UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-Q


             [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934

                For the quarterly period ended September 30, 2005

                                       OR

     [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
                              EXCHANGE ACT OF 1934

         For the transition period from ______________ to ______________


                         Commission File Number 0-29798


                              CompuDyne Corporation
             (Exact name of registrant as specified in its charter)

                     Nevada                                23-1408659
      (State or other jurisdiction of                   (I.R.S. Employer
      incorporation or organization)                    Identification No.)

              2530 Riva Road, Suite 201, Annapolis, Maryland 21401
                    (Address of principal executive offices)

       Registrant's telephone number, including area code: (410) 224-4415

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.

                        Yes     X              No
                            ----------            -----------

Indicate by checkmark whether the registrant is an accelerated filer (as defined
in rule 12b-2 of the Exchange Act)

                        Yes     X              No
                            ----------            -----------

Indicate by checkmark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act)

                        Yes                    No      X
                            ----------            -----------

     As of November 2, 2005, a total of 8,118,579 shares of Common Stock, $.75
par value, were outstanding.


                                       1

<PAGE>


                     COMPUDYNE CORPORATION AND SUBSIDIARIES
                                      INDEX

<TABLE>
<CAPTION>

                                                                                     Page No.
                                                                                     --------

Part I.  Financial Information

<S>                                                                                    <C>
    Item 1.  Financial Statements - Unaudited

      Consolidated Balance Sheets - September 30, 2005
      and December 31, 2004                                                             3

      Consolidated Statements of Operations -
      Three Months and Nine Months Ended September 30, 2005 and 2004                    4

      Consolidated Statement of Changes in Shareholders' Equity -
      Nine Months Ended September 30, 2005                                              5

      Consolidated Statements of Cash Flows -
      Nine Months Ended September 30, 2005 and 2004                                     6

      Notes to Consolidated Financial Statements                                        7-15

    Item 2.  Management's Discussion and Analysis of
      Financial Condition and Results of Operations                                     16-31

    Item 3.  Quantitative and Qualitative Disclosures
      About Market Risk                                                                 32

    Item 4.  Controls and Procedures                                                    33-34

Part II.  Other Information                                                             35

      Signature                                                                         36

</TABLE>


                                       2

<PAGE>


                          ITEM 1. FINANCIAL STATEMENTS

                     COMPUDYNE CORPORATION AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                                   (unaudited)

<TABLE>
<CAPTION>

                                                                          September 30,     December 31,
                                     ASSETS                                   2005              2004
                                                                         --------------    --------------
                                                                               (dollars in thousands)

<S>                                                                         <C>                <C>
Current Assets
        Cash and cash equivalents                                           $    10,299      $      5,198
        Marketable securities                                                         0            19,577
        Cash and marketable securities - pledged                                    489                 -
        Accounts receivable, net                                                 31,985            34,291
        Contract costs in excess of billings                                     14,384            16,087
        Inventories                                                               5,740             5,165
        Prepaid expenses and other                                                4,162             5,412
                                                                         --------------    --------------
           Total Current Assets                                                  67,059            85,730

Cash and marketable securities - pledged                                          7,555                 -
Property, plant and equipment, net                                               10,718            12,094
Goodwill                                                                         25,971            25,894
Other intangible assets, net                                                      8,211             8,460
Other                                                                               716               713
                                                                         --------------    --------------
           Total Assets                                                     $   120,230      $    132,891
                                                                         ==============    ==============

                      LIABILITIES AND SHAREHOLDERS' EQUITY

Current Liabilities
        Accounts payable and accrued liabilities                            $    18,238      $    21,771
        Billings in excess of contract costs incurred                            12,099           13,497
        Deferred revenue                                                          7,656            5,998
        Current portion of notes payable                                            440              440
                                                                         --------------    --------------
           Total Current Liabilities                                             38,433           41,706

Notes payable                                                                     3,125            3,565
Convertible subordinated notes payable, net                                      39,258           39,118
Deferred tax liabilities                                                          2,072            2,072
Other                                                                               501              599
                                                                         --------------    --------------
           Total Liabilities                                                     83,389           87,060
                                                                         --------------    --------------

Commitments and Contingencies

Shareholders' Equity
        Preferred stock, 2,000,000 shares authorized and unissued                     -                -
        Common stock, par value $.75 per share:  50,000,000 shares
         authorized at September 30, 2005 and December 31, 2004;
         8,950,356 and 8,943,856 shares issued at September 30,
         2005 and December 31, 2004, respectively                                 6,712            6,707
        Additional paid-in-capital                                               44,388           44,368
        Accumulated deficit                                                      (8,507)            (272)
        Accumulated other comprehensive (loss) income                               (76)              14
        Treasury stock, at cost; 831,777 and 721,077 shares
         at September 30, 2005 and December 31, 2004, respectively               (5,676)          (4,986)
                                                                         --------------    --------------
           Total Shareholders' Equity                                            36,841           45,831
                                                                         --------------    --------------
           Total Liabilities and Shareholders' Equity                       $   120,230      $   132,891
                                                                         ==============    ==============

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

</TABLE>


                                       3

<PAGE>


                     COMPUDYNE CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (unaudited)

<TABLE>
<CAPTION>

                                             Three Months Ended September 30,     Nine Months Ended September 30,
                                                    2005           2004                2005           2004
                                                ------------   ------------        ------------  -------------
                                                           (in thousands, except per share data)
Revenues:
<S>                                            <C>            <C>                 <C>           <C>
 Contract revenues earned                      $     25,401   $     24,453        $     75,898  $      83,469
 Other revenues                                       8,098          8,907              25,011         26,701
                                                ------------   ------------        ------------  -------------
   Total revenues                                    33,499         33,360             100,909        110,170

Cost of sales                                        24,982         24,552              69,582         80,017
                                                ------------   ------------        ------------  -------------

Gross profit                                          8,517          8,808              31,327         30,153

Selling, general & administrative expenses           10,587          9,288              30,909         26,119
Research and development                              3,149          2,051               7,502          5,680
                                                ------------   ------------        ------------  -------------
Loss from operations                                 (5,219)        (2,531)             (7,084)        (1,646)
                                                ------------   ------------        ------------  -------------

Other expense (income)
 Interest expense                                       748            849               2,301          2,443
 Interest income                                       (187)          (289)               (625)          (703)
 Other expense (income)                                  (3)           (20)                (25)            43
                                                ------------   ------------        ------------  -------------
   Total other expense                                  558            540               1,651          1,783
                                                ------------   ------------        ------------  -------------

Loss before income taxes                             (5,777)        (3,071)             (8,735)        (3,429)
Income tax benefit                                     (500)        (1,221)               (500)        (1,362)
                                                ------------   ------------        ------------  -------------
Net loss                                       $     (5,277)  $     (1,850)       $     (8,235) $      (2,067)
                                                ============   ============        ============  =============

Loss per share:
---------------
Basic loss per common share                    $       (.65)  $       (.23)       $      (1.01) $        (.26)
                                                ============   ============        ============  =============

Weighted average number of common
shares outstanding                                    8,116          8,171               8,132          8,085
                                                ============   ============        ============  =============

Diluted loss per common share                  $       (.65)  $       (.23)       $      (1.01) $        (.26)
                                                ============   ============        ============  =============

Weighted average number of common
shares and equivalents                                8,116          8,171               8,132          8,085
                                                ============   ============        ============  =============

</TABLE>

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


                                       4

<PAGE>


                     COMPUDYNE CORPORATION AND SUBSIDIARIES
            CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
                                   (unaudited)
                                 (in thousands)

<TABLE>
<CAPTION>


                                                                               Accumulated
                                                       Additional                 Other
                                      Common Stock       Paid-in   Accumulated Comprehensive  Treasury Stock
                                     Shares   Amount     Capital     Deficit    Income (Loss) Shares   Amount    Total
                                   --------------------------------------------------------------------------------------
<S>                                  <C>    <C>        <C>          <C>            <C>         <C>  <C>        <C>
Balance at January 1, 2005           8,944  $  6,707   $  44,368    $    (272)     $    14     721  $  (4,986) $  45,831
Stock options exercised                  6         5          20                                                      25
Purchase of treasury shares                                                                    111       (690)      (690)
                                   --------------------------------------------------------------------------------------
 Subtotal                            8,950     6,712      44,388         (272)          14     832     (5,676)    45,166
Comprehensive income:
 Net loss                                                              (8,235)                                    (8,235)
Other comprehensive
loss, net of tax:
Unrealized loss on available for
sale marketable securities                                                             (90)                          (90)
                                                                                                                ---------
Comprehensive loss                                                                                                (8,325)
                                   ---------------------------------------------------------------------------  ---------
Balance at September 30, 2005        8,950  $  6,712   $  44,388    $  (8,507)     $   (76)    832  $  (5,676) $  36,841
                                   ========  ========   =========    =========      ======   ======  =========  =========


</TABLE>


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


                                       5

<PAGE>


                     COMPUDYNE CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (unaudited)

<TABLE>
<CAPTION>

                                                                        Nine Months Ended September 30,
                                                                             2005           2004
                                                                        -------------  --------------
                                                                               (in thousands)
<S>                                                                    <C>            <C>
Cash flows used in operating activities:
  Net loss                                                             $      (8,235) $       (2,067)

Adjustments to reconcile net income to
net cash provided by operations:
  Depreciation and amortization                                                2,596           2,099
  Deferred tax asset                                                               0             267
  Gain from disposal of property, plant and equipment                             (4)              3
  Amortization of debt discount                                                  140             129
  Unrealized gain on interest rate swap                                           21              44
  Amortization of discount on marketable securities                              (10)            (56)

Changes in assets and liabilities:
  Accounts receivable                                                          2,396           1,220
  Contract costs in excess of billings                                         1,703             329
  Inventories                                                                   (573)          1,608
  Prepaid expenses and other current assets                                    1,553          (2,647)
  Other assets                                                                    (3)            (68)
  Accounts payable and accrued liabilities                                    (3,928)         (6,125)
  Billings in excess of contract costs incurred                               (1,398)         (1,029)
  Deferred revenue                                                             1,143             398
  Other liabilities                                                              (98)            (46)
                                                                        -------------  --------------
Net cash flows used in operating activities                                   (4,697)         (5,941)
                                                                        -------------  --------------

Cash flows from investing activities:
  Purchase of marketable securities                                           (7,722)        (31,195)
  Redemption of marketable securities                                         19,288          15,518
  Additions to property, plant and equipment                                    (844)           (972)
  Proceeds from sale of property, plant and equipment                              5               3
  Cash acquired from acquisition                                                 363               -
  Net payment for acquisition                                                    (66)         (3,460)
                                                                        -------------  --------------
Net cash flows provided by (used in) investing activities                     11,024         (20,106)
                                                                        -------------  --------------

Cash flows from financing activities:
  Issuance of common stock                                                        25           1,255
  Purchase of treasury shares                                                   (690)              -
  Restricted cash                                                               (121)              -
  Repayment of notes payable                                                    (440)        (13,653)
  Borrowings of convertible subordinated notes payable                             -          38,942
                                                                        -------------  --------------
Net cash (used in) provided by financing activities                           (1,226)         26,544
                                                                        -------------  --------------

Net change in cash and cash equivalents                                        5,101             497
Cash and cash equivalents at beginning of period                               5,198           1,869
                                                                        -------------  --------------
Cash and cash equivalents at end of period                             $      10,299  $        2,366
                                                                        =============  ==============

</TABLE>


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


                                       6

<PAGE>


                     COMPUDYNE CORPORATION AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)


1.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation:
The  accompanying  unaudited  consolidated  financial  statements  of  CompuDyne
Corporation and its subsidiaries  (the "Company") have been prepared pursuant to
the rules  and  regulations  of the  Securities  and  Exchange  Commission.  The
consolidated  balance  sheet as of December  31, 2004 has been  derived from the
Company's December 31, 2004 audited financial  statements.  Certain  information
and note disclosures  included in the annual financial  statements,  prepared in
accordance with accounting principles generally accepted in the United States of
America, have been condensed or omitted pursuant to those rules and regulations,
although the Company  believes that the  disclosures  made in this Form 10-Q are
adequate to make the information presented not misleading.

In the opinion of the Company, the accompanying unaudited consolidated financial
statements reflect all necessary adjustments and reclassifications (all of which
are  of a  normal,  recurring  nature,  unless  otherwise  disclosed)  that  are
necessary for the fair  presentation of the periods  presented.  It is suggested
that these consolidated  unaudited  financial  statements be read in conjunction
with the consolidated financial statements and the notes thereto included in the
Company's  annual report filed with the  Securities  and Exchange  Commission on
Form 10-K for the year ended December 31, 2004.  Operating results for the three
and nine month  periods ended  September  30, 2005 and 2004 are not  necessarily
indicative of operating results for the entire fiscal year.

Comprehensive Income (Loss)
The following table shows the components of comprehensive  income (loss), net of
income  taxes,  for the nine  months  ended  September  30,  2005 and  2004,  in
thousands.

<TABLE>
<CAPTION>

                                                                  For the Nine Months
                                                                  Ended September 30,
                                                                  2005            2004
                                                              -----------     --------
<S>                                                                 <C>            <C>
    Net loss                                                   $ (8,235)      $ (2,067)
    Unrealized gain (loss) on available-for-sale securities         (90)           (13)
    Ineffectiveness of interest rate swap agreement                  -              93
                                                              -----------     --------
    Comprehensive loss                                         $ (8,325)      $ (1,987)
                                                              ===========     ========

</TABLE>

Stock-Based Compensation
As of September 30, 2005, the Company  continues to account for its  stock-based
compensation  plans, using the intrinsic value method and in accordance with the
recognition  and measurement  principles of APB Opinion No. 25,  "Accounting for
Stock Issued to Employees," and related Interpretations. No stock-based employee
compensation  cost is  reflected  in the results of  operations,  as all options
granted had an exercise  price equal to or greater than the fair market value of
the  underlying  common  stock  on  the  date  of  grant.  The  following  table
illustrates,  in accordance with the provisions of SFAS No. 148, "Accounting for
Stock-Based  Compensation  - Transition and  Disclosure,"  the effect on the net
loss and loss per share if the Company  had  applied the fair value  recognition
provisions  of SFAS No. 123R,  "Accounting  for  Stock-Based  Compensation,"  to
stock-based employee compensation.

<TABLE>
<CAPTION>

                                                           For the Three Months Ended      For the Nine Months Ended
                                                                  September 30,                 September 30,
                                                                 2005        2004            2005         2004
                                                             ----------   ---------       ----------   ---------
                                                                       (in thousands, except per share data)
<S>                                                         <C>          <C>             <C>          <C>
Net loss, as reported                                       $   (5,277)  $  (1,850)      $   (8,235)  $  (2,067)
Deduct:  Total stock-based employee compensation expense
 determined under fair value based method
for all awards, net of related tax effects                        (481)       (277)          (1,428)       (784)
                                                             ----------   ---------       ----------   ---------
Pro forma net loss                                          $   (5,758)  $  (2,127)      $   (9,663)  $  (2,851)
                                                             ==========   =========       ==========   =========

Loss per share:
Basic - as reported                                         $     (.65)  $    (.23)      $    (1.01)  $    (.26)
Basic - pro forma                                           $     (.71)  $    (.26)      $    (1.19)  $    (.35)

Diluted - as reported                                       $     (.65)  $    (.23)      $    (1.01)  $    (.26)
Diluted - pro forma                                         $     (.71)  $    (.26)      $    (1.19)  $    (.35)

</TABLE>


                                       7

<PAGE>

The fair value of the  Company's  stock-based  option  awards to  employees  was
estimated using the Black-Scholes  model assuming no expected  dividends and the
following weighted-average assumptions:

<TABLE>
<CAPTION>

                             For the Three Months Ended  For the Nine Months Ended
                                    September 30,               September 30,
                                 2005         2004           2005         2004
                             -------------  -----------  -------------  -----------
<S>                                   <C>          <C>            <C>          <C>
Expected life in years                3.2          5.3            4.8          5.4
Risk-free interest rate               3.9%         3.4%           4.0%         3.3%
Expected volatility                  80.6%        75.4%          81.9%        76.0%

</TABLE>

On May 27, 2005, the Company's shareholders approved amendments to the CompuDyne
Corporation  1996  Stock  Incentive  Compensation  Plan  for  Employees  and the
CompuDyne  Corporation 1996 Stock Option Plan for  Non-Employee  Directors ("the
1996 Plans") to provide  primarily for a definition of a change in control.  The
Company  does not believe  the  amendments  have a material  impact on the stock
awards issued under the 1996 Plans.

On May 27, 2005, the Company's  shareholders  approved the CompuDyne Corporation
2005  Stock  Incentive   Compensation  Plan  for  Employees  and  the  CompuDyne
Corporation 2005 Stock Option Plan for Non-Employee Directors ("the 2005 Plans")
and authorized awards exercisable for up to 4,000,000 and 400,000 common shares,
respectively,  under the 2005 Plans.  The 2005 Plans are intended to replace the
1996 Plans, which will expire in 2006, and contain similar provisions.  The 2005
Plans permit the  issuance of either  incentive  stock  awards or  non-qualified
stock awards.

Income Taxes
The  effective  tax rate was a  benefit  of 8.6% and 5.7% for the three and nine
months ended  September 30, 2005,  respectively,  and the effective tax rate was
approximately  40% for both the three and nine months ended  September 30, 2004.
The federal income tax benefit  recorded during the three months ended September
30, 2005  represents  the reduction of a liability  maintained for uncertain tax
positions  which was no longer  required.  The  Company has decided to provide a
valuation  allowance  against its deferred tax assets, as it has determined that
due to the Company's  recent operating losses there is uncertainty as to whether
it is more likely than not that these assets will be realized.

Other Recently Issued Accounting Pronouncements

In  May  2005,  the  FASB  issued  SFAS  154,   "Accounting  Changes  and  Error
Corrections" (SFAS 154) which replaces APB Opinion No. 20, "Accounting  Changes"
and SFAS 3, "Reporting  Accounting  Changes in Interim  Financial  Statements-An
Amendment of APB Opinion No. 28." SFAS 154 provides  guidance on the  accounting
for and reporting of accounting  changes and error  corrections.  It establishes
retrospective  application,  or the latest  practicable  date,  as the  required
method for  reporting a change in  accounting  principle  and the reporting of a
correction  of an  error.  SFAS 154 is  effective  for  accounting  changes  and
corrections  of errors made in fiscal years  beginning  after December 15, 2005.
The Company is  currently  evaluating  the effect that the  adoption of SFAS 154
will have on its consolidated financial position,  results of operations or cash
flows but does not expect it to have a material impact.

In December  2004, the FASB issued  Statement No. 153,  Exchanges of Nonmonetary
Assets,  an  amendment  of APB  Opinion  No. 29.  Statement  153  addresses  the
measurement  of  exchanges  of  nonmonetary  assets and  redefines  the scope of
transactions  that  should be  measured  based on the fair  value of the  assets
exchanged.  Statement 153 is effective for nonmonetary asset exchanges occurring
in fiscal  periods  beginning  after June 15, 2005. The Company does not believe
adoption  of  Statement  153 will have a  material  effect  on its  consolidated
financial position, results of operations or cash flows.

In December 2004, the FASB issued FASB Staff Position No. 109-1,  Application of
FASB  Statement  No. 109 (SFAS 109),  Accounting  for Income  Taxes,  to the Tax
Deduction  on Qualified  Production  Activities  Provided by the  American  Jobs
Creation Act of 2004 (FSP 109-1).  FSP 109-1  clarifies that the  manufacturer's
deduction  provided  for under the  American  Jobs  Creation  Act of 2004 (AJCA)
should be accounted for as a special  deduction in accordance  with SFAS 109 and
not as a tax rate  reduction.  The  adoption of FSP 109-1 will have no impact on
the Company's financial position, results of operations or cash flows for fiscal
year 2005 because the  manufacturer's  deduction is not available to the Company
until  fiscal  year  2006.  The  Company  is  evaluating  the  effect  that  the
manufacturer's deduction will have in subsequent years.

In  December  2004,  the FASB  issued SFAS No.  123R,  "Share-Based  Payment," a
revision  of  SFAS  No.  123,  "Accounting  for  Stock-Based  Compensation"  and
superseding APB Opinion No. 25, "Accounting for Stock Issued to Employees." SFAS
No.  123R  requires  the Company to expense  grants made under its stock  option
program. That cost will be recognized over the vesting period of the plans. SFAS
No. 123R is effective for the first annual period beginning after June 15, 2005.


                                       8

<PAGE>


The  Company  has not yet  determined  the method of  adoption  or the effect of
adopting SFAS 123R, and has not  determined  whether the adoption will result in
amounts  that are similar to the current pro forma  disclosures  under SFAS 123.
The Company is evaluating the alternatives allowed under the standard, which the
Company is required to adopt beginning in the first quarter of 2006.

In November 2004, the FASB issued SFAS No. 151,  "Inventory Costs," an amendment
to ARB No. 43, Chapter 4, "Inventory  Pricing," to clarify that abnormal amounts
of  idle  facility  expenses,  freight,  handling  costs  and  wasted  materials
(spoilage) should be recognized as current-period  charges. In addition, FAS 151
requires that allocation of fixed production overhead to the costs of conversion
be based on the normal  capacity of the production  facilities.  SFAS No. 151 is
effective for inventory  costs incurred during fiscal years beginning after June
15, 2005. The Company believes there will be no material effect on the Company's
financial position,  results of operations,  or cash flows upon adoption of this
statement.

Reclassifications - Certain prior year amounts have been reclassified to conform
with the current year's presentation.

2.   EARNINGS PER SHARE

Earnings per share are presented in accordance with SFAS No. 128,  "Earnings Per
Share." This Statement  requires dual presentation of basic and diluted earnings
per share on the face of the statement of  operations.  Basic earnings per share
is computed using the weighted average number of shares  outstanding  during the
period and excludes any dilutive  effects of options,  warrants,  or convertible
securities.  Diluted  earnings per share is computed using the weighted  average
number of common and  common  stock  equivalent  shares  outstanding  during the
period;  common stock  equivalent  shares are excluded from the  computation  if
their effect is antidilutive.

Stock  options and  warrants to purchase  1,456,133  and 739,800  shares for the
three month periods ended  September 30, 2005 and 2004,  respectively,  were not
dilutive  and,  therefore,  were not  included  in the  computation  of  diluted
earnings per common  share.  Additionally,  the 2,897,768  shares  issuable upon
conversion of the 6.25% Convertible Subordinated Notes due January 15, 2011 (the
"2011 Notes") are excluded for both the three month periods ended  September 30,
2005 and 2004 as the effect is  antidilutive.  Stock  options  and  warrants  to
purchase 1,456,133 and 673,800 shares for the nine month periods ended September
30, 2005 and 2004,  respectively,  were not dilutive  and,  therefore,  were not
included in the computation of diluted earnings per common share.  Additionally,
the  2,897,768  shares  issuable  upon  conversion  of the 2011  Notes  are also
excluded for both the nine month  periods  ended  September 30, 2005 and 2004 as
the effect is antidilutive.

The  computations of the Company's  basic and diluted  earnings per common share
amounts were as follows:

<TABLE>
<CAPTION>

                                                             Three Months Ended                Nine Months Ended
                                                                September 30,                     September 30,
                                                             2005           2004                2005           2004
                                                         -------------  -------------       -------------  -------------
                                                                         (in thousands, except per share data)
<S>                                                     <C>            <C>                 <C>            <C>
Net loss                                                $      (5,277) $      (1,850)      $      (8,235) $      (2,067)
                                                         =============  =============       =============  =============

Weighted average number of common shares outstanding            8,116          8,171               8,132          8,085
Effect of dilutive stock options and warrants                       -              -                   -              -
                                                         -------------  -------------       -------------  -------------
Diluted weighted average number of common shares
  outstanding                                                   8,116          8,171               8,132          8,085
                                                         =============  =============       =============  =============

Net loss per common share
Basic                                                   $        (.65) $        (.23)      $       (1.01) $        (.26)
Diluted                                                 $        (.65) $        (.23)      $       (1.01) $        (.26)

</TABLE>

In March 2004, the EITF reached a final consensus on Issue 03-6,  "Participating
Securities and the Two-Class  Method under FASB Statement No. 128,  Earnings Per
Share" ("Issue 03-6"),  effective June 30, 2004.  Issue 03-6 requires the use of
the  two-class  method to compute  earnings  per share for  companies  that have
issued securities other than common stock that contractually  entitle the holder
to participate in dividends and earnings of the Company ("participation rights")
when, and if, it declares dividends on its common stock.

The 2011 Notes contain contingent participation rights. The participation rights
are contingent  upon the ability,  based on the  undistributed  earnings for the
period, of the Company to declare and distribute dividends per share equal to or
in  excess  of the per share  fair  value of the  Company's  common  stock.  The
contingency  was not met  for the  three  month  or  nine  month  periods  ended
September 30, 2005 or September 30, 2004. Accordingly, no undistributed earnings
have been  allocated to the 2011 Notes.  At each reporting  period,  the Company
assesses  whether the  contingency  criteria have been met and  consequently  if
undistributed earnings should be allocated to participating securities.


                                       9

<PAGE>


3.   INVESTMENTS IN MARKETABLE SECURITIES

The  Company's  marketable  securities  are  categorized  as  available-for-sale
securities,  as defined by SFAS No. 115,  "Accounting for Certain Investments in
Debt  and  Equity  Securities."  At  September  30,  2005  all of the  Company's
investments in marketable securities were classified as available-for-sale,  and
as a result,  were  reported  at fair  value.  Unrealized  gains and  losses are
reported  as  a  component  of  accumulated   other   comprehensive   income  in
shareholders'  equity.  The cost for marketable  securities was determined using
the specific  identification method and adjusted for accretion of discounts from
the date of purchase to maturity.  The accretion is included in interest income.
The fair  values of  marketable  securities  are  estimated  based on the quoted
market price for these securities.

Effective  March 4, 2005, the Company  agreed to pledge to its bank,  marketable
securities  equal to 111.11% of the value of its  outstanding  letters of credit
issued by the Company's bank under the Amended and Restated Credit agreement, or
cash  equal to 100% of the value of its  outstanding  letters  of  credit,  or a
combination thereof.

At September 30, 2005, $8.0 million of cash and marketable  securities,  at fair
value ($74 thousand more than was required),  were pledged to the Company's bank
to secure the $7.2 million of letters of credit issued by the bank. Of this $8.0
million of cash and  marketable  securities,  $489 thousand was  classified as a
current asset, with the remainder classified as a long-term asset.

Marketable  securities at September 30, 2005 are  summarized,  in thousands,  as
follows:

<TABLE>
<CAPTION>

                                                                          Gross Unrealized
                                                                       ----------------------
                                                             Cost         Gains       Losses     Fair Value
                                                           -------     ----------    --------    ----------
<S>                                                       <C>          <C>           <C>        <C>
         Collateralized mortgage obligations
          (CMO's) consisting of securities
          issued by Fannie Mae and
          Freddie Mac                                     $  7,999     $        -    $     76   $  7,923


</TABLE>

The cost and estimated fair value of current marketable securities at September
30, 2005, by contractual maturity, are shown below. Expected maturities will
differ from contractual maturities because the issuers of the securities have
the right to repay obligations without prepayment penalties. It is the Company's
policy to classify available-for-sale securities that are available for use in
current operations as a current asset.

                                                                   Estimated
         (in thousands)                               Cost         Fair Value
                                                   ----------     -----------
         Due after one year and beyond               $ 7,999         $ 7,923
                                                     -------         -------
         Total debt securities                       $ 7,999         $ 7,923
                                                     =======         =======

4.   INVENTORIES

Inventories consist of the following, in thousands:

<TABLE>
<CAPTION>

                                                               September 30,    December 31,
                                                                   2005            2004
                                                              --------------  --------------
<S>                                                          <C>             <C>
    Raw materials                                            $        4,102  $        4,241
    Work in progress                                                  2,677           1,890
    Finished goods                                                      349             396
                                                              --------------  --------------
    Total inventory                                                   7,128           6,527
    Reserve for excess and obsolete inventory                        (1,388)         (1,362)
                                                              --------------  --------------
    Inventories, net                                         $        5,740  $        5,165
                                                              ==============  ==============

</TABLE>

5.   GOODWILL

The December 31, 2004 and September 30, 2005 consolidated  financial  statements
include the fair market value of the assets acquired and liabilities assumed and
the related  allocations of the purchase price related to the acquisition of the
assets of 90 Degrees,  Inc. ("90 Degrees") on August 11, 2004. Goodwill recorded
for the 90 Degrees asset acquisition was approximately $1.9 million.

The December 31, 2004 and September 30, 2005 consolidated  financial  statements
also  include  the fair  market  value of the assets  acquired  and  liabilities
assumed  and the  related  allocations  of the  purchase  price  related  to the


                                       10

<PAGE>


acquisition of the assets of Copperfire Software Solutions,  Inc. ("Copperfire")
on December 15, 2004. Goodwill recorded for the Copperfire asset acquisition was
approximately $1.4 million.

The Company  reviews the carrying value of goodwill  annually  during the fourth
quarter of the year or whenever events or changes in circumstances indicate that
the carrying  value may not be  recoverable,  utilizing a  discounted  cash flow
model.  Changes  in  estimates  of future  cash  flows  caused by items  such as
unforeseen  events or changes in market  conditions could negatively  affect the
reporting  unit's  fair value and result in an  impairment  charge.  The Company
cannot predict the occurrence of events that might adversely affect the reported
value of goodwill of approximately $26.0 million at September 30, 2005.

Goodwill, by segment, consists of the following, in thousands:

                                          September 30,  December 31,
                                              2005           2004
                                          -------------  -------------
Attack Protection                        $         728  $         728
Public Safety & Justice                         25,243         25,166
                                          -------------  -------------
                                         $      25,971  $      25,894
                                          =============  =============

The change in Public Safety & Justice's  goodwill  balance at September 30, 2005
as  compared  to December  31,  2004 is  primarily  a result of the  adjustments
necessitated  by  recording  the final  appraisal  of the  assets  received  and
liabilities assumed for the recent acquisitions.

6.   INTANGIBLE ASSETS

The December 31, 2004 and September 30, 2005 consolidated  financial  statements
include the fair market value of the assets acquired and liabilities assumed and
the related  allocations of the purchase price related to the acquisition of the
assets of 90 Degrees on August 11,  2004.  Intangible  assets for the 90 Degrees
asset acquisition are approximately $60 thousand at September 30, 2005.

The December 31, 2004 and September 30, 2005 consolidated  financial  statements
include the fair market value of the assets acquired and liabilities assumed and
the related  allocations of the purchase price related to the acquisition of the
assets of Copperfire on December 15, 2004.  Intangible assets for the Copperfire
asset acquisition are approximately $60 thousand at September 30, 2005.

The weighted average life for purposes of amortization of identified  intangible
assets acquired in 2004 was two years for covenant not to compete agreements and
employment contracts.

Intangible  assets include the trade name,  customer  relationships  and backlog
from the acquisition of Tiburon,  Inc. in 2002. Other intangibles  include trade
names,  Department  of State  Certifications,  Underwriters  Laboratories,  Inc.
listings,  and patents  related to the  acquisition  of Norment and Norshield in
1998.  With the  exception  of trade names,  which have  indefinite  lives,  the
intangible assets are being amortized using the straight-line method.

Intangible assets consist of the following, in thousands:

<TABLE>
<CAPTION>

                                     September 30,  December 31,       Amortizable
                                         2005           2004              Lives
                                     -------------  -------------  -------------------
<S>                                 <C>            <C>                <C>
                                                                        (in years)
Trade names                         $       5,673  $       5,673        Indefinite
Customer relationships                      2,500          2,500            14
Backlog                                       300            300      Fully amortized
Other                                       1,185          1,305           1-20
                                     -------------  -------------
                                            9,658          9,778
Less:  accumulated amortization            (1,447)        (1,318)
                                     -------------  -------------
                                    $       8,211  $       8,460
                                     =============  =============

</TABLE>

Amortization  expense for the  Company's  intangible  assets for the nine months
ended  September 30, 2005 was $247  thousand.  The following  schedule lists the
expected  amortization  expense for each of the next five years ending  December
31, in thousands:


                                       11

<PAGE>

                Year
                ----
                2005 (remaining)          $       62
                2006                             265
                2007                             257
                2008                             225
                2009                             225
                Thereafter                     1,546
                                         -----------
                Total                     $    2,580
                                         ===========

7.   NOTES PAYABLE AND LINE OF CREDIT

<TABLE>
<CAPTION>

                                                                                     September 30,      December 31,
                                                                                         2005                2004
                                                                                  ------------------  ------------------
                                                                                             (in thousands)
<S>                                                                              <C>                 <C>
Industrial revenue bond, interest payable quarterly at a variable rate
of 1.65% to 3.26% (2.98% at September 30, 2005)  principal payable
in quarterly installments of $35,000.  The bond is fully collateralized
by a $1.4 million letter of credit and a bond guarantee agreement.               $            1,260  $            1,400

Industrial revenue bond, interest payable quarterly at a variable rate
of 1.62% to 3.15% (2.90% at September 30, 2005)  principal payable
in annual installments of $300,000 until 2013 when the annual
installments become $100,000.  The bond is fully collateralized by
a $2.3 million letter of credit and a bond guarantee agreement.                               2,305               2,605

6.25% Convertible Subordinated Notes due January 15, 2011.
The notes bear interest at a rate of 6.25% per annum, payable
semi-annually, and are convertible into shares of common
stock at a conversion price of $13.89 per share.  These notes
are subordinated to all other liabilities of the Company.                                    40,250              40,250
                                                                                  ------------------  ------------------

       Total notes payable                                                                   43,815              44,255
       Less convertible subordinated notes discount                                             992               1,132
                                                                                  ------------------  ------------------
        Subtotal                                                                             42,823              43,123
       Less amount due within one year                                                          440                 440
                                                                                  ------------------  ------------------
                                                                                 $           42,383  $           42,683
                                                                                  ==================  ==================

</TABLE>

Maturities of notes payable are as follows, in thousands:

                Year Ending December 31,                      Amount
                ------------------------                 ---------------
                         2005 (remaining)                $            -
                         2006                                       440
                         2007                                       440
                         2008                                       440
                         2009                                       440
                         Thereafter                              42,055
                                                         ---------------
                                                         $       43,815
                                                         ===============

On January 22,  2004,  the  Company  completed  an  offering  of $40.25  million
principal  amount of the 2011 Notes.  The 2011 Notes bear  interest at a rate of
6.25% per annum,  payable  semi-annually,  and are  convertible  into  shares of
common stock at a conversion price of $13.89 per share,  subject to adjustments.
The 2011 Notes are  subordinated  to all other  liabilities of the Company.  The
September 30, 2005 carrying value is listed below, in thousands.

Face value                            $  40,250
Underwriters discounts, net                 992
                                      ---------
                                      $  39,258
                                      =========

                                       12

<PAGE>

The 2011 Notes can be converted into the Company's common stock at the option of
the holder at any time at a  conversion  price of $13.89  per share,  subject to
adjustments for stock splits, stock dividends, the issuance of certain rights or
warrants to the existing  holders of the Company's common stock and common stock
cash dividends in excess of a stated threshold.

The 2011 Notes are  redeemable  at the option of the Company  after  January 15,
2009, at a premium of two percent of the face value plus accrued interest unless
a change in control event,  as defined in the indenture  dated as of January 15,
2004 between the Company and Wachovia  Bank of Delaware,  National  Association,
relating to the 2011 Notes, occurs. If such an event does occur, the Company may
redeem the 2011 Notes in whole but not in part at face value plus a premium.  If
a change in control  event  occurs and the Company  does not elect to redeem the
2011 Notes,  the holders can require the Company to repurchase the 2011 Notes at
face value plus accrued interest.

The debt issuance  costs for the 2011 Notes are recorded as  non-current  assets
and are amortized on a straight-line  basis to interest expense over the term of
the 2011 Notes. In addition,  underwriters'  discounts  totaled $1.3 million and
are amortized on a straight-line  basis to interest expense over the term of the
2011  Notes.  Interest  expense  recorded  for the  total of the  deferred  debt
issuance  costs  and  underwriters'  discounts  on the 2011  Notes  totaled  $63
thousand and $63 thousand  for the three  months  ended  September  30, 2005 and
2004,  respectively,  and $189  thousand  and $182  thousand for the nine months
ended September 30, 2005 and 2004, respectively.

On March 31, 2004, the Company signed an Amended and Restated  Credit  Agreement
for a $25.0  million  secured  working  capital line of credit.  This  agreement
provided for borrowings against eligible accounts receivable and inventories and
contained various financial  covenants,  including among other things, a minimum
fixed charge coverage ratio,  maximum debt to earnings before  interest,  taxes,
depreciation  and amortization  ("EBITDA")  ratio,  minimum EBITDA  covenant,  a
minimum  consolidated  tangible net worth covenant,  a maximum permitted capital
expenditures covenant,  and a covenant restricting the payment of dividends.  Of
this line of credit,  $10.0  million  matures on March 1, 2007 and $15.0 million
was to  mature on March 1,  2005.  At  September  30,  2005,  $7.2  million  was
committed principally as letters of credit securing the Industrial Revenue Bonds
and other guarantees.

On October 29, 2004 and March 4, 2005,  the Company and its banks  entered  into
amendments  to the  credit  agreement  pursuant  to which the banks  waived  the
Company's  non-compliance  with its fixed charge  coverage  ratio covenant as of
September 30, 2004 and  non-compliance  with its minimum  EBITDA  covenant as of
December 31, 2004, respectively.  In addition, the Company and its banks amended
the credit  agreement to  eliminate  the $15.0  million line of credit  maturing
March 2005 and to require  borrowings  under its $10.0 million line of credit to
be collateralized by pledged marketable securities equal to 111.11% of the value
of such  borrowings  or cash equal to the value of such  borrowings.  The credit
agreement was also amended to eliminate the quarterly  minimum  EBITDA  covenant
for the  Company's  fiscal years  ending after  December 31, 2004 and to provide
that the minimum fixed charge  coverage ratio  covenant,  maximum debt to EBITDA
ratio covenant and the minimum consolidated tangible net worth covenant will not
become  effective  until March 31, 2006. On May 3, 2005,  the  Company's  lender
confirmed  in writing  that  there  will not be any event of  default  under the
various credit agreements,  by virtue of the Company's failure to timely file an
amendment to its Annual Report on Form 10-K for the year ended December 31, 2004
(the "2004  10-K") to  provide  management's  report on  internal  control  over
financial  reporting  as of  December  31,  2004 and the  related  report of the
Company's   independent   registered  public  accounting  firm  on  management's
assessment of the  effectiveness  of internal  control over financial  reporting
(together,  the "404 Report") required by Section 404 of the  Sarbanes-Oxley Act
of 2002.  The 404 Report was filed with the SEC on Form 10-K/A on June 27, 2005.
The Company was in compliance  with the required bank covenants at September 30,
2005.

As long as the Company maintains pledged marketable  securities equal to 111.11%
of the value of its borrowings  under the credit  agreement or cash equal to the
value of its  borrowings,  borrowings  under the  credit  agreement  shall  bear
interest at LIBOR + 1.00% or Prime + 1.00%.  The Company incurs  commitment fees
equal to 0.20% on any unused  balances,  defined as the  difference  between the
total  amount of its $10.0  million  line of credit less  amounts  borrowed  and
outstanding under its letters of credit.

In January  2004,  the interest rate swap ceased to be a  highly-effective  cash
flow  hedge  when  the  related  debt  was  repaid.  Consequently,  the  amounts
previously  recorded in other  comprehensive  income as changes in fair value of
the interest rate swap were  recognized in earnings for the year ended  December
31, 2004. Upon determination of the hedge ineffectiveness the cumulative loss on
the fair value of the interest rate swap was $155 thousand, which was recognized
in other income. The change in fair value of the interest rate swap for the nine
months ended  September 30, 2005 was a gain of $21  thousand.  The interest rate
swap matured on September 30, 2005.


                                       13

<PAGE>


8.   PRODUCT WARRANTIES

Included in accounts  payable and accrued  liabilities  are  estimated  expenses
related  to  warranties  made at the  time  products  are sold or  services  are
rendered.  These accruals are established  using  historical  information on the
nature,  frequency,  and average cost of warranty  claims.  The Company warrants
numerous  products,  the terms of which vary  widely.  In  general,  the Company
warrants  its  products  against  defect  and  specific  non-performance.  As of
September 30, 2005 the Company had a product  warranty  accrual in the amount of
$352 thousand.  The changes in the product  warranty  liability are displayed in
the following table, in thousands:

       Beginning balance at January 1, 2005                        $  359
       Plus:  accruals for product warranties                         256
       Less:  warranty charges/claims                                (263)
                                                                   -------
       Ending balance at September 30, 2005                        $  352
                                                                   =======

9.   OPERATING SEGMENT INFORMATION

The following is the operating  segment  information  for the three months ended
September 30, 2005 and 2004, in thousands:

<TABLE>
<CAPTION>

                                              Revenues                    Pre-tax Income (Loss)
                                              --------                    ---------------------
                                         2005           2004                2005           2004
                                     -------------  -------------       -------------  -------------
<S>                                 <C>            <C>                 <C>            <C>
Institutional Security Systems      $      15,548  $      11,783       $        (170) $        (806)
Attack Protection                           5,892          6,510              (1,800)        (2,101)
Integrated Electronic Systems               2,898          3,296                 172            137
Public Safety and Justice                   9,161         11,771              (3,188)           370
CompuDyne Corporate                             -              -                (791)          (671)
                                     -------------  -------------       -------------  -------------
                                    $      33,499  $      33,360       $      (5,777) $      (3,071)
                                     =============  =============       =============  =============

</TABLE>

The following is the  operating  segment  information  for the nine months ended
September 30, 2005 and 2004, in thousands:

<TABLE>
<CAPTION>

                                              Revenues                    Pre-tax Income (Loss)
                                              --------                    ---------------------
                                         2005           2004                2005           2004
                                     -------------  -------------       -------------  -------------
<S>                                 <C>            <C>                 <C>            <C>
Institutional Security Systems      $      43,008  $      41,794       $         528  $        (683)
Attack Protection                          18,855         20,204              (2,141)        (3,236)
Integrated Electronic Systems               6,805         11,242                 180            551
Public Safety and Justice                  32,241         36,930              (3,270)         1,765
CompuDyne Corporate                             -              -              (4,032)        (1,826)
                                     -------------  -------------       -------------  -------------
                                    $     100,909  $     110,170       $      (8,735) $      (3,429)
                                     =============  =============       =============  =============

</TABLE>

10.  CONTINGENCIES

Legal  Matters.  The Company is party to certain legal actions and inquiries for
environmental  and other matters  resulting  from the normal course of business.
Some of the  businesses,  especially  Institutional  Security  Systems,  involve
working as a subcontractor to a prime contractor.  From time to time the Company
makes claims against the prime contractor,  or the prime contractor makes claims
against the Company.  At any point in time the Company is engaged in a number of
claim  disputes  with prime  contractors,  some of which may have a  significant
negative outcome.  Although the total amount of potential liability with respect
to  these  matters  can not be  ascertained  given  the  nature  of the  related
allegations,  the Company presently  believes that any resulting  liability will
not  have a  material  effect  on its  financial  position,  results  of  future
operations or cash flows.

In addition to claims with prime  contractors,  the Company may also make claims
against customers and customers may make claims against the Company.

The Company has learned  that the National  Association  of  Securities  Dealers
("NASD") and other regulatory bodies are seeking sanctions against purchasers of
the  Company's  common  stock in its 2001 PIPE  transaction.  In  addition,  the
Company has learned that the placement agent for this  transaction is also being
investigated  by the SEC,  NASD and other  regulatory  bodies.  The  Company  is
investigating  these matters,  has filed lawsuits against certain purchasers and
is evaluating its other options for recovery.

The Company  has been named in  lawsuits  involving  asbestos  related  personal
injury and death claims in which CompuDyne  Corporation,  individually and as an
alleged successor, is a defendant.  The Company has been named as a defendant in
cases  related  to  claims  for  asbestos  exposure  allegedly  due to  asbestos
contained in certain of its predecessor's  products. The Company has advised its
insurers  of each of these  cases,  and the  insurers  are  providing  a defense
pursuant to agreement with the Company,  subject to reservation of rights by the


                                       14

<PAGE>


insurers.  The insurers have advised that claims in such litigation for punitive
damages,  exemplary  damages,  malicious  and  willful and wanton  behavior  and
intentional  conduct are not covered.  One of the carriers has given notice that
asbestos  related  claims  are  excluded  from  certain of these  policies.  The
insurers have additional coverage defenses,  which are reserved,  including that
claims may fall outside of a particular  policy  period of coverage.  Litigation
costs  to date  have  not  been  significant  and the  Company  has not paid any
settlements from its own funds.

The Company  cannot  ascertain  the total  amount of  potential  liability  with
respect to these legal  matters,  but does not believe  that any such  potential
liability  should  have a  material  effect on its  financial  position,  future
operations or future cash flows.

The Company entered into the CompuDyne  Corporation  Retention Plan for Selected
Employees ("the Retention Plan") effective June 28, 2005 with certain members of
management. The Retention Plan provides for cash bonuses and acceleration of all
vesting of unexercised  unvested stock awards upon the occurrence of a change in
control,  as defined  in the  agreement,  for  eligible  employees.  A change in
control, as defined in the agreement, did not occur during the nine months ended
September  30, 2005 and  therefore,  the  Company did not record a liability  or
related compensation expense for the Retention Plan.

The Company,  as a government  contractor,  is from time to time subject to U.S.
Government  investigations  relating to its operations.  Government  contractors
that are found to have  violated  the  False  Claims  Act,  or are  indicted  or
convicted for  violations of other  federal  laws, or are  considered  not to be
responsible   contractors,   may  be  suspended  or  debarred  from   government
contracting  for some  period of time.  Such  convictions  could also  result in
fines.  Suspension  or  debarment  could have a material  adverse  effect on the
Company. No such violations or conditions of debarment exist at this time.


                                       15

<PAGE>


                 ITEM 2. COMPUDYNE CORPORATION AND SUBSIDIARIES
                     MANAGEMENT'S DISCUSSION AND ANALYSIS OF
                  FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Introduction

Overview of CompuDyne Corporation

CompuDyne  Corporation was  reincorporated in Nevada in 1996. We were originally
incorporated in 1952. We believe that we are a leading  provider of products and
services to the public security markets.  We operate in four distinct  segments:
Institutional  Security Systems ("ISS");  Attack Protection  ("AP");  Integrated
Electronic Systems ("IES"); and Public Safety and Justice ("PS&J").

The  Institutional  Security  Systems  segment is  headquartered  in Montgomery,
Alabama and operates under the trade name Norment  Security  Group  ("Norment").
This segment provides physical and electronic  security products and services to
the corrections  industry  (prisons and jails) and to the courthouse,  municipal
and commercial markets. ISS typically serves as a subcontractor, responsible for
their portion of the installation work on larger projects. Installations involve
hard-line   (steel  security  doors,   frames,   locking   devices,   etc.)  and
sophisticated  electronic  security systems,  including  software,  electronics,
touch-screens,  closed  circuit TV,  perimeter  alarm devices and other security
monitoring controls.  ISS also developed a product called MaxWall.  MaxWall is a
modular  steel,   concrete  filled   prefabricated  jail  cell.  It  allows  for
construction  projects to use  considerably  less space and can save the project
owner   significant   amounts  of  money.   ISS  provides  field  level  design,
installation and maintenance of both physical and electronic security products.

Included in the  Institutional  Security  Systems  segment is the TrenTech  line
which  manufactures  and  integrates   electronic  security  systems.   TrenTech
integrates  generally  available products and software as well as developing its
own  proprietary  systems.  TrenTech has developed a  sophisticated  proprietary
video badging system,  with  approximately 240 systems installed at more than 65
facilities, most of which are military installations.

The Institutional  Security Systems segment also manufactures a complete line of
locks and locking  devices  under the brand name  Airteq.  Airteq is an industry
leader  in  pneumatic  and  electro-mechanical   locking  devices  used  in  the
corrections industry.

The Attack Protection  segment is one of the country's largest  manufacturers of
bullet,  blast and attack resistant windows and doors designed for high security
applications such as embassies, courthouses, Federal buildings, banks, corporate
headquarters  and other  facilities  that insist on having the highest  level of
protection  currently  available.  We believe that we are a premier  provider of
Underwriters  Laboratory  ballistic standard UL-752 Level 8 security windows and
doors,  the highest rating level of commercial  ballistic  security  windows and
doors.  Our attack  resistant  windows and doors are integrated and structurally
secure  products with  specifically  designed  frames and  encasements  that are
integral  parts of the structure in which they are installed.  Existing  product
installations  number in the  thousands  and range from the  Middle  East to the
White House. AP is a significant  supplier of bullet and blast resistant windows
and doors to United  States  embassies  throughout  the  world.  AP works  under
contracts  from prime  contractors  who have  direct  contracts  with the United
States  Department of State,  the segment's  largest client.  Attack  Protection
products are also sold to drug stores,  convenience  stores, and banks to secure
drive through facilities.  Other commercial  applications  include guard booths,
tollbooths,  cash drawers and other similar  items.  Additionally,  this segment
designs and installs both fixed and pop-up  bollards and wedge barrier  security
systems.

The Attack  Protection  segment also  manufactures a  sophisticated  fiber optic
sensor system,  known as Fiber SenSys, used to detect physical  intrusion.  This
application is designed to protect large perimeters  including such applications
as Federal  facilities,  military  deployments  and bases,  oil fields,  airport
tarmacs,  public utilities,  nuclear reactors and water systems. In addition, it
has been  installed  to protect  the  perimeters  of private  estates  and other
similar properties.

The Integrated  Electronic  Systems (formerly known as Federal Security Systems)
segment consists of CompuDyne-Integrated Electronics Division, LLC. Its customer
base  includes  the  military,   governmental  agencies,  and  state  and  local
governmental  units. IES provides turnkey system  integration of public security
and safety  systems.  This  segment  specializes  in a wide range of  customized
access control and badging,  intrusion  detection,  surveillance and assessment,
communications,  command and control,  fire and life safety,  and asset tracking
systems.  IES provides  central  station  oversight  and control of multiple and
separate  facilities  as well as security  and public  life  safety  systems and
equipment.  This segment also designs and  manufactures  advanced digital signal
processing products used in reconnaissance of foreign telecommunications signals
designed for the United States Government and its foreign allies.


                                       16

<PAGE>


The Public Safety and Justice segment  consists of  CompuDyne-Public  Safety and
Justice,  Inc.  (formerly  Tiburon,  Inc.),  CorrLogic,  LLC,  and the  recently
acquired  assets  of  90  Degrees,  Inc.  ("90  Degrees),   Copperfire  Software
Solutions,  Inc.  ("Copperfire")  and Xanalys  Corporation  ("Xanalys").  PS&J's
software  systems  are used in a wide  range of  applications  within the public
safety and criminal  justice sectors of governmental  units,  including  police,
fire and emergency medical services computer-aided dispatch systems, and police,
fire, jail,  prosecution,  probation and court records  management  systems.  We
believe we are also a leading  developer of inmate  management and institutional
medical software systems.  We specialize in the development,  implementation and
support of complex,  integrated  inmate management  software systems,  including
inmate  medical  management  systems that improve the efficiency and accuracy of
correctional facility operations.

During the third and fourth  quarters of 2004,  we expanded our offerings in the
Public Safety and Justice sector by completing our  acquisition of the assets of
90 Degrees and Copperfire,  respectively.  90 Degrees  provides a web-based fire
records  management  system,  which is being  integrated  into our current  PS&J
product offerings.  90 Degrees'  enterprise-wide  records  management  solutions
assist fire and  Emergency  Medical  Service  agencies in managing  responses to
emergency  situations.  We anticipate  that as we integrate 90 Degrees'  product
offerings into our PS&J product offerings, the open web-based technology from 90
Degrees will advance our current fire and rescue product  offerings.  Copperfire
provides  customized  report  writing  and forms  generation  software  designed
specifically for public safety and justice agencies.  The software  automates an
agency's  current  business  practices,  turning  hard copy forms  into  digital
images, to create a paperless report writing system. We believe that integration
of Copperfire's  products will enhance our total offerings in PS&J.  Xanalys was
acquired  during  the  third  quarter  of  2005.  Xanalys  provides  a suite  of
investigative  management and analysis  solutions that enable  investigators  to
collect,  analyze  and  share  information  to  solve  cases.  We  believe  that
integration of Xanalys' products will enhance our total offerings in PS&J.

Cautionary Statement Regarding Forward-Looking Information

Certain  statements  made  in  this  Form  10-Q  with  regard  to the  Company's
expectations as to future revenues,  expenses,  financial  position and industry
conditions,  the Company's ability to secure new contracts, its goals for future
operations,   implementation  of  business  strategy  and  other  future  events
constitute  "forward-looking  statements"  within  the  meaning  of the  federal
securities  laws.  When  used in this Form  10-Q,  words  such as  "anticipate,"
"believe,"  "estimate,"  "expect,"  "intend"  and similar  expressions  identify
forward-looking statements.  Although the Company makes such statements based on
current  information and assumptions it believes to be reasonable,  there can be
no assurance that actual results will not differ materially from those expressed
or implied by such  forward-looking  statements.  Actual  results  could  differ
materially from those contemplated by the forward-looking statements as a result
of certain  important  factors,  including but not limited to, capital  spending
patterns  of the  security  market and the demand  for the  Company's  products,
competitive  factors and pricing pressures,  changes in legislation,  regulatory
requirements,  government  budget problems,  the Company's ability to secure new
contracts,   the  ability  to  successfully   grow  the  Company  by  completing
acquisitions,  the  ability  to remain in  compliance  with its bank  covenants,
delays in government procurement  processes,  ability to obtain bid, payment and
performance bonds on various of the Company's projects,  technological change or
difficulties,  the  ability  to  refinance  debt when it  becomes  due,  product
development   risks,   commercialization   difficulties,   adverse   results  in
litigation,  the level of product returns, the amount of remedial work needed to
be  performed,  costs of compliance  with  Sarbanes-Oxley  requirements  and the
impact of the failure to comply with such  requirements,  risks  associated with
internal  control  weaknesses  identified  in  complying  with  Section  404  of
Sarbanes-Oxley,  the Company's ability to realize anticipated cost savings,  the
Company's ability to simplify its structure and modify its strategic objectives,
and general economic  conditions.  Risks inherent in the Company's  business and
with respect to future  uncertainties are further described in our other filings
with the Securities and Exchange Commission.

Management Outlook

We continue to find  ourselves in very  challenging  times.  We have three major
areas of focus:

     o    The first is increasing the amount of our backlog.
     o    The second is  migrating to a business  model with a more  predictable
          revenue stream.
     o    The third is to improve our cost structure  (including  evaluating our
          strategy  to  determine  if we would  benefit  from  focusing on fewer
          segments), quality, and customer and employee satisfaction.

We are continuing to experience a weakness in our overall  backlog.  Our backlog
is a key  indicator  of what our future  revenues  will look like.  Our  backlog
peaked at  December  31,  2002,  at which time it  exceeded  $204  million.  The
September  30,  2005  quarter  is the  second  consecutive  quarter  in which we
experienced a quarter-over-quarter increase. Backlog stood at approximately $135
million at September 30, 2005, as shown in the following table:


                                       17

<PAGE>


<TABLE>
<CAPTION>


                                Institutional                   Integrated       Public
                                 Security           Attack      Electronics    Safety and     Backlog
     (in thousands)               Systems         Protection      Systems        Justice       Total
                                -----------------------------------------------------------------------
<S>                              <C>               <C>            <C>            <C>          <C>
December 31, 2002                $ 99,527          $ 18,478       $ 11,440       $ 74,867     $ 204,312
March 31, 2003                   $ 91,602          $ 14,827       $ 11,667       $ 66,007     $ 184,103
June 30, 2003                    $ 81,916          $ 16,552       $ 10,643       $ 72,621     $ 181,732
September 31, 2003               $ 68,780          $ 14,375       $ 11,528       $ 65,962     $ 160,645
December 31, 2003                $ 57,258          $ 10,043       $  8,326       $ 63,727     $ 139,354
March 31, 2004                   $ 52,147          $ 12,905       $  9,269       $ 57,332     $ 131,653
June 30, 2004                    $ 62,765          $ 17,761       $  6,296       $ 50,065     $ 136,887
September 30, 2004               $ 59,524          $ 19,351       $  9,018       $ 50,215     $ 138,108
December 31, 2004                $ 49,324          $ 20,803       $  8,299       $ 48,434     $ 126,860
March 31, 2005                   $ 42,700          $ 20,139       $  8,395       $ 44,488     $ 115,722
June 30, 2005                    $ 56,492          $ 19,466       $  9,105       $ 46,045     $ 131,108
September 30, 2005               $ 52,557          $ 16,210       $  8,146       $ 58,270     $ 135,183

</TABLE>

Historically,  approximately  90% of our revenues  were  generated  from sources
where the ultimate client is a federal,  state or local government unit.  During
the last few  years,  due to the  general  economic  slowdown,  state  and local
budgets, which we are dependent on for approximately 65% of our revenue sources,
have  come  under  intense  pressure.  Most  states  were  running  in a deficit
situation, as were many local governments. This caused many of them to delay and
in some  cases  cancel  many  infrastructure  projects  until such time as their
economic  fortunes rebound.  In recent months,  tax revenues have been improving
resulting  in  increased  activity  preparatory  to the  issuance  of  bids  and
ultimately  the awarding of new  projects.  In addition,  we have  increased our
sales and  marketing  efforts  with a specific  objective  of  marketing  to the
commercial  sector  which  inherently   offers  faster  project   implementation
schedules.

Our second area of focus is the  reengineering  of our business model so that it
contains  a  greater  percentage  of  recurring  revenue.  As  indicated  in the
following table,  approximately 14.3% of the revenue in the first nine months of
2005  was  generated  from  recurring  revenue  sources  (primarily  maintenance
revenues),  and the majority of these revenues occurred in our Public Safety and
Justice  segment.  We define  one-time  revenue as revenue derived from discrete
projects,  from which we do not expect to generate  incremental revenue upon the
completion  of the project.  We define  recurring  revenue as sources of revenue
from which we  anticipate  receiving  revenue in the current,  as well as future
periods, for example annual renewable maintenance contracts.

<TABLE>
<CAPTION>

                                                        Nine Months Ended September 30, 2005
                                                        ------------------------------------
  (in thousands)                      One-time Revenue       %       Recurring Revenue      %        Total
                                   --------------   -------------  -------------   ------------  -------------
<S>                                 <C>                     <C>   <C>                      <C>  <C>
Institutional Security Systems      $      39,527           39.2  $       3,481            3.4  $      43,008
Attack Protection                          18,855           18.7              -              -         18,855
Integrated Electronic Systems               6,747            6.7             58            0.1          6,805
Public Safety and Justice                  21,363           21.1         10,878           10.8         32,241
                                     ----------------------------  -------------   ------------  -------------
     Total                          $      86,492           85.7  $      14,417           14.3  $     100,909
                                     ============   =============  =============   ============  =============

</TABLE>

Since the majority of our revenues are one-time revenues and are  non-recurring,
we must reinvent our book of business on a continual  basis.  This makes it very
difficult  for us to project  our future  revenue  stream and thus makes it very
difficult for us to project our earnings as well as our business  outlook.  Over
the next five years,  we intend to modify our  business  model to rely less upon
one-time sources of revenue and more on recurring sources of revenue.

Our third focus area is to improve our cost structure,  quality,  and client and
employee satisfaction.  Our Institutional Security Systems and Attack Protection
business  segments  are  undergoing   significant   organizational  and  expense
restructuring,  including a partial consolidation of regional office efforts and
an increased focus on centralized  performance of the most complicated  security
projects. This initiative began by ensuring our organization is properly aligned
with our  clients'  needs.  Many  changes  have  been made and  initial  results
indicate  that  our  cost,  our  quality,  our  clients  and our  employees  are
responding  favorably to the changes implemented thus far. We have much room for
improvement  as  we  move  toward  a  more  client-oriented  organization.   The
organization  re-alignment is critical to strengthening  our future as it allows
us to deploy the Six Sigma and Lean Manufacturing  methodologies  across all our
business segments more efficiently.  The Six Sigma methodology focuses on defect
elimination,  which will have a direct impact on our cost,  quality,  and client
satisfaction.  Lean  Manufacturing  also  focuses  on  reduction  of  costs  and
elimination of waste. In addition,  in light of the escalating selling,  general
and  administrative  costs  associated  with the current  heightened  regulatory
environment, we are evaluating our structure and strategy to determine if a less
decentralized,  or other organizational structure would result in lower selling,
general and administrative costs and we are evaluating our strategy to determine
if we would benefit from focusing on fewer segments.


                                       18

<PAGE>


We believe that if we address and implement  successfully  the above three areas
of focus, we will significantly enhance our future growth opportunities and will
provide for more predictable financial results.

During the third and fourth  quarters of 2004,  we expanded our offerings in the
Public Safety and Justice sector by completion of our  acquisition of the assets
of 90 Degrees and Copperfire respectively.  During the third quarter of 2005, we
further  expanded our offerings by the completion of our acquisition of Xanalys.
90 Degrees provides a web-based fire records management  system,  which is being
integrated into our current PS&J product offerings. 90 Degrees'  enterprise-wide
records management  solutions assist fire and EMS agencies in managing responses
to emergency situations.  We anticipate that as we integrate 90 Degrees' product
offerings into our PS&J product offerings, the open web-based technology from 90
Degrees will advance our current fire and rescue product  offerings.  Copperfire
provides  customized  report  writing  and forms  generation  software  designed
specifically for public safety and justice agencies.  The software  automates an
agency's  current  business  practices,  turning  hard copy forms  into  digital
images, to create a paperless report writing system. We believe that integration
of  Copperfire's  products will enhance our total offerings in Public Safety and
Justice.  Xanalys  provides a suite of  investigative  management  and  analysis
solutions that enable investigators to collect, analyze and share information to
solve cases. We believe that  integration of Xanalys'  products will enhance our
total offerings in PS&J.

On May 2, 2005, we filed a Form 8-K disclosing that the we failed to timely file
an amendment to our Annual  Report on Form 10-K for the year ended  December 31,
2004 to provide management's report on internal control over financial reporting
as of December  31, 2004 and the related  report of our  independent  registered
public  accounting  firm on  management's  assessment  of the  effectiveness  of
internal control over financial reporting (together,  the "404 Report") required
by Section 404 of the Sarbanes-Oxley Act of 2002.

On May 4, 2005, we received a notice from the Listing Qualifications  Department
of The Nasdaq  Stock  Market  stating that due to our failure to timely file the
404 Report, we were no longer in compliance with the requirements of Marketplace
Rule 4310(c)(14). The Rule requires us to file with Nasdaq copies of all reports
required to be filed with the  Securities  and Exchange  Commission on or before
the date they are required to be filed with the SEC.

On June 27, 2005,  the Company filed its Form 10-K/A with the SEC containing the
404 Report.  On June 30, 2005, the Nasdaq Listing  Qualifications  Panel advised
CompuDyne  that  CompuDyne had remedied its filing  delinquency  and was in full
compliance with Nasdaq Market Place Rules.

Results of Operations

THREE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004

Revenues.  The Company had revenues of $33.5  million and $33.4  million for the
three months ended  September  30, 2005 and  September  30, 2004,  respectively,
representing  an increase of $0.1 million or 0.4%. As discussed  below,  our ISS
segment  experienced an increase in revenue that was largely off-set by declines
experienced by the Company's other segments.

Revenues from the  Institutional  Security Systems segment were $15.5 million in
the three months ended  September  30, 2005,  an increase from $11.8 million for
the same period of 2004  representing an increase of $3.8 million or 32.0%.  The
Institutional   Security  Systems  segment  is  largely  a  construction  driven
business.  Much of its  revenue  is  obtained  by  working  on new and  retrofit
construction  projects  in the  corrections  industry,  as opposed to sources of
recurring revenue.  As such, the increase in revenue experienced by this segment
is  largely  attributable  to our  working on more  projects  than we did in the
previous  year.  Backlog for this segment had  decreased  from $99.5  million at
December 31, 2002 to $57.3  million at December 31, 2003  resulting in less work
available to be performed  in the year ended  December 31, 2004  compared to the
year ended  December 31, 2003.  Backlog was $49.3  million and $52.6  million at
December 31, 2004 and September 30, 2005, respectively.  The years 2003 and 2004
were  slow  bidding  periods  for the  Company.  Although  the  gross  amount of
construction  spending in the corrections area remained  relatively flat between
2003  and  2004,  the  types  of  projects  that the  Company  solicits,  namely
large-scale medium to maximum security installations,  declined significantly in
2003 and 2004.  This  situation was further  compounded by the general state and
local  governmental  budget  deficits which caused these  governmental  units to
rethink and delay many of their pending corrections  projects.  Beginning in the
third quarter of 2005, ISS is seeing  significant,  heightened bidding activity,
particularly in the market space it serves, namely large-scale medium to maximum
security  prisons.  This  increased  bidding  activity  is expected to result in
securing more projects, which should result in increased revenue.


                                       19

<PAGE>


Revenues  from the  Attack  Protection  segment  were $5.9  million in the three
months  ended  September  30,  2005,  a decrease  from $6.5 million for the same
period of 2004  representing a decrease of $0.6 million or 9.5%. This segment is
composed of two chief product  offerings,  namely  Norshield,  which encompasses
bullet and blast resistant windows and doors and ancillary  products,  and Fiber
SenSys, which encompasses fiber optic intrusion detection systems. For the three
months ended September 30, 2005 the Norshield line  experienced a 12.0% increase
in revenues as compared to the three months ended  September  30, 2004,  whereas
the  Fiber  SenSys  line  experienced  a  57.8%  decrease  in  revenues  for the
comparable period. The slow-down in the government  building process experienced
during  2002  and  2003  has  reversed.  Projects  are now  being  released  for
construction,  and thus the Attack Protection segment is experiencing  increased
bidding  activity for its products.  During 2003 the Company  furnished  bids to
supply its products for eight new embassy  projects.  At the time,  this was the
largest  number  of  embassy  projects  bid in a single  calendar  year for this
segment.  The Company was awarded four of these  embassy  projects,  for a total
CompuDyne  contract  value of $7.0 million,  and lost the remaining four embassy
project  bids  to  competitors.  During  2004,  we bid on  fifteen  new  embassy
projects.  Through  September  30, 2005 the  Company was awarded  seven of these
embassy  projects for a total  contract  value of $9.6  million,  and lost seven
embassy project bids to  competitors,  with one project still awaiting award. In
2005,  preliminary  indications  show  twenty  six  embassy  projects  are being
planned.  Through  September  30, 2005 the  Company had not been  awarded any of
these embassy  projects and lost one bulk bid embassy project  comprising  eight
embassies to competitors,  with eighteen projects still awaiting award. However,
the Company has received a notice to proceed on one of these  eighteen  projects
with an estimated contract value of $14.3 million. Fiber SenSys' revenue decline
is a result of the  rollout  of its next  generation  product,  which  until its
testing is  completed,  expected in the first quarter of 2006,  will  negatively
impact its revenues.

Revenues from the Integrated Electronic Systems segment were $2.9 million in the
three months ended September 30, 2005, a decrease from $3.3 million for the same
period of 2004  representing  a decrease of $0.4 million or 12.1%. A significant
portion of this segment's  revenue is backlog  driven.  Backlog at both December
31,  2003 and  December  31, 2004 was $8.3  million.  IES'  revenue  decline was
largely due to certain government clients, for which the segment receives repeat
business,  having had their budgets significantly  reduced. In addition, IES had
planned to work on one  significant  project  in the first  nine  months of 2005
which,   due  to  customer   imposed   delays  due  to  its  falling  behind  on
infrastructure  construction,  will not be  available  to be worked on until the
fourth quarter of 2005 or first quarter of 2006.

Revenues  from the Public  Safety and Justice  segment  were $9.2 million in the
three months ended  September  30, 2005, a decrease  from $11.8  million for the
same  period of 2004  representing  a decrease  of $2.6  million  or 22.2%.  The
decline  was  primarily  the result of lower  backlogs.  These  lower  levels of
backlog did, however,  start to improve late in the quarter.  It should be noted
that  although  we made  three  acquisitions  in this  segment,  two in 2004 (90
Degrees and Copperfire) and one in August 2005 (Xanalys), these acquisitions had
little impact on Public Safety and  Justice's  revenues due to their  relatively
small size.

Expenses. Cost of sales of $25.0 million in the three months ended September 30,
2005 were up $0.4  million or 1.8% from $24.6  million  from the same  period in
2004. The smaller percent  increase in sales as compared to the increase in cost
of goods sold resulted in a decrease in gross profit  percentage  from 26.4% for
the three months ended September 30, 2004 to 25.4% in 2005.

Cost of  goods  sold in the  Institutional  Security  Systems  segment  of $13.2
million for the three  months ended  September  30, 2005 were up $3.2 million or
31.9% from $10.0  million  during the same  period of 2004.  This  increase  was
comparable to the related sales increase of this segment of 32.0%,  resulting in
a stable gross profit  percentage  of 15.1% and 15.0% for the three months ended
September  30,  2005 and 2004,  respectively.  Starting  in 2002 and  continuing
through 2004,  Institutional  Security  Systems'  senior  management  identified
managerial  problems at its West Coast  operations and determined  that numerous
problems  existed there  including  that the costs to complete its projects were
going to be  significantly  higher  than was  previously  projected.  This was a
result of significant  cost overruns on many of these  projects.  As the work on
the projects progressed,  the Institutional  Security Systems segment identified
additional  cost overruns which would cause the costs to complete these projects
to increase as a result of the changes in the  estimates to  complete.  Although
the problem  projects  identified in 2002 are  substantially  all complete,  the
problems in the ISS West Coast operations continued into 2003, 2004 and 2005. We
realized that the management changes made in 2002 did not adequately address the
root problems identified, and as a result, projects started after 2002 continued
to experience  cost overruns due to a lack of appropriate  oversight.  Staff and
management changes in ISS are ongoing. We have revised our estimates to complete
these  projects and believe that all future  costs on these  projects  have been
adequately considered through September 30, 2005. It should be noted that as the
West  Coast  office  is being  downsized  to a sales  and  support  office,  new
profitable  projects  which  previously  would have been executed by this office
have been and will  continue  to be  transferred  to the ISS  Montgomery  office
division  headquarters  where execution will occur. This has left the West Coast
office to run the  remaining  projects,  which have little or no gross margin in
them. Therefore, since this office will be performing work on which no profit is
available to be made,  combined with the fact that the office has fixed overhead
costs, will cause this office to lose money through 2005.


                                       20

<PAGE>


The West Coast problems, including project overruns, resulted in losses recorded
in the following periods, in thousands:

                Second Half of 2002                              $  2,698
                First Quarter of 2003                                 595
                Second Quarter of 2003                              1,079
                Third Quarter of 2003                                 541
                Fourth Quarter of 2003                              1,872
                First Quarter of 2004                               1,271
                Second Quarter of 2004                              1,139
                Third Quarter of 2004                               1,516
                Fourth Quarter of 2004                              2,166
                First Quarter of 2005                                 740
                Second Quarter of 2005                                472
                Third Quarter of 2005                                 399
                                                                ----------
                        Total West Coast Losses                  $ 14,488
                                                                ==========

To  address  this  situation,  the  Company  has  implemented  more  centralized
controls,  replaced  certain  personnel  at its West  Coast  operations  and its
Alabama headquarters, and has reorganized the function of the West Coast office.

Cost of goods sold in the Attack  Protection  segment  of $5.6  million  for the
three months ended  September 30, 2005 decreased $1.4 million or 20.6% from $7.0
million during the same period of 2004.  During the quarter ended  September 30,
2004, we experienced  numerous  quality  problems in our Norshield  group.  This
included one quality  problem with the windows and doors  installed on one large
project. As a result of this identified problem, we were forced to take remedial
action in the field to repair this defect.  During the quarter  ended  September
30, 2004, we recorded an additional $1.1 million loss on this project.  This and
certain  other  quality  problems  experienced  during last year's third quarter
resulted in a negative gross profit. These quality problems did not recur during
the  quarter  ended  September  30,  2005.  In  addition,   Lean   Manufacturing
methodologies  contributed to cost reductions.  Fiber SenSys sales have a higher
margin  than  does the  windows  and door  component  of the  Attack  Protection
segment.

Cost of goods sold in the Integrated  Electronic Systems segment of $2.4 million
in the three months ended  September  30, 2005  decreased  $0.4 million or 13.2%
from $2.8 million  during the same period of 2004.  This decrease was consistent
with the related  sales  decrease of this segment of 12.1%,  resulting in a 1.1%
increase in the gross profit  percentage to 16.3% from 15.2% in the three months
ended  September  30, 2004.  Substantially  all of the projects  awarded in this
segment are discrete projects.

Cost of goods sold in the Public Safety and Justice  segment of $3.8 million for
the three  months ended  September  30, 2005 was down $1.0 million or 20.1% from
$4.8 million during 2004. This decrease was less than the related sales decrease
of this  segment of 22.2%,  resulting  in a 1.1%  decrease  in the gross  profit
percentage  to 58.5% from 59.6% in the three  months ended  September  30, 2004.
Substantially all of the projects awarded in this segment are discrete projects.

Selling,  general and  administrative  expenses were $10.6 million for the three
months ended  September 30, 2005, an increase of $1.3 million or 14.0% from $9.3
million  for the same  period of 2004.  The  majority  of the  increase  in this
expense  came  from  the  AP  and  PS&J  segments.  AP's  selling,  general  and
administrative  expenses  increased  by $510  thousand or 46.8% during the third
quarter of 2005 as  compared to the third  quarter of 2004.  This  increase  was
largely the result of  increased  legal costs  associated  with  ongoing  claims
resolutions in actions both as plaintiff and defendant and for increased selling
and  training  costs as the  segment is trying to expand its  presence  into new
marketplaces.  PS&J's selling,  general and administrative expenses increased by
$815 thousand or 18.2% during the third quarter of 2005 as compared to the third
quarter of 2004.  This  increase was largely the result of  increased  headcount
resulting from personnel who joined the Company from the three acquisitions made
by PS&J over the  prior 12  months  and new  hires by PS&J.  In  addition,  less
billable  activity in the third quarter of 2005 versus the third quarter of 2004
resulted  in  more  of  the  existing   complement  of  staff   performing  less
project-oriented work.

In conjunction  with the acquisitions of the assets of 90 Degrees and Copperfire
and  the  stock  of  Xanalys  and in  compliance  with  Statement  of  Financial
Accounting  Standards  No. 141 (SFAS 141)  Business  Combinations,  the  Company
determined the fair value of the following  identifiable assets and assigned the
indicated lives for the purposes of amortization and depreciation.


                                       21

<PAGE>


                                       Amount
                                   (in thousands)    Life (in years)
                                   --------------    ---------------
Software                              $  2,800             5
Employment Contracts                       120            1-3
                                      --------
                                      $  2,920

The  amortization  of  the  above  assets  resulted  in  the  Company  recording
amortization  expense  related to these  assets of $57 thousand and $55 thousand
for the three months ended September 30, 2005 and 2004,  respectively,  which is
included in operating expenses.

Research and  development  expenses were $3.1 million for the three months ended
September  30, 2005,  an increase of $1.1 million or 53.5% from $2.1 million for
the same period of 2004.  Being a  technology-driven  enterprise,  the Company's
Public Safety and Justice segment  continually updates and enhances its software
offerings, thus incurring significant research and development costs.

Interest  expense was $0.8 million for the three months ended September 30, 2005
and September 30, 2004. The following table compares the weighted average of the
Company's interest bearing borrowings,  in thousands, for the three months ended
September 30, 2005 and 2004 and the related rates charged thereon:

                                  Three Month Weighted     Three Month Weighted
                                     Average - 2005           Average - 2004
                                   Amount       Rate        Amount        Rate
Industrial revenue bonds          $   3,612     3.6%       $   4,052      2.7%
Subordinated borrowings           $  40,250     6.2%       $  40,250      6.2%
Swap hedge agreement              $     676     1.4%       $   3,382      3.4%

In addition the Company recorded the following  non-cash  interest  expense,  in
thousands:

Amortization and write-off
  of deferred financing charges   $      67                $     145

Taxes on  Income.  The  effective  tax rate was a benefit  of 8.7% for the three
months ended  September 30, 2005 and the  effective  tax rate was  approximately
39.8% for the three months ended  September  30,  2004.  The federal  income tax
benefit recorded during the three months ended September 30, 2005 represents the
reduction of a liability  maintained  for uncertain  tax positions  which was no
longer  required.  The  Company  has  decided to provide a  valuation  allowance
against its deferred tax assets,  as it has determined that due to the Company's
recent  operating losses there is uncertainty as to whether more likely than not
the assets will be realized.

Net Loss.  The Company  reported a net loss of $5.3 million for the three months
ended September 30, 2005 and net loss of $1.8 million for the three months ended
September  30,  2004.  Diluted  loss per  share was a loss of $.65 for the three
months  ended  September  30, 2005 and a loss of $.23 for the three months ended
September 30, 2004. The weighted average number of common shares outstanding and
equivalents  used in  computing  EPS was 8.1  million in 2005 and 8.2 million in
2004.

NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004

Revenues.  The Company had revenues of $100.9 million and $110.2 million for the
nine months ended  September  30, 2005 and  September  30,  2004,  respectively,
representing  a  decrease  of $9.3  million or 8.4%.  As  discussed  below,  the
decrease occurred primarily from our IES and PS&J segments.

Revenues from the  Institutional  Security Systems segment were $43.0 million in
the nine months ended September 30, 2005, an increase from $41.8 million for the
same  period of 2004  representing  an  increase  of $1.2  million or 2.9%.  The
Institutional   Security  Systems  segment  is  largely  a  construction  driven
business.  Much of its  revenue  is  obtained  by  working  on new and  retrofit
construction  projects  in the  corrections  industry,  as opposed to sources of
recurring revenue.  As such, the modest increase in revenue  experienced by this
segment is largely  attributable  to our working on more projects than we did in
the previous year.  Backlog for ISS had decreased from $99.5 million at December
31, 2002 to $57.3 million at December 31, 2003  resulting in less work available
to be performed in the year ended  December 31, 2004  compared to the year ended
December 31, 2003.  Backlog was $49.3  million and $52.3 million at December 31,
2004 and  September  30, 2005,  respectively.  The years 2003 and 2004 were slow
bidding  periods for the  Company.  Although  the gross  amount of  construction


                                       22

<PAGE>


spending in the corrections area remained relatively flat between 2003 and 2004,
the types of projects that the Company solicits,  namely  large-scale  medium to
maximum security  installations,  declined  significantly in 2003 and 2004. This
situation was further  compounded  by the general  state and local  governmental
budget deficits which caused these  governmental units to rethink and delay many
of their pending corrections  projects.  Beginning in the third quarter of 2005,
ISS is seeing  significant,  heightened  bidding  activity,  particularly in the
market space it serves,  namely  large-scale medium to maximum security prisons.
This increased bidding activity is expected to result in securing more projects,
which should result in increased revenue.

Revenues  from the Attack  Protection  segment  were  $18.9  million in the nine
months ended  September  30, 2005,  a decrease  from $20.2  million for the same
period of 2004  representing  a decrease  of $1.3  million or 6.7%.  In 2002 the
Company  purchased  an  existing  75,000  square  foot  factory  for the  Attack
Protection  segment  on 20  acres  of land in close  proximity  to its  existing
factory in Montgomery, Alabama. This capacity increase was largely driven by the
Company's expectation that the demands for its products,  principally its bullet
and blast resistant windows and doors would accelerate significantly in the post
September  11, 2001 world.  Throughout  2002,  2003,  and 2004 this  anticipated
increase in demand did not  materialize  leaving the  segment  with  significant
excess capacity. This segment is composed of two chief product offerings, namely
Norshield,  which  encompasses  bullet and blast resistant windows and doors and
ancillary  products,  and Fiber SenSys,  which encompasses fiber optic intrusion
detection  systems.  For the nine months ended  September 30, 2005 the Norshield
line experienced a 2.0% decline in revenues as compared to the nine months ended
September 30, 2004,  whereas the Fiber SenSys line  experienced a 16.6% decrease
in revenues for the comparable period. The slow-down in the government  building
process  experienced  during 2002 and 2003 has reversed.  Projects are now being
released  for  construction,   and  thus  the  Attack   Protection   segment  is
experiencing  increased  bidding  activity for its  products.  During 2003,  the
Company furnished bids to supply its products for eight new embassy projects. At
the time,  this was the  largest  number  of  embassy  projects  bid in a single
calendar  year for this  segment.  The Company was awarded four of these embassy
projects,  for a total  CompuDyne  contract value of $7.0 million,  and lost the
remaining  four embassy  project  bids to  competitors.  During 2004,  we bid on
fifteen new embassy projects. Through September 30, 2005 the Company was awarded
seven of these embassy projects for a total contract value of $9.6 million,  and
lost seven embassy project bids to competitors,  with one project still awaiting
award. In 2005,  preliminary  indications  show twenty six embassy  projects are
being planned. We believe that this increased level of new embassy  construction
will continue for the next several years. Through September 30, 2005 the Company
had not been awarded any of these embassy projects and lost one bulk bid embassy
project comprising eight embassies to competitors,  with eighteen projects still
awaiting award.  However, the Company has received a notice to proceed on one of
these eighteen projects with an estimated contract value of $14.3 million. Fiber
SenSys  revenue  decline  is a result  of the  rollout  of its  next  generation
product, which until its testing is completed,  expected in the first quarter of
2006, will negatively impact its revenues.

Revenues from Integrated Electronic Systems were $6.8 million in the nine months
ended  September  30, 2005, a decrease from $11.2 million for the same period of
2004 representing a decrease of $4.4 million or 39.5%. A significant  portion of
this segment's revenue is backlog driven.  Backlog at both December 31, 2003 and
December  31, 2004 was $8.3  million.  IES'  revenue  decline was largely due to
certain  government  clients,  for which the segment  receives repeat  business,
having had their budgets significantly  reduced. In addition, IES had planned to
work on one significant  project in the first nine months of 2005 which,  due to
customer   imposed   delays  due  to  its  falling   behind  on   infrastructure
construction,  will not be available to be worked on until the fourth quarter of
2005 or the first quarter of 2006.

Revenues from the Public  Safety and Justice  segment were $32.2 million for the
nine months ended September 30, 2005, a decrease from $36.9 million for the same
period of 2004 representing a decrease of $4.7 million or 12.7%. The decline was
primarily  the result of lower  backlogs.  These  lower  levels of backlog  did,
however,  start to improve late in the quarter. It should be noted that although
we  made  three  acquisitions  in this  segment,  two in 2004  (90  Degrees  and
Copperfire)  and one in August 2005  (Xanalys),  these  acquisitions  had little
impact on Public Safety and  Justice's  revenues due to their  relatively  small
size.

Expenses.  Cost of sales of $69.6 million in the nine months ended September 30,
2005 were down $10.4 million or 13.0% from $80.0 million  during the same period
of 2004. The smaller percentage  decrease in sales as compared to the percentage
decrease in cost of goods sold resulted in an increased gross profit  percentage
of 31.0% for the nine months  ended  September  30, 2005 as compared to 27.4% in
2004. In 2004, the windows and door component of the Attack  Protection  segment
experienced  significant  operating   inefficiencies  and  difficulties.   These
inefficiencies  and difficulties,  which did not recur in 2005, reduced the 2004
gross profit percentage.

Cost of  goods  sold in the  Institutional  Security  Systems  segment  of $35.5
million for the nine months ended September 30, 2005 were up $0.2 million or 0.7
% from $35.3 million during the same period of 2004. This increase was less than
the related sales increase of this segment of 2.9%, resulting in a 1.8% increase
in the gross  profit  percentage  to 17.4% from 15.6% for the nine months  ended
September 30, 2005. This increase in gross profit  percentage also resulted from
certain of this  segment's  customers  terminating  contracts  for  convenience,


                                       23

<PAGE>


resulting  in the  recognition  of $1.3  million in gross margin due to contract
closeout activities. Starting in 2002 and continuing through 2004, Institutional
Security Systems' senior management  identified  managerial problems at its West
Coast  operations and determined that numerous  problems existed there including
that the costs to complete its projects  were going to be  significantly  higher
than was previously projected. This was a result of significant cost overruns on
many  of  these  projects.   As  the  work  on  the  projects  progressed,   the
Institutional Security Systems segment identified additional cost overruns which
would cause the costs to complete  these projects to increase as a result of the
changes in the estimates to complete.  Although the problem projects  identified
in 2002 are  substantially  all  complete,  the  problems  in the ISS West Coast
operations  continued into 2003,  2004 and 2005. We realized that the management
changes made in 2002 did not  adequately  address the root problems  identified,
and as a result,  projects  started  after 2002  continued  to  experience  cost
overruns due to a lack of appropriate oversight. Staff and management changes in
ISS are ongoing.  We have revised our estimates to complete  these  projects and
believe that all future costs on these projects have been adequately  considered
through  September 30, 2005. It should be noted that as the West Coast office is
being  downsized to a sales and support  office,  new profitable  projects which
previously  would have been  executed by this office have been and will continue
to be transferred  to the ISS  Montgomery  office  division  headquarters  where
execution  will occur.  This has left the West Coast office to run the remaining
projects  which have little or no gross  margin in them.  Therefore,  since this
office  will be  performing  work on which no  profit is  available  to be made,
combined with the fact that the office has fixed overhead costs, will cause this
office to lose money through 2005.

The West Coast problems, including project overruns, resulted in losses recorded
in the following periods, in thousands:

                Second Half of 2002                             $   2,698
                First Quarter of 2003                                 595
                Second Quarter of 2003                              1,079
                Third Quarter of 2003                                 541
                Fourth Quarter of 2003                              1,872
                First Quarter of 2004                               1,271
                Second Quarter of 2004                              1,139
                Third Quarter of 2004                               1,516
                Fourth Quarter of 2004                              2,166
                First Quarter of 2005                                 740
                Second Quarter of 2005                                472
                Third Quarter of 2005                                 399
                                                                ---------
                        Total West Coast Losses                 $  14,488
                                                                =========

To  address  this  situation,  the  Company  has  implemented  more  centralized
controls,  replaced  certain  personnel  at its West  Coast  operations  and its
Alabama headquarters, and has reorganized the function of the West Coast office.

Cost of goods sold in the Attack  Protection  segment of $14.8  million  for the
nine months ended  September 30, 2005 decreased $3.9 million or 21.0% from $18.7
million  during the same period of 2004.  This decrease was far greater than the
related sales decrease of this segment of 6.7%, resulting in a 14.1% increase in
the gross  profit  percentage  to 21.7% from 7.5% during the nine  months  ended
September 30, 2004.  Significant factors  contributing to this increase in gross
profit included the fact that in 2004, significant operating  inefficiencies and
difficulties  were experienced by the windows and doors components of the Attack
Protection segment.  These inefficiencies and difficulties,  which did not recur
in 2005,  reduced the 2004 gross profit  percentage.  In  addition,  one of this
segment's  customers  terminated its contracts for convenience  during the first
quarter of 2005 resulting in the recognition of $0.2 million in gross margin due
to contract closeout activities.

Cost of goods sold in the Integrated  Electronic Systems segment of $5.7 million
in the nine months ended September 30, 2005 decreased $3.9 million or 40.8% from
$9.6 million during the same period of 2004.  This decrease was consistent  with
the  related  sales  decrease  of this  segment of 39.5%,  resulting  in a 1.8 %
increase in the gross profit  percentage to 16.1 % from 14.3% in the nine months
ended  September  30, 2004.  Substantially  all of the projects  awarded in this
segment are discrete projects.

Cost of goods sold in the Public Safety and Justice segment of $13.6 million for
the nine months  ended  September  30, 2005 was down $2.8  million or 17.3% from
$16.4  million  during  2004.  This  decrease  was more than the  related  sales
decrease of this  segment of 12.7%,  resulting  in a 2.3%  increase in the gross
profit  percentage  to 57.9% from 55.5% in the nine months ended  September  30,
2004.  Substantially  all of the  projects  awarded in this segment are discrete
projects.

Selling,  general and  administrative  expenses  were $30.9 million for the nine
months ended September 30, 2005, an increase of $4.8 million or 18.3% from $26.1
million  for the same  period  of 2004.  Much of this  increase  is  related  to
additional  costs  incurred  by the  Company  related  to  compliance  with  new
requirements  mandated  by the  Sarbanes-Oxley  Act and  the  SEC.  The  Company


                                       24

<PAGE>


expended  approximately  $0.4  million to perform its 2003 audit,  which did not
require a SOX 404 report.  This was paid to our  independent  registered  public
accounting firm for audit and audit related  services.  For the 2004 audit,  the
Company  expended  $3.2 million for  external  third party costs to complete its
2004 audit and its SOX 404 report.  Of this amount,  approximately  $2.5 million
was paid to our  independent  registered  public  accounting  firm for audit and
audit related  services with the balance paid to various  consultants and others
who have assisted the Company in the 404 process.  Expenses related to audit and
SOX 404 of $3.1 million and $0.6 million were recorded  during the periods ended
September 30, 2005 and 2004, respectively,  for services provided or accrued for
during these  periods.  In addition,  AP's selling,  general and  administrative
expenses  increased by $1.3 million or 38.1% during the third quarter of 2005 as
compared to the third  quarter of 2004.  This increase was largely the result of
increased legal costs associated with ongoing claims resolutions in actions both
as plaintiff and defendant and for increased  selling and training  costs as the
segment is trying to expand its presence into new marketplaces.  PS&J's selling,
general and  administrative  expenses  increased by $1.5 million or 12.1% during
the third  quarter  of 2005 as  compared  to the  third  quarter  of 2004.  This
increase was largely the result of increased  headcount resulting from personnel
who joined the Company from the three  acquisitions  made by PS&J over the prior
12 months and new hires by PS&J.  In  addition,  less  billable  activity in the
third  quarter of 2005 versus the third  quarter of 2004 resulted in more of the
existing complement of staff performing less project-oriented work.

In conjunction  with the  acquisition of the assets of 90 Degrees and Copperfire
and  the  stock  of  Xanalys  and in  compliance  with  Statement  of  Financial
Accounting  Standards  No. 141 (SFAS 141)  Business  Combinations,  the  Company
determined the fair value of the following  identifiable assets and assigned the
indicated lives for the purposes of amortization and depreciation.

                                   Amount
                               (in thousands)    Life (in years)
                               --------------    ---------------
Software                        $    2,800             5
Employment Contracts                   120            1-3
                                 ---------
                                $    2,920
                                 =========

The  amortization  of  the  above  assets  resulted  in  the  Company  recording
amortization  expense  related to these assets of $171 thousand and $55 thousand
for the nine months ended  September 30, 2005 and 2004,  respectively,  which is
included in operating expenses.

Research and  development  expenses  were $7.5 million for the nine months ended
September  30, 2005,  an increase of $1.8 million or 32.1% from $5.7 million for
the same period of 2004.  Being a  technology-driven  enterprise,  the Company's
Public Safety and Justice segment  continually updates and enhances its software
offerings,  thus incurring  significant research and development costs. Interest
expense  was $2.3  million for the nine  months  ended  September  30,  2005,  a
decrease of $0.1  million or 5.8% from $2.4 million for the same period of 2004.
The following  table compares the weighted  average of the Company's nine months
ended September 30, 2005 and 2004 interest bearing borrowings, in thousands, and
the related rates charged thereon:

<TABLE>
<CAPTION>

                                             Nine Month Weighted                Nine Month Weighted
                                                Average - 2005                     Average - 2004
                                            Amount          Rate               Amount          Rate
                                        -------------- ---------------     -------------- ---------------
<S>                                      <C>            <C>                 <C>                      <C>
Bank borrowings                          $           -             - %      $         822            1.4%
Industrial revenue bonds                 $       3,774            3.5%      $       4,214            3.2%
Subordinated borrowings                  $      40,250            6.2%      $      38,163            6.2%
Swap hedge agreement                     $       1,353            1.9%      $       4,059            3.7%

In addition the Company recorded the following non-cash interest expense, in thousands:

Amortization and write-off
 of deferred financing charges           $         201                      $         418

</TABLE>

Taxes on  Income.  The  effective  tax rate was a  benefit  of 5.7% for the nine
months ended  September 30, 2005 and the  effective  tax rate was  approximately
39.7% for the nine months  ended  September  30,  2004.  The federal  income tax
benefit recorded during the three months ended September 30, 2005 represents the
reduction of a liability  maintained  for uncertain  tax positions  which was no
longer  required.  The  Company  has  decided to provide a  valuation  allowance
against its deferred tax assets,  as it has determined that due to the Company's
recent  operating losses there is uncertainty as to whether more likely than not
the assets will be realized.


                                       25

<PAGE>

Net Loss.  The Company  reported a net loss of $8.2  million for the nine months
ended  September  30,  2005 and a net loss of $2.1  million  for the nine months
ended  September  30,  2004.  Diluted loss per share was a loss of $1.01 for the
nine  months  ended  September  30,  2005 and a loss of $.26 for the nine months
ended  September  30,  2004.  The  weighted  average  number  of  common  shares
outstanding  and  equivalents  used in computing EPS was 8.1 million in 2005 and
2004.

Liquidity and Capital Resources

The  Company  funds  its  operations  through  cash  flows  generated  from  its
operations,  bank and public  financings,  and the sale of its common stock. The
Company's  liquidity  requirements  arise  from  cash  necessary  to  carry  its
inventories and billed and unbilled receivables,  for capital  expenditures,  to
repurchase  shares of its common stock under its share repurchase  program,  for
payments  of  principal  and  interest  on  outstanding   indebtedness  and  for
acquisitions.  The ultimate clients of the Company are primarily federal,  state
and local  governmental  units.  In the event the funding of these  governmental
units is reduced for any reason,  including budgetary reductions due to economic
conditions, there is a risk that the demand for the Company's goods and services
would decrease which would reduce the availability of funds to the Company.

As of  September  30,  2005,  the Company had working  capital of $28.6  million
compared with $44.0 million as of December 31, 2004.

Net cash used in operating  activities  was $4.7 million  during the nine months
ended September 30, 2005 versus $5.9 million used in operating activities during
the nine months ended September 30, 2004. The largest  component of cash used in
operating  activities was a decrease in accounts payable and accrued liabilities
of $3.9 million,  a decrease in billings in excess of contract costs incurred of
$1.4 million,  partially offset by a decrease in receivables of $2.4 million,  a
decrease in cost in excess of billings of $1.7 million and a decrease in prepaid
expense of $1.5  million.  This  decrease  was largely  caused by the decline in
revenues experienced by the Company.

Net cash provided by investing  activities  was $11.0 million in the nine months
ended  September 30, 2005 compared to net cash used of $20.1 million in the nine
months ended  September 30, 2004.  In the nine months ended  September 30, 2005,
the net of marketable  securities bought and redeemed was an increase of cash of
$11.6 million.  In the nine months ended  September 30, 2004 the net purchase of
marketable securities was $15.7 million.

Net cash used in  financing  activities  amounted  to $1.2  million  in the nine
months ended  September  30, 2005 compared with a net cash provided by financing
activities  of $26.5 million in the nine months ended  September  30, 2004.  The
amount in 2004 was  primarily  provided  through the  issuance of the 2011 Notes
offset by the repayment of $13.7 million of our bank borrowings.

The following table  summarizes the total notes payable and related  interest of
the  Company  as of  September  30,  2005 and the  payments  due by  period,  in
thousands.

                            Notes Payable   Interest on Contractual Obligations
                            -------------   -----------------------------------
     December 31:
         2005 (remaining)     $       -             $       651
         2006                       440                   2,596
         2007                       440                   2,586
         2008                       440                   2,575
         2009                       440                   2,564
     Thereafter                  42,055                   3,406
                             ----------              ----------
     Totals                   $  43,815               $  14,378
                             ==========              ==========

In addition,  the Company enters into purchase  obligations to procure equipment
and services,  including  subcontractor  contracts,  in the  performance  of the
day-to-day  operations of its business.  Substantially  all of these obligations
are covered by our existing backlog and the revenues generated by these backlogs
are expected to be sufficient  to meet any payment  obligations  resulting  from
these purchase commitments.

On January 22, 2004, the Company  completed the offering of the 2011 Notes.  The
offering was for $40.25 million principal  amount.  The 2011 Notes bear interest
at the rate of 6.25% per annum, payable semi-annually,  and are convertible into
shares of common stock at a conversion  price of $13.89 per share.  The proceeds
from the  2011  Notes  were  used to repay  substantially  all of the  Company's
outstanding borrowings.


                                       26

<PAGE>


During  January 2004, the Company repaid  substantially  all of its  outstanding
bank borrowings from the proceeds of the issuance of its 2011 Notes. The Company
did not  repay any of its  Industrial  Revenue  Bond  ("IRB")  borrowings  as it
determined that there are certain favorable tax treatments  afforded the Company
when it  entered  into  these  IRBs,  which it  would  lose in the  event  these
borrowings were repaid prematurely.


On October 29, 2004 and March 4, 2005,  the  Company and its bank  entered  into
amendments  to its  credit  agreement  pursuant  to which  the bank  waived  the
Company's  non-compliance  with its fixed charge  coverage  ratio covenant as of
September 30, 2004 and  non-compliance  with its minimum  EBITDA  covenant as of
December 31, 2004, respectively.  In addition, the Company and its banks amended
the credit  agreement to eliminate its $15 million line of credit maturing March
2005 and to  require  borrowings  under  its $10  million  line of  credit to be
collateralized  by cash or in the case of  marketable  securities  by securities
equal to 111.11% of the value of such borrowings.  The credit agreement was also
amended to eliminate the  quarterly  minimum  EBITDA  covenant for the Company's
fiscal  years  ending  after  December  31, 2004 and to provide that the minimum
fixed charge coverage ratio covenant,  maximum debt to EBITDA ratio covenant and
the minimum  consolidated  tangible net worth covenant will not become effective
until March 31, 2006. This line matures on March 1, 2007.

As long as the Company maintains pledged marketable  securities equal to 111.11%
of the value of its borrowings under the credit agreement,  or cash equal to the
value of its borrowings under the credit agreement,  borrowings under the credit
agreement  bear interest at LIBOR + 1.00% or Prime + 1.00%.  The Company  incurs
commitment fees equal to 0.20% on any unused balances, defined as the difference
between  the total  amount  of its $10.0  million  line of credit  less  amounts
borrowed, and outstanding under letters of credit.

The  Company's  total  outstanding  borrowings at September 30, 2005 amounted to
approximately  $42.8  million,  net of broker's  discounts in the amount of $1.0
million.  The 2011 Notes accounted for $39.3 million, net of broker's discounts,
of  these  borrowings.  The  remaining  amount  of $3.6  million  resulted  from
borrowings  at variable  rates and  consisted of two  industrial  revenue  bonds
outstanding  in the  amounts  of $1.3  million  and $2.3  million.  The  average
interest  rate charged to the Company at September  30, 2005 for its  industrial
revenue  bonds  was  2.9%.  The  variable  interest  rate for  these  borrowings
fluctuated between 1.6% and 3.3% during the nine months ended September 30, 2005
based on weekly market conditions.  These bonds are fully collateralized by bank
letters of credit issued under the Company's bank agreement.  The Company's bank
considers  letters of credit as  outstanding  borrowings  when  considering  the
amount of availability the Company has remaining under its line of credit and in
determining  the  amount  of  marketable  securities  needed  to be  pledged  as
collateral.

Other than the Company's  letters of credit,  which  amounted to $7.2 million at
September  30,  2005,  the  Company  has no other  material  off  balance  sheet
liabilities.

At  September  30,  2005 the Company  had $2.8  million of unused  availability,
subject to the pledge of collateral under its line of credit. As a result of the
variable  nature of the interest  rate on the  Company's  bank  borrowings,  any
increase in the amount of  outstanding  borrowings  will result in the Company's
interest rate increasing and thus the amount of interest  expense  incurred also
increasing.

The Company  anticipates  that cash generated from  operations and its currently
available  cash will enable the Company to meet its liquidity,  working  capital
and capital  expenditure  requirements  during the next 12 months.  The Company,
however, may require additional  financing to pursue  acquisitions,  and to meet
its long-term liquidity,  working capital and capital expenditure  requirements.
If  such  financing  is  required,  there  are no  assurances  that  it  will be
available,  or if available,  that it can be obtained on terms  favorable to the
Company.  From time to time, the Company may be party to one or more non-binding
letters of intent regarding material acquisitions, which, if consummated, may be
paid for with cash or through the issuance of a significant  number of shares of
the Company's common stock.

The Company has not been profitable and in fact has recorded  significant losses
over the previous seven quarters.  We recognize that the return to profitability
is a critical  objective which the Company must attain. The Company continues to
have a significant amount of cash and marketable securities on its balance sheet
at September 30, 2005,  however,  the Company must return to profitability prior
to depleting its current cash and marketable securities.

On May 2, 2005, we filed a Form 8-K disclosing  that we failed to timely file an
amendment to our Annual Report on Form 10-K for the year ended December 31, 2004
to provide  management's  report on internal control over financial reporting as
of December 31, 2004 and the related report of our independent registered public
accounting  firm on  management's  assessment of the  effectiveness  of internal
control  over  financial  reporting  (together,  the "404  Report")  required by
Section 404 of the  Sarbanes-Oxley  Act of 2002.  On May 3, 2005,  the Company's
lender  confirmed in writing  that there will not be any event of default  under
the various credit  agreements,  by virtue of the Company's  failure to file its
report required by Section 404 of Sarbanes-Oxley in a timely manner.


                                       27

<PAGE>

On May 4, 2005, we received a notice from the Listing Qualifications  Department
of The Nasdaq  Stock  Market  stating that due to our failure to timely file the
404 Report, we were no longer in compliance with the requirements of Marketplace
Rule 4310(c)(14). The Rule requires us to file with Nasdaq copies of all reports
required to be filed with the  Securities  and Exchange  Commission on or before
the date they are required to be filed with the SEC.

On June 27, 2005,  the Company filed its Form 10-K/A with the SEC containing the
404 Report.  On June 30, 2005, the Nasdaq Listing  Qualifications  Panel advised
CompuDyne  that  CompuDyne had remedied its filing  delinquency  and was in full
compliance with Nasdaq Market Place Rules.

Another  consequence of not filing the 404 Report timely as noted above includes
our  inability to use a shorter form  registration  document for one year in the
event we were to engage in an  offering  of our  securities.  This could have an
adverse impact on our ability to raise capital and the cost of raising capital.

Additional Considerations

Bid Bonds and Payment and Performance Bonds
Historically,  certain of the Company's projects have required bid bonds at time
of proposal submission and payment and/or performance bonds upon contract award.
The  majority of these bonds have been needed in the ISS and PS&J  segments.  In
recent  years,  approximately  50% of ISS' work has come from jobs where payment
and  performance  bonds are required and for PS&J,  25% of its work has required
payment and  performance  bonds.  The Company's  recent losses have made it more
challenging  for the Company to attain the bonding needed to procure  certain of
its  projects.  In the event the  Company is unable to obtain  bonds,  or if the
terms, namely collateral, of the bonds are not within the financial means of the
Company,  the  amount  of work  the  Company  is able to  contract  for  will be
negatively impacted.

Cost Containment
Due to current economic conditions, the Company's losses, and in light of a very
strong  competitive  environment,  the  Company  recognizes  that its ability to
increase the prices it charges its clients is limited. In addition,  in light of
the escalating selling, general and administrative costs largely associated with
the current heightened regulatory environment, we are evaluating our strategy to
determine  if a revised  strategy  would  result in lower  selling,  general and
administrative  costs. As a result, in order to enhance our  profitability,  the
Company will continue to seek ways to reduce its costs.

Total Backlog
CompuDyne's  backlog  amounted to $135.2 million at September 30, 2005. This was
an  increase of 6.6% from the  Company's  December  31,  2004  backlog of $126.9
million.  The break down of the Company's  backlog by segment is as follows,  in
thousands:

                                             September 30,      December 31,
                                                 2005               2004
                                            --------------     --------------

        Institutional Security Systems        $    52,557             49,324
        Attack Protection                          16,210             20,803
        Integrated Electronic Systems               8,146              8,299
        Public Safety and Justice                  58,270             48,434
                                            --------------     --------------
                 Total                        $   135,183        $   126,860
                                            ==============     ==============

Included in the backlog of the Public  Safety and Justice  segment at  September
30, 2005 and December 31, 2004 is $14.3 million and $5.1 million,  respectively,
representing  awards  received by the segment for which the clients have not yet
entered  into signed  contracts.  These  awards are expected to result in signed
contracts over the next twelve months.

Corporate Reorganization
As part of the Company's  efforts to better  manage its costs,  during the first
quarter of 2005 the Company  implemented a corporate  reorganization  whereby it
converted several corporate entities into LLCs (Limited Liability Corporations).
This activity was designed to improve the Company's tax reporting  structure and
should  help  better  manage the  Company's  state  income tax  obligations.  In
conjunction  with this  reorganization,  our  Federal  Security  Systems  group,
formerly   known   as   Quanta   Systems    Corporation,    was   re-formed   as
CompuDyne-Integrated  Electronics  Division,  LLC,  and our  Public  Safety  and
Justice group,  formerly known as Tiburon, was renamed  CompuDyne-Public  Safety
and Justice, Inc. In addition,  CorrLogic,  Inc. was converted to CorrLogic, LLC
and Fiber SenSys,  Inc. was  converted to Fiber SenSys,  LLC. The impact of this
reorganization  is not  expected  to have a material  effect on  operations.  In


                                       28

<PAGE>


addition,  in light of the escalating selling,  general and administrative costs
associated with the current heightened regulatory environment, we are evaluating
our structure to determine if another  organizational  structure would result in
lower selling, general and administrative costs.

Critical Accounting Policies and Estimates
A complete description of the Company's significant  accounting policies appears
in the  Company's  Annual  Report on Form 10-K for the year ended  December  31,
2004.

Percentage of Completion Accounting and Revenue Recognition.
Approximately 65% of the Company's revenues are derived from long-term contracts
where  revenue  is  recognized  under the  percentage  of  completion  method of
accounting.  The  Company's  software  related  contracts  utilize  labor  hours
incurred to date on a project,  divided by the total  expected  project hours to
determine  the  completion  percentage.  The  Company's  construction  contracts
utilize  costs  incurred  to date on a project,  divided  by the total  expected
project  costs to determine  the  completion  percentage.  Both of these methods
require  considerable  judgment and, as such, the estimates derived at any point
in time could differ  significantly from actual results.  These estimates affect
many of the balance  sheet and statement of  operations  accounts  including net
sales,  cost of goods sold,  accounts  receivable,  contract  costs in excess of
billings and billings in excess of contract costs incurred.

Revenues for support and  maintenance  contracts  are  deferred  and  recognized
ratably over the life of the contract.  Sales of products  unrelated to contract
revenue are  recognized as revenue when all of the  following  criteria are met:
persuasive evidence of an arrangement exists;  delivery has occurred or services
have been rendered;  the seller's  price to the buyer is fixed or  determinable;
and collectibility is reasonably assured.

Provisions for estimated  losses on uncompleted  contracts are recognized in the
period such losses are determined.

Inventories  are  stated at the  lower of cost or  market,  using the  First-in,
First-out  (FIFO) method.  Costs  included in inventories  consist of materials,
labor,  and  manufacturing  overhead,  which are  related  to the  purchase  and
production of inventories.

Warranty  reserves  are  estimated  and  made at the time  products  are sold or
services are rendered.  They are established using historical information on the
nature,  frequency  and average cost of warranty  claims.  The Company  warrants
numerous  products,  the terms of which vary  widely.  In  general,  the Company
warrants its products against defect and specific non-performance.

Accounts  receivable are expected to be substantially  collected within one year
except  for a  portion  of the  receivables  recorded  as  retainage.  Retainage
expected to be collected in over one year is reflected as a current  asset as it
will be collected within the operating cycle under the related contract.

Tax valuation  allowances are  established  when the Company  believes it is not
"more  likely than not" that the Company will be able to receive tax benefits in
the future.  The federal  income tax benefit  recorded  during the three  months
ended September 30, 2005 represents the reduction of a liability  maintained for
uncertain tax positions which was no longer required.

Goodwill and Intangible Assets.
The Company  reviews the carrying  value of goodwill and  intangible  assets not
subject to  amortization  annually during the fourth quarter of the year or when
events or changes in  circumstances  indicate that the carrying value may not be
recoverable,  utilizing a  discounted  cash flow model.  Changes in estimates of
future cash flows caused by items such as unforeseen events or changes in market
conditions could negatively affect the Company's reporting units' fair value and
result in an impairment  charge.  The carrying  value of goodwill and intangible
assets not subject to amortization totaled  approximately $26.0 million and $5.7
million,  respectively,  and intangible  assets subject to amortization  totaled
approximately  $2.5  million,  net, at September  30, 2005.  The Company  cannot
predict the occurrence of events that might adversely affect these values.

Stock Compensation Policy.
The Company accounts for its stock-based  compensation using the intrinsic value
method and in accordance with the recognition and measurement  principles of APB
Opinion  No.  25,  "Accounting  for Stock  Issued  to  Employees,"  and  related
interpretations.  No stock-based employee  compensation cost is reflected in net
income,  as all options  granted had an exercise  price equal to the fair market
value of the underlying common stock on the date of the grant.

Economic  Conditions  and the After Effect of the September  11, 2001  Terrorist
Attacks
Much of the work CompuDyne performs is for state and local  governmental  units.
These  entities were severely  impacted by recent  economic  conditions  and the
resulting  contraction of the tax bases of these  governmental  units.  This has


                                       29

<PAGE>


caused these  governmental  units to carefully  evaluate their budgets and defer
expenses and projects where possible.  Much of the work of the Company's  Public
Safety and Justice  and  Institutional  Security Systems segments is contracted
with these state and local governmental units. As a result,  these segments have
seen delays in new work  available  to be bid and worked on. In  addition,  even
work that had been  contracted  for was sometimes  deferred by the customer into
the future. In recent months, it appears the state and local government revenues
have been improving, resulting in increased activity preparatory to the issuance
of requests for new bids and ultimately, the Company expects the awarding of new
projects.  It  appears  to us that we are in the  early  stages  of an  economic
recovery.

After the  occurrence of the tragic  events of the September 11, 2001  terrorist
attacks,  there was a general perception that our Integrated  Electronic Systems
and Attack Protection  segments would see a significant  increase in order flow.
To the  contrary,  in the  months  subsequent  to the  terrorist  attacks  these
segments saw a slowing in new work opportunities as the various federal agencies
and other customers that are the usual source of business for the Company slowed
their  procurement  processes  waiting  for  definitive  direction  as to how to
proceed in the post September 11 world. Now further  complicated by the military
action in Iraq, the Company's  clients are  reevaluating  priorities and budgets
and are funding only their most pressing demands while also making key decisions
as to which projects can be deferred.

As a result of the above  factors,  during the last four years the  Company  has
experienced a more challenging  marketplace than it experienced in several years
prior to September 11, 2001.

Market Risk
The Company is exposed to market risk related to changes in interest rates.  The
Company  entered into a 4.9% fixed rate interest rate swap agreement on June 26,
2001 in the initial  notional  amount of $11.5 million.  The notional  amount of
this swap  agreement  declined by $676  thousand  on a quarterly  basis until it
matured on September  30, 2005. In January 2004 the interest rate swap ceased to
be a  highly-effective  cash  flow  hedge  when the  related  debt  was  repaid.
Consequently,  the amounts previously recorded in other comprehensive  income as
changes in fair value of the interest rate swap were  recognized in earnings for
the  year  ended   December  31,   2004.   Upon   determination   of  the  hedge
ineffectiveness, the cumulative loss on the fair value of the interest rate swap
was $155 thousand,  which was  recognized in other  expense.  The change in fair
value of the interest rate swap for the nine months ended September 30, 2005 was
a gain of $21 thousand.

On January 22,  2004,  the  Company  completed  an  offering  of $40.25  million
principal  amount of the 2011 Notes. The 2011 Notes bear interest at the rate of
6.25% per annum,  payable  semi-annually,  and are  convertible  into  shares of
common  stock at a  conversion  price of $13.89 per share.  The  Company  used a
portion of the proceeds of this note offering to pay down outstanding borrowings
under its variable rate bank notes. Subsequent to the pay-down of its bank notes
the only variable rate borrowing remaining  outstanding at September 30, 2005 is
approximately  $3.6 million of industrial  revenue  bonds.  Since this borrowing
bears  interest at variable  rates,  and in the event  interest  rates  increase
dramatically,  the increase in interest expense to the Company could be material
to the results of operations of the Company.

Recent Accounting Pronouncements

In  May  2005,  the  FASB  issued  SFAS  154,   "Accounting  Changes  and  Error
Corrections" (SFAS 154) which replaces APB Opinion No. 20, "Accounting  Changes"
and SFAS 3, "Reporting  Accounting  Changes in Interim  Financial  Statements-An
Amendment of APB Opinion No. 28." SFAS 154 provides  guidance on the  accounting
for and reporting of accounting  changes and error  corrections.  It establishes
retrospective  application,  or the latest  practicable  date,  as the  required
method for  reporting a change in  accounting  principle  and the reporting of a
correction  of an  error.  SFAS 154 is  effective  for  accounting  changes  and
corrections of errors made in fiscal years beginning after December 15, 2005. We
are currently  evaluating  the effect that the adoption of SFAS 154 will have on
our consolidated results of operations and financial condition but do not expect
it to have a material impact.

In December  2004, the FASB issued  Statement No. 153,  Exchanges of Nonmonetary
Assets,  an  amendment  of APB  Opinion  No. 29.  Statement  153  addresses  the
measurement  of  exchanges  of  nonmonetary  assets and  redefines  the scope of
transactions  that  should be  measured  based on the fair  value of the  assets
exchanged.  Statement 153 is effective for nonmonetary asset exchanges occurring
in fiscal  periods  beginning  after June 15, 2005. The Company does not believe
adoption  of  Statement  153 will have a  material  effect  on its  consolidated
financial position, results of operations or cash flows.

In December 2004, the FASB issued FASB Staff Position No. 109-1,  Application of
FASB  Statement  No. 109 (SFAS 109),  Accounting  for Income  Taxes,  to the Tax
Deduction  on Qualified  Production  Activities  Provided by the  American  Jobs
Creation Act of 2004 (FSP 109-1).  FSP 109-1  clarifies that the  manufacturer's
deduction  provided  for under the  American  Jobs  Creation  Act of 2004 (AJCA)
should be accounted for as a special  deduction in accordance  with SFAS 109 and
not as a tax rate  reduction.  The  adoption of FSP 109-1 will have no impact on
the Company's  results of operations or financial  position for fiscal year 2005
because the  manufacturer's  deduction  is not  available  to the Company  until


                                       30

<PAGE>


fiscal year 2006. The Company is evaluating  the effect that the  manufacturer's
deduction will have in subsequent years.

In  December  2004,  the FASB  issued SFAS No.  123R,  "Share-Based  Payment," a
revision  of  SFAS  No.  123,  "Accounting  for  Stock-Based  Compensation"  and
superseding APB Opinion No. 25, "Accounting for Stock Issued to Employees." SFAS
No. 123R requires the Company to expense  grants made under its stock option and
employee  stock purchase plan  programs.  That cost will be recognized  over the
vesting  period of the plans.  SFAS No. 123R is  effective  for the first annual
period  beginning  after June 15, 2005.  The Company has not yet  determined the
method of adoption or the effect of adopting SFAS 123R,  and has not  determined
whether the adoption  will result in amounts that are similar to the current pro
forma  disclosures  under SFAS 123. The Company is evaluating  the  alternatives
allowed under the standard,  which the Company is required to adopt beginning in
the first quarter of 2006.

In November 2004, the FASB issued SFAS No. 151,  "Inventory Costs," an amendment
to ARB No. 43, Chapter 4, "Inventory  Pricing," to clarify that abnormal amounts
of  idle  facility  expenses,  freight,  handling  costs  and  wasted  materials
(spoilage) should be recognized as current-period  charges. In addition, FAS 151
requires that allocation of fixed production overhead to the costs of conversion
be based on the normal  capacity of the production  facilities.  SFAS No. 151 is
effective for inventory  costs incurred during fiscal years beginning after June
15, 2005. The Company believes there will be no material effect on the financial
position,  results of operations,  or cash flows of the Company upon adoption of
this statement.


                                       31

<PAGE>


       ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk
CompuDyne  has fixed and variable rate notes  payable.  These  on-balance  sheet
financial instruments expose the Company to interest rate risk, with the primary
interest  rate  exposure  resulting  from  changes  in the bond  market  used to
determine the interest rate applicable to the borrowings under the Company's IRB
borrowings.

The following information  summarizes our sensitivity to market risks associated
with fluctuations in interest rates as of September 30, 2005. To the extent that
the Company's  financial  instruments  expose the Company to interest rate risk,
they are presented in the table below.  The table presents  principal cash flows
and related  interest  rates by year of maturity of the Company's  notes payable
with variable rates of interest in effect at September 30, 2005.

On January 22,  2004,  the  Company  completed  an  offering  of $40.25  million
principal  amount of 6.25%  Convertible  Subordinated  Notes due on January  15,
2011.  The 2011  Notes  bear  interest  at a rate of 6.25%  per  annum,  payable
semi-annually,  and are convertible  into shares of common stock at a conversion
price of $13.89 per share.  The  Company  used a portion of the  proceeds of the
2011  Notes to pay down its  variable  bank notes  payable.  The pay down of its
variable borrowings reduced the Company's interest rate risk.

  Financial Instruments by Expected Maturity Date

<TABLE>
<CAPTION>

      Notes Payable          Variable                              Fixed
       Year Ending           Rate ($)      Average Variable       Rate ($)         Average Fixed
        December 31       (in thousands)    Interest Rate      (in thousands)     Interest Rate
-------------------------------------------------------------------------------------------------
<S>                        <C>                   <C>          <C>                    <C>
    2005 (remaining)      $             -                 -  $              -                  -
    2006                              440              3.18%                -                  -
    2007                              440              3.18%                -                  -
    2008                              440              3.18%                -                  -
    2009                              440              3.18%                -                  -
    Thereafter                      1,805              3.18%           40,250               6.25%
                           ---------------                    ----------------
    Total                 $         3,565              3.18% $         40,250               6.25%
    Fair Value            $         3,565              3.18% $         31,367              13.33%

</TABLE>


                                       32

<PAGE>


                         ITEM 4. CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

The Company  maintains  disclosure  controls and procedures that are designed to
ensure that  information  required to be  disclosed  in the  Company's  periodic
Securities Exchange Act of 1934 ("Exchange Act") reports is recorded, processed,
summarized,  and reported  within the time periods  specified in the SEC's rules
and forms,  and that such  information is accumulated  and  communicated  to the
Company's management,  including its Chief Executive Officer and Chief Financial
Officer, as appropriate,  to allow timely decisions regarding required financial
disclosure.

As of the end of the period covered by this report,  the Company  carried out an
evaluation,  under  the  supervision  and  with  the  participation  of  Company
management,  including  the Chief  Executive  Officer  and the  Chief  Financial
Officer,  of the  effectiveness  of the design and  operation of our  disclosure
controls and procedures  pursuant to Exchange Act Rules 13a-15(e) and 15d-15(e).
Based upon, and as of the date of, this evaluation,  the Chief Executive Officer
and the Chief Financial Officer concluded that the Company's disclosure controls
and procedures were not effective because of the material weaknesses in internal
controls  discussed  below.  To address these material  weaknesses,  the Company
performed   additional   analysis  and  other  procedures  to  ensure  that  the
consolidated  financial  statements  were prepared in accordance  with generally
accepted  accounting  principles.  Accordingly,  management  believes  that  the
financial  statements  included in this report  fairly  present in all  material
respects the Company's financial condition, results of operations and cash flows
for the periods presented.

Management's Report on Internal Control over Financial Reporting

Management  of the  Company is  responsible  for  establishing  and  maintaining
adequate  internal  control  over  financial  reporting  (as  defined  in  Rules
13a-15(f)  and  15d-15(f)  under the  Exchange  Act).  As of December  31, 2004,
management  conducted  an  assessment  of the  effectiveness  of  the  Company's
internal control over financial reporting based on the framework  established in
Internal  Control--Integrated  Framework  issued by the  Committee of Sponsoring
Organizations  of the  Treadway  Commission.  A material  weakness  is a control
deficiency, or combination of control 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.  Management  identified
the following material weaknesses.

The  Company did not  maintain a  sufficient  complement  of  personnel  with an
appropriate  level of  accounting  knowledge,  experience  and  training  in the
application of accounting  principles generally accepted in the United States of
America (GAAP) commensurate with the Company's financial reporting  requirements
to support the size,  complexity,  operating  activities,  and  locations of the
Company. This material weakness contributed to the following individual material
weaknesses as of December 31, 2004:

(1)  The Company did not maintain  effective  controls over the  accounting  for
     income taxes,  including  income taxes payable,  deferred income tax assets
     and  liabilities  and the related income tax provision.  Specifically,  the
     Company did not have effective controls over the reconciliation between the
     tax and financial  reporting bases of the Company's  assets and liabilities
     with its deferred income tax assets and  liabilities.  Additionally,  there
     was a lack of oversight and review over the income taxes payable,  deferred
     income tax assets and  liabilities  and the  related  income tax  provision
     accounts by accounting  personnel with appropriate  expertise in income tax
     accounting.  Additionally,  this  control  deficiency  could  result  in  a
     misstatement  of the income taxes payable,  deferred  income tax assets and
     liabilities and the related income tax provision accounts that would result
     in a material  misstatement to annual or interim financial  statements that
     would not be prevented or detected. Accordingly,  management has determined
     that this control deficiency constitutes a material weakness.

(2)  The Company did not  maintain  effective  controls  over  certain  contract
     revenues,  contract  costs in excess of billings and  accounts  receivable.
     Specifically,  the  Company  did  not  have  effective  controls  over  the
     accounting for  non-routine  change orders to customer  contracts to ensure
     that  change  orders  were   accounted   for  in   accordance   with  GAAP.
     Additionally, this control deficiency could result in a misstatement of the
     contract  revenues,  contract  costs in excess  of  billings  and  accounts
     receivable accounts that would result in a material  misstatement to annual
     or interim  financial  statements  that would not be prevented or detected.
     Accordingly,   management  has  determined  that  this  control  deficiency
     constitutes a material weakness.

These material  weaknesses  have  previously been reported for the periods ended
December 31, 2004, March 31, 2005 and June 30, 2005.


                                       33

<PAGE>


Remediation of Material Weaknesses

To address the material weaknesses described above, the Company:

     1)   has  upgraded  and  supplemented  the talent of its  accounting  staff
          throughout  the   organization  by  hiring  and  promoting   qualified
          candidates,   including  a  number  of  external  candidates.  Through
          management's  review of the accounting  personnel and additions to the
          accounting staff,  management has achieved a general control objective
          related to the material weakness.  Management  considers this material
          weakness  pervasive  to the  organization  and even though  management
          feels it has taken adequate steps to remediate the control  deficiency
          it will not be able to identify all of the control objectives affected
          and will not be able to  formally  conclude as to the  remediation  of
          this control deficiency until completion of its assessment of internal
          controls over financial reporting for 2005.

     2)   has engaged an outside tax  consultant,  other than from the Company's
          independent  registered public accounting firm, and has implemented an
          ongoing  training  program to enhance the capabilities of its internal
          tax  personnel.  As it relates to the  engagement  of the  outside tax
          consultant,  the  analysis  and  reconciliation  of  the  various  tax
          accounts  is not  yet  complete,  therefore  the  remediation  of this
          control  deficiency is not complete and thus this matter  continues to
          be classified as a material weakness.

     3)   has instituted formal new procedures  requiring the accounting for all
          significant,  non-routine  transactions to be documented and submitted
          to the Corporate  Accounting Group for approval.  CompuDyne management
          has implemented  controls to achieve the control  objective related to
          the material weakness;  therefore, we have concluded that the material
          weakness  related to  Ineffective  Controls  over the  Accounting  for
          Non-Routine  Change Orders has been fully  remediated and no longer is
          considered to represent an internal control deficiency.

Changes in Internal Control Over Financial Reporting

Other than as  described  above,  there  have been no  changes in the  Company's
internal control over financial reporting that occurred during the quarter ended
September 30, 2005 that have materially  affected,  or are reasonably  likely to
materially affect, the Company's internal control over financial reporting.


                                       34

<PAGE>


PART II - OTHER INFORMATION

Item 6:  Exhibits.

Exhibits -

          10.1 Severance  letter with  Maurice  Boukelif  dated  August 25, 2005
               (incorporated by reference to Registrant's Current Report on Form
               8-K dated August 25, 2005).
          31.1 Certification  by Mr. Martin  Roenigk,  Chief  Executive  Officer
               pursuant to Rule 13a-14(a), filed herewith.
          31.2 Certification  by Mr.  Geoffrey F.  Feidelberg,  Chief  Financial
               Officer pursuant to Rule 13a-14(a), filed herewith.
          32.1 Certification  Pursuant To Section 906 Of The  Sarbanes-Oxley Act
               of 2002, 18 U.S.C.  Section 1350, for Mr. Martin  Roenigk,  Chief
               Executive Officer, filed herewith.
          32.2 Certification  Pursuant To Section 906 Of The  Sarbanes-Oxley Act
               of 2002, 18 U.S.C.  Section 1350, for Mr. Geoffrey F. Feidelberg,
               Chief Financial Officer, filed herewith.


                                       35

<PAGE>


SIGNATURE
---------

     Pursuant to the  requirements  of the Securities  Exchange Act of 1934, the
registrant  has duly  caused  this  report  to be  signed  on its  behalf by the
undersigned, thereunto duly authorized.

                                                COMPUDYNE CORPORATION



Date:  November 9, 2005                         /s/ Martin Roenigk
                                                ------------------
                                                Martin Roenigk
                                                Chief Executive Officer


                                                /s/ Geoffrey F. Feidelberg
                                                --------------------------
                                                Geoffrey F. Feidelberg
                                                Chief Financial Officer


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