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

                            FORM 10-QSB

(X)  QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934

               For the quarterly period ended September 28, 1996

               Commission File Number 0-11447


                           DATAKEY, INC.
 (Exact name of small business issuer as specified in its charter)

          MINNESOTA                               41-1291472
(State or other jurisdiction of              (I.R.S. Employer
incorporation or organization)               Identification No.)

          407 WEST TRAVELERS TRAIL, BURNSVILLE, MN  55337

          Issuer's telephone number: (612) 890-6850

------------------------------------------------------------------

       (Former name, former address and former fiscal year,
                   if changed since last report)

     Check whether the issuer (1) filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past 12
months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
                             Yes /x/    No / /   


               APPLICABLE ONLY TO CORPORATE ISSUERS

     The number of shares outstanding of the issuer's common equity,
as of November 12, 1996, is 2,880,403.

     Transitional Small Business Disclosure Format (check one):
                            Yes / /     No /x/ 







                                 1

<PAGE>
<TABLE>
                                  PART I.  FINANCIAL INFORMATION
                                  ITEM I.  FINANCIAL STATEMENTS
                                  DATAKEY, INC. AND SUBSIDIARY
                                  CONSOLIDATED BALANCE SHEETS

<CAPTION>
                                                             September 28,      December 31,
                                                                      1996              1995
                                                            ----------------------------------
                                                             (UNAUDITED)         
<S>                                                         <C>                 <C>
          ASSETS
CURRENT ASSETS
  Cash and cash equivalents                                    $550,117           $713,230
  Investment in held-to-maturity securities                   6,268,448          6,253,984
  Trade receivables, less allowance for
    doubtful accounts of $9,970 and $34,300                   1,144,259          1,055,075
  Inventories                                                   932,084          1,222,938
  Prepaid and other                                              53,397             52,177
  Deferred taxes                                                109,000            109,000
  Refundable income taxes                                             0             46,642
                                                            ------------------------------
          Total current assets                                9,057,304          9,453,046
                                                            ==============================
                                                                                 
INTANGIBLES                                                                      
  Patent and license at cost, less amortization                                  
    of $162,565 and $118,702                                    145,730            158,264
  Non-compete agreement, less amortization 
    of $165,000 and $123,750                                          0             41,250
                                                            ------------------------------
                                                                145,730            199,514
                                                            ==============================

DEFERRED TAXES                                                  106,600                  0
                                                            ------------------------------
                                                                                 
EQUIPMENT AND LEASEHOLD IMPROVEMENTS, at cost                                    
  Production tooling                                          1,192,599          1,109,524
  Equipment                                                   2,489,322          2,358,938
  Furniture and fixtures                                        267,482            211,822
  Leasehold improvements                                        234,452            211,761
                                                            ------------------------------
                                                              4,183,855          3,892,045
  Less accumulated depreciation                              (2,708,163)        (2,366,660)
                                                            ------------------------------
                                                              1,475,692          1,525,385
                                                            ------------------------------

                                                            $10,785,326        $11,177,945
                                                            ==============================

          LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
  Accounts payable                                             $419,953           $509,683
  Accrued expenses                                              446,404            298,672
                                                            ------------------------------
          Total current liabilities                             866,357            808,355
                                                            ------------------------------
                                                                                 
DEFERRED TAXES                                                        0            158,000
                                                            ------------------------------
 
SHAREHOLDERS' EQUITY                                                             
  Convertible preferred stock, voting, stated value 
    $2.50 per share; authorized 400,000 shares;
    issued and outstanding 150,000                              375,000            375,000
  Common stock, par value $.05 per share;                                        
    authorized 10,000,000 shares;                                                
    outstanding 2,880,403 and 2,835,236                         144,020            141,762
  Additional paid-in capital                                  4,064,859          3,885,887
  Retained earnings                                           5,335,090          5,808,941
                                                            ------------------------------
                                                              9,918,969         10,211,590
                                                            ------------------------------ 

                                                            $10,785,326        $11,177,945
                                                            ==============================
</TABLE>
      See Notes to Consolidated Financial Statements

                                                  2
<PAGE>
<TABLE>
                                           DATAKEY, INC. AND SUBSIDIARY
                                            CONSOLIDATED STATEMENTS OF INCOME
                                                          (UNAUDITED)

<CAPTION>
                                                    Three Months Ended         Nine Months Ended
                                           September 28     September 30,  September 28   September 30,
                                               1996         1995           1996           1995
                                        ---------------------------------------------------------------
<S>                                     <C>                 <C>            <C>            <C>
Net Sales                                 $1,758,999        $1,771,510     $5,400,871     $5,375,884
Cost of goods sold                         1,166,843         1,209,219      3,408,019      3,606,434
                                        ---------------------------------------------------------------
                                                                                   
          Gross Profit                       592,156           562,291      1,992,852      1,769,450
Other operating revenue                        6,813             6,511         12,781         16,788
                                        ---------------------------------------------------------------

          Total gross profit and
          other operating revenue            598,969           568,802      2,005,633      1,786,238
                                        ---------------------------------------------------------------



Operating expenses:
  Research, development
   and engineering                           613,980           180,220      1,413,988        520,284
  Selling                                    324,571           283,279        947,137        866,677
  General and administrative                 214,990           166,029        657,918        495,637
                                        ---------------------------------------------------------------


          Total operating expenses         1,153,541           629,528      3,019,043      1,882,598
                                        ---------------------------------------------------------------

          Operating loss                    (554,572)          (60,726)    (1,013,410)       (96,360)

Interest income                               89,546            97,099        274,958        284,525
                                        ---------------------------------------------------------------

          Income(loss) before
          income taxes                      (465,026)           36,373       (738,452)       188,165
Income tax expense(benefit)                 (167,000)           12,000       (264,600)        64,400
                                        ---------------------------------------------------------------

          Net income(loss)                 ($298,026)          $24,373      ($473,852)      $123,765
                                        ===============================================================


Net income(loss) per common and
  common equivalent share (Primary 
  and fully diluted)                          ($0.10)            $0.01         ($0.17)         $0.04
                                        ===============================================================

Weighted average number of
  common and common
  equivalent shares                                                    
  outstanding                              2,880,403         2,986,690      2,854,707      2,981,516
                                        ===============================================================

</TABLE>
                            See Notes to Consolidated Financial Statements

                                           3
<PAGE>
<TABLE>
                                                  DATAKEY, INC. AND SUBSIDIARY
                                              CONSOLIDATED STATEMENTS OF CASH FLOWS
                                                    (UNAUDITED)
<CAPTION>
                                                   Three Months Ended               Nine Months Ended
                                          September 28      September 30,   September 28,      September 30,
                                              1996               1995            1996               1995
                                        --------------------------------------------------------------------
<S>                                     <C>                 <C>            <C>                 <C>
CASH FLOWS FROM
OPERATING ACTIVITIES

  Net Income(loss)                       ($298,026)         $24,373       ($473,852)           $123,765
  Adjustments to reconcile net income(loss)
  to net cash provided by(used in)
  operating activities:
    Depreciation                           115,973          123,923         341,503             360,332
    Amortization                            15,320           42,760          85,113             109,264
    Change in assets and liabilities
    (Increase) decrease:
      Trade receivables                    107,706         (219,836)        (89,184)            (24,709)
      Inventories                          225,995         (104,276)        290,854             (16,298)
      Prepaid expenses and other            30,477           22,149          (1,220)            (20,165)
      Refundable income taxes                    0                0          46,642             101,680
    Increase (decrease) in:                                            
      Accounts payable                    (116,950)         129,588         (89,730)           (199,982)
      Accrued expenses                      74,186           38,937         147,732              70,122
      Income taxes payable                       0           11,630               0              53,727
      Deferred taxes                      (167,500)               0        (264,600)                  0
                                        ----------------------------------------------------------------

         Net cash provided by(used in)
         operating activities              (12,819)          69,248          (6,742)            557,736
                                        -----------------------------------------------------------------



CASH FLOWS FROM INVESTING ACTIVITIES

  Purchase of tooling and equipment        (32,030)         (33,727)       (291,810)           (190,271)
  Purchase of held-to-maturity                                         
    securities                          (2,751,368)      (3,299,267)     (5,343,464)         (5,762,070)
  Proceeds from maturity of                                            
    held-to-maturity securities          2,060,000        2,410,000       5,329,000           5,710,000
  Patent and license costs                    (904)         (11,207)        (31,327)            (46,166)
                                        -----------------------------------------------------------------
                                                                       
         Net cash provided by                                          
         investing activities             (724,302)        (934,201)       (337,601)           (288,507)
                                        -----------------------------------------------------------------
                                                                       
CASH FLOWS FROM FINANCING ACTIVITIES                                   
                                                                       
  Payments on non-compete                        0                0               0             (82,500)
    obligation                                                         
  Net proceeds from issuance of                                                     
    common stock                            14,500                0         181,230                   0
                                         ----------------------------------------------------------------
           Net cash provided by (used in)   14,500                0         181,230             (82,500)
                                        -----------------------------------------------------------------
                                                                       
         Increase(decrease) in cash                                    
         and cash equivalents             (722,621)        (864,953)       (163,113)            186,729
                                                                       
CASH AND CASH EQUIVALENTS                                              
                                                                       
  Beginning                              1,272,738        1,306,721         713,230             255,039
                                        -----------------------------------------------------------------
  Ending                                  $550,117         $441,768        $550,117            $441,768
                                        =================================================================


</TABLE>
           See Notes to Consolidated Financial Statements

                                                      4
<PAGE>
                   DATAKEY, INC. AND SUBSIDIARY
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


GENERAL

In the opinion of management, the accompanying unaudited financial
statements contain all adjustments necessary to present fairly
Datakey's financial position as of September 28, 1996 and December
31, 1995 and results of its operations and cash flows for the three-
month and nine-month periods ended September 28, 1996 and September
30, 1995.  The adjustments that have been made are of a normal
recurring nature.

The accounting policies followed by the Company are set forth in
Note 1 to the Company's financial statements in the 1995 Datakey,
Inc. Annual Report and in Form 10-KSB for the year ended December
31, 1995.


INVESTMENT IN HELD-TO-MATURITY SECURITIES

The Company held marketable debt securities with an amortized cost
of $6,268,448 as of September 28, 1996.  As it is the intention of
the Company to hold these securities to maturity, they are accounted
for as "Held-to-Maturity Securities" as defined in FASB Statement
No. 115.  The market value of these U.S. Treasury Bill securities is
$6,267,623.  The unrealized loss, therefore, is $825.

All of the Securities have a maturity date of less than twelve
months.  The Company has no marketable debt securities which are
classified as Available-For-Sale Securities or Trading Securities.











                                 5

<PAGE>
 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
                   DATAKEY, INC. AND SUBSIDIARY
           RESULTS OF OPERATIONS AND FINANCIAL CONDITION


RESULTS OF OPERATIONS


     REVENUE - Net sales for the three-month and nine-month periods
ended September 28, 1996, decreased by $12,511 and increased by
$24,987, respectively, from the comparable periods of 1995. 
Commercial sales increased by $61,276, or 1%, in the three-month
period, and decreased $35,318, or 1%, in the nine-month period ended
September 28, 1996, as compared to the same periods in 1995. 
Commercial sales were 92% of total sales for the three-month period
and 86% of total sales for the nine-month period, as compared to 88%
and 87% in the comparable 1995 periods.  The Company anticipates
that government sales will remain stable for the balance of 1996 and
that commercial sales in 1996 will be less than the commercial sales
in 1995.  Revenue in the fourth quarter of 1996 and for the year
will be lower than the comparable 1995 periods due to a general
softness in business from our major customers.

     GROSS PROFIT MARGINS - Gross profit as a percentage of net
sales increased to 34% and 37% in the three-month and nine-month
periods ended September 28, 1996, from 32% and 33% in the comparable
1995 periods.  The increased gross profit margin is primarily due to
increased unit prices for standard products in excess of the unit
costs and improved manufacturing efficiencies.  Gross profit margins
for the balance of 1996 are expected to exceed the levels attained
in 1995.

     OPERATING EXPENSES - Operating expenses increased by $524,013
and $1,136,445, or 83% and 60%, in the three-month and nine-month
periods ended September 28, 1996, as compared to the same periods in
1995.  The increased expenses are primarily attributable to a
substantial increase, as planned, in research and development and
marketing expenses necessary to expedite the market introduction of
sophisticated electronic token-based systems targeted at the rapidly
emerging corporate information security marketplace.












                                 6

<PAGE>
     INTEREST INCOME - Interest income during the three-month and
nine-month periods ended September 28, 1996, decreased $7,553 and
$9,567, or 8% and 3%, from the comparable periods in 1995.  The
lower level of interest income is primarily due to a reduction in
the market interest rate on earnings from the Company's investment
in held-to-maturity securities.  Interest income for the balance of
1996 is likely to be lower than comparable 1995 periods as a result
of continuation of the lower rate of interest and a declining
balance in held-to-maturity securities, as the Company will be
investing the proceeds of some of these securities as they mature to
fund its investment in new product development.


     FINANCIAL CONDITION - During the nine-month period ended
September 28, 1996, the Company had a net decrease in cash and cash
equivalents of $163,113, compared to a net increase of $186,729 in
the comparable 1995 period.  The decrease in cash and equivalents
during the nine-month period ended September 28, 1996 was primarily
due to the significant increase in spending on new product
development and marketing expense which also has resulted in a loss
for the three-month and nine-month periods.  Cash, cash equivalents
and investment in held-to-maturity securities were $6,818,565 at
September 28, 1996.

The Company anticipates that its current working capital position of
$8,190,947 and internally generated cash flow will be sufficient to
fund its planned operations and investment in new product
development for the foreseeable future.

     OUTLOOK FOR 1996 - The Company expects to report a significant
loss in 1996 due to a substantial increase in expenditures on
product development and promotion.  

                       CAUTIONARY STATEMENTS

The discussion and analysis section involves risks and
uncertainties, including those described under the heading
"Cautionary Statements" included in Part I of the Company's Form 
10-KSB for the year ended December 31, 1995.













                                 7
<PAGE>
                    PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



(A)  Exhibits

     Exhibit 11     Computation of Per Share Earnings
     Exhibit 27     Financial Data Schedule (only filed with
                    electronic copy)

(b)  The Company was not required to and did not file a Form 8-K
     during the quarter ended September 28, 1996.








































                                 8

<PAGE>
                            SIGNATURES


Pursuant to the requirements of Section 13 and 15(d) of the
Securities and Exchange Act of 1934, the Registrant has duly caused
this report to be signed on its behalf by the undersigned, thereunto
duly authorized.

Dated November 12, 1996            DATAKEY, INC.


                                   BY: /s/ John H. Underwood
                                        John H. Underwood
                                        President & Chief Executive
                                        Officer
                                       (Principal Executive Officer) 


                                   BY: /s/ Alan G. Shuler          
                                        Alan G. Shuler
                                        Vice President & Chief
                                        Financial Officer
                                       (Principal Financial and
                                        Accounting Officer)




























                                 9

<PAGE>
                           DATAKEY, INC.
                   EXHIBIT INDEX TO FORM 10-QSB
               FOR QUARTER ENDED SEPTEMBER 28, 1996


     EXHIBIT NO.              DESCRIPTION
     ------------             ---------------------------------

          11                  Computation of Per Share Earnings
          27                  Financial Data Schedule