluded to be aliability as it may be required to be repaid in cash, cannot be paid inunregistered shares and has certain penalties.

TheSeries D also contains certain other embedded derivatives which, pursuant toSFAS No. 133, must be bifurcated from the host and reported at its fair marketvalue.  The first feature includes adividend rate that is subject to adjustment based on the market price of theCompany’s common stock.  The secondfeature, related to potential default provisions, could potentially increasethe dividend and redemption price, similar to a default or penalty clause in adebt-like instrument.  Although theCompany has valued all embedded derivatives of the host as one derivativeinstrument, it believes the value of these particular features is immaterial.The Company will continue to measure all derivatives at each reporting periodas future changes in value may become material.

TheCompany has penalty provisions in the registration agreements of our Series DPreferred that require us to make certain payments in the event of our failureto maintain an effective registration statement for the common stock securitiesunderlying the Series D.

TheEITF Issue Summary No. 05-04, which has not yet reached consensus at the FASB,considers alternative treatments including whether or not the registrationright itself is a separate derivative liability, or if it is a derivativeconsidered as a combined unit with the conversion feature of a convertibleinstrument. If the unit is considered separate, the EITF discusses possiblealternative treatments including the possibility that the combined unit is aderivative liability only if the maximum liquidated damages exceed thedifference between the fair value of registered and unregistered shares. InSeptember 2005, the FASB staff reported that the EITF postponed furtherdeliberations on Issue No. 05-04 The Effect of a Liquidated Damages Clause on aFreestanding Financial Instrument Subject to Issue No. 00-19 (“EITF 05-04”)pending the FASB reaching a conclusion as to whether a registration rightsagreement meets the definition of a derivative instrument.

TheCompany considers the liquidated damages provision in our various securityinstruments to be combined with our registration rights and conversionderivatives, and the Company does not account for the provision as a separateliability. The company currently records any registration delay payments asexpenses during the period in which they are incurred. If the FASB were toadopt an alternative view, the Company could be required to account for theregistration delay payments as a separate derivative. Accordingly, the Companywould be required to record the fair value of the estimated payments, althoughno authoritative methodology currently exists for evaluating such computation.In accordance with APB 20/FAS 154 the company may be required to applyderivative liability accounting retroactively to all periods presented and theimpact of such a change in view may be material to the financial statements.

The Companyaccounts for the embedded derivatives as described in SFAS 133, EITF98-5, 00-19, and 00-27, and 05-4 as follows:

The Company valuedthe Series D at issuance at its residual value based on the fair values of thefinancial instruments issued in connection with this preferred stock financing,including the warrants, the embedded derivative instruments and the offeringcosts.  Subsequent changes in the fairvalue of the embedded derivatives will be recorded as an adjustment to theliability and as other income (expense).

**Item 3.    Quantitative and Qualitative DisclosuresAbout Market Risk**

Interest Rate Risk

TheCompany’s financial instruments include cash and cash equivalents.  Cash and cash equivalents include 

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cash on hand,demand deposits and short-term investments with maturities of three months orless when acquired.  Cash equivalentsrepresent a deposit in a money market account and a certificate ofdeposit.  The Company does not utilizederivative financial instruments, derivative commodity instruments or othermarket risk sensitive instruments, positions or transactions in any materialfashion.  The principal objective of theCompany’s asset management activities is to maximize net investment income,while maintaining acceptable levels of interest rate risk and facilitating itsfunding needs.  At September 30, 2005,the carrying values of the Company’s financial instruments approximated fairvalues based upon current market prices and rates.

**Item 4.    Controlsand Procedures (Restated)**

Asoutlined in paragraph 140 of PCAOB Auditing Standard No. 2, because the Companyis restating previously issued financial statements to reflect the correctionof a misstatement, the CEO and CFO must conclude that our disclosure controlsare not effective to provide reasonable assurance that our financial statementsare fairly presented in conformity with generally accepted accountingprinciples.

As we disclosed in our 10-KSB, our independent registered public accounting firm reported to our Audit Committee certain conditions involving internal controls which they believed represent material weaknesses in our internal control environment. These matters relate to our ability to account for the acquisitions or, more specifically, post acquisition adjustments and the correct interpretation of related accounting literature. These matters can be related to our ability to interpret the accounting literature correctly for unusual events and work with outside advisors to ensure our interpretation is correct.  A material  weakness is a significant deficiency, or combination of significant deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected.

Our management and the Audit Committee agreed with our independent registered public accounting firm on the matter raised in their report and agreed to address the deficiency. We intend to perform the following related to these deficiencies:

The internal control structure deficiency identified by our independent registered public accounting firm was that our internal control structure did not include a formalized process for reviewing documented evidence of certain unusual one-time transactions with and the analysis of the appropriate authoritative accounting guidance with outside advisors to ensure the interpretation was correct.

To remediate this internal control deficiency, management has commenced implementation of the following measures:

·    For material transactions that are unique or outside our core operations, we will continue to document our process for accounting for such transactions and we will improve our process for researching the applicable accounting literature and documenting our conclusions, by consulting with outside experts to ensure our interpretations are correct.

·    We will prepare a standardized memorandum that is required to be completed for each transaction that is unique or outside our normal core operations that is material to our financial statements. This memo will be reviewed and approved by the Vice President of Finance and the Chief Financial Officer.

·    We will enhance formal communication with, and approval by, our Chief Financial Officer and Audit Committee of our application of GAAP and accounting policy decisions for transactions that are outside our core operations and the advice received from outside experts.

In addition, we have begun the process to identify and hire additional personnel to assist with the financial close process.   We have hired an outside consultant to identify and screen potential candidates for this position and have begun the interview process.

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**PART II:  OTHER INFORMATION**

**Item 1.**                          LegalProceedings

None

**Item2.**                          UnregisteredSales of Equity Securities

On September 30, 2005,the Company issued 500,000 shares of Series D Convertible Preferred Stock(“Series D”) in a private placement pursuant to Section 4(2) of the SecuritiesAct of 1933, as amended, having a stated value of $10 per share, pursuant to aSecurities Purchase Agreement executed on September 30, 2005, with the LaurusMaster Fund, Ltd.  The Company received$5,000,000 in gross proceeds, less a management and placement agent fee ofapproximately $90,000, and related transaction costs of approximately$27,000.  The Series D has a dividendequal to the prime rate plus one percent (1%) and provides for repayment over athirty-six month period pursuant to an amortization schedule.  The monthly redemption amount ofapproximately $152,000 may be paid in cash or common shares at the option ofthe Company, subject to certain restrictions, commencing on January 1,2006.  If the payment of the monthly amountis made in common stock, the fixed conversion price is $6.80 per common share.

The Company also issuedto Laurus Master Fund, Ltd. a warrant to purchase 250,000 shares of commonstock at an exercise price of $3.75 per share and a warrant to purchase 50,000shares of common stock at $10.20 per share. The Securities Purchase Agreement also provides for a security interestin substantially all of the Company’s assets and provides Laurus a right offirst refusal on future financing arrangements during the term of theagreement.  In the event Laurus declinesto exercise its right of first refusal, it agreed to enter into suchdocumentation as shall be reasonable requested by the Company in order tosubordinate its rights under the Series D to the subsequent financier.  The Company utilized the proceeds to repaythe $3 million term note signed on July 7, 2005 plus accrued interest, and forworking capital.

As of September30, 2005, the outstanding principal balance of the Series D was $5,000,000.

**Item 3.**                          DefaultsUpon Senior Securities

Not Applicable

**Item 4.**                          Submissionof Matters to a Vote of Security-Holders

Not Applicable

**Item 5.**                          OtherInformation

On October 27, 2005,Implant Sciences Corporation (the “Company”) received notification from itsindependent registered public accounting firm, BDO Seidman, LLP (“BDO”),advising the Company that it was resigning as the Company’s independentregistered public accounting firm.  Thisresignation will become effective upon completion of BDO’s review of theCompany’s quarterly results for the first fiscal quarter and three months endedSeptember 30, 2005.

On November 2, 2005, theAudit Committee of the Company’s Board of Directors engaged the firm of Brown& Brown, LLP (“Brown”) to complete the review of the Company’s subsequentquarterly results and until such time that the Company officially appointsBrown & Brown as its independent registered public accounting firm. Thisappointment is pending the completion of Brown & Brown’s formal clientacceptance process.

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** **

**Item6.**                          Exhibitsand Reports on Form 8-K

(a)          Thefollowing exhibits, required by Item 601 of Regulation S-B, are filed as partof this Quarterly Report on Form 10-QS. Exhibit numbers, where applicable, in the left hand column correspond tothose of Item 601 of Regulation S-B.
| ** ** | Exhibit No. | ** ** | **Description**                                                                                                                                  |
|------------|-------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------|
|       |        |       |                                                                                                                                             |
|       | 31.1        |       | Certification of Chief Executive Officer Pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002.                                        |
|       |        |       |                                                                                                                                             |
|       | 31.2        |       | Certification of the Chief Financial Officer  Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                         |
|       |        |       |                                                                                                                                             |
|       | 32.1        |       | 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)           Reports on Form 8-K

Current Report on Form 8-K dated July 14, 2005,regarding a short term note with Laurus Master Fund.

Current Report on Form 8-K dated October 5, 2005,regarding the preferred stock financing with Laurus Master Fund.

Current Report on Form 8-K dated November 2, 2005,regarding the resignation of the Company’s independent registered accountingfirm.

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**SIGNATURES**

Pursuant to the requirements of the Securities andExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned thereunto duly authorized.
|                      | Implant Sciences Corporation |
|----------------------|------------------------------|
|                 |                         |
| Date: July 31,  2006 | /s/ Anthony J. Armini        |
|                 | Anthony J. Armini            |
|                 | President and CEO            |
|                 |                         |
| Date: July 31,  2006 | /s/ Diane J. Ryan            |
|                 | Diane J. Ryan                |
|                 | Chief Financial Officer      |

 

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