<PAGE>   1


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

                                   -----------
                                   FORM 10-KSB
[X] Annual Report Under Section 13 or 15(d) of the Securities Exchange 
    Act of 1934

                  FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1998

[ ] Transition Report Under Section 13 of 15(d) of the Securities Exchange 
    Act of 1934

                For the transition period from _______ to _______

Commission File Number 000-08193

                            SENSYS TECHNOLOGIES INC.
                 (FORMERLY KNOWN AS DAEDALUS ENTERPRISES, INC.)
                 ----------------------------------------------
             (Exact name of registrant as specified in its charter)

           Delaware                                             38-1873250
           --------                                             ----------
(State or other jurisdiction of                             (I.R.S. Employer
 incorporation or organization)                            Identification No.)

               8419 Terminal Road, Newington, Virginia 22122-1430
               --------------------------------------------------
               (Address of principal executive offices) (Zip Code)

        Registrant's telephone number, including area code (703) 550-7000
                                                           --------------

Securities registered pursuant to Section 12(b) of the Act:

                                                            Name of Exchange on
         Title of Class                                      Which Registered
         --------------                                      ----------------
              None                                                 None

           Securities registered pursuant to Section 12(g) of the Act:

Common Stock, par value $.01 per share
--------------------------------------

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 check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-B is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of the Form 10-KSB or any amendment to
this Form 10-KSB. [ ]



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<PAGE>   2



Issuer's revenues for the fiscal year ended September 30, 1998 were $21,927,000.
As of November 20, 1998, there were 3,968,271 shares of the Registrant's Common
Stock, par value $.01 per share, outstanding. The aggregate market value of the
voting and non-voting shares of the Common Stock held by non-affiliates and
outstanding as of November 20, 1998, was $9,021,000. This amount was computed
using the average bid and ask price as of November 20, 1998, as reported on the
National Association of Securities Dealers, Inc. OTC Bulletin Board.


                       DOCUMENTS INCORPORATED BY REFERENCE

Part III information will appear in the Registrant's Proxy Statement in
connection with its 1999 Annual Meeting of Stockholders. Such information will
be incorporated by reference as of the date of the filing of such Proxy
Statement.



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<PAGE>   3



                    SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES
                            FORM 10-KSB ANNUAL REPORT
                  FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1998
                                TABLE OF CONTENTS

<TABLE>
<CAPTION>
Item No.
--------
Part I                                                                                                 Page No.
------                                                                                                 --------
<S>                                                                                                    <C>
1.       Business                                                                                         4

2.       Properties                                                                                       11

3.       Legal Proceedings                                                                                11

4.       Submission of Matters to a Vote of Security Holders                                              12

Part II
-------

5.       Market for the Registrant's Common Stock
            and Related Stockholder Matters                                                               13

6.       Management's Discussion and Analysis of Financial
           Condition and Results of Operations                                                            13

7.       Financial Statements and Supplementary Data                                                      18

8.       Changes in and Disagreements with Accountants on
           Accounting and Financial Disclosures                                                           19

Part III
--------

Part III, Items 9 through 12, information will appear in the Registrant's Proxy Statement
in connection with its 1999 Annual Meeting of Stockholders.  Such
Proxy Statement will be filed with the Securities and Exchange Commission
pursuant to Regulation 14A and such information will
be incorporated herein by reference as of the date of such filing.                                        20

13.      Exhibits and Reports
           on Form 8-K                                                                                    21

Signatures                                                                                                22
</TABLE>



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                                     PART I
                                     ------

ITEM 1.  BUSINESS

o        GENERAL OVERVIEW

Sensys Technologies Inc. (also referred to as the "Company"), a Delaware
corporation, is the successor company to Daedalus Enterprises, Inc. ("DEI")
which was organized in 1968 and S.T. Research Corporation ("STR") which was
organized in 1972. On June 9, 1998, STR acquired DEI in a transaction accounted
for as a reverse acquisition (the "Acquisition"). As part of this overall
transaction, DEI changed its name to Sensys Technologies Inc. and STR then
merged into Sensys Technologies Inc. to create the Company.

The Company designs, develops and manufactures systems and equipment used for
electronic reconnaissance and imaging. Through its electronic reconnaissance
efforts, the Company supports communications intelligence, signal intelligence,
electronic support measures, electronic intelligence and airborne remote sensing
initiatives of the defense and intelligence communities. The Company's
activities in airborne imaging principally relate to the manufacture of airborne
imaging systems which are installed in aircraft and are used to acquire optical
radiation data from objects on the earth's surface and in the atmosphere.

o        ACQUISITION AND MERGER

The Company, as presently organized, resulted from STR's acquisition of DEI.
This acquisition was accomplished through the Acquisition in which a
newly-created subsidiary of DEI merged into STR. The transaction was accounted
for as a reverse acquisition. As a result of the Acquisition, the outstanding
STR shares were converted into approximately 86.5% of the issued and outstanding
shares of DEI. In connection with the Acquisition, the DEI shareholders voted to
amend the DEI Certificate of Incorporation to change the name of DEI to Sensys
Technologies Inc. and to increase the Company's authorized shares from 2,000,000
to 5,000,000.

o        BASIC PRODUCTS AND SERVICES

The Company is one of the leaders in high probability radar signal intercept
technology, including the ability to intercept radar signals within a crowded
signal environment. The Company's electronic support measure systems are used on
military platforms, such as ships, submarines and patrol aircraft, and at ground
installations, to intercept, analyze and identify radar signals. A key objective
of such identification is to detect hostile initiatives launched against
domestic security interests. The Company also designs, develops and manufactures
communications reconnaissance systems. These systems are generally employed in
aircraft and ground installations to intercept transmissions occurring over
established communications networks. The electronic support measure systems and
communications reconnaissance systems are primarily sold to the military and
intelligence sectors either directly or through prime contractors to which the
Company serves as a subcontractor.



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<PAGE>   5

The Company also performs studies and systems engineering contracts related to
electronic reconnaissance and signal processing technologies. These activities
are primarily performed for intelligence agencies of the United States. They are
principally undertaken to support the intelligence community's procurement of
major surveillance and signal processing systems.

The Company, as a result of the Acquisition, manufactures airborne multispectral
imaging systems. These systems can be employed at low and high altitudes for the
purpose of remotely sensing ground-based or atmospheric conditions. Applications
for these systems include environmental analysis, facility inspection, disaster
assessment and utility monitoring.

o        ELECTRONIC WARFARE SYSTEMS

As part of its electronic warfare technology business, the Company designs,
develops and manufactures electronic support measure, threat warning systems.
These systems intercept a transmitted radar signal and then analyze it for its
intelligence value. Radar is used by military forces for target detection and
identification, weapons guidance and navigation. Terrorists also rely upon radar
for navigation purposes. Therefore, the ability to intercept transmitted radar
and identify it can provide valuable information to protect domestic interests
from attack.

Radar signals exhibit a wide variety of characteristics such as frequency,
direction of arrival, pulse duration, pulse repetition frequency and antenna
rotation rate. All of these signals vary with the type of radar being emitted.
Once the characteristics can be detected, they can then be matched against the
parameters of radars which are associated with specific platforms. This, in
turn, can lead to the identification of the platform as well as the object for
which the radar is being employed.

Electronic support measure systems consist of specialized antennas, receivers,
signal processors and display and interface equipment. The specialized antenna
is critical since the antenna design is generally key to the desired sensitivity
of the system as well as to identifying the accuracy of the direction of arrival
of the intercepted radar signal. Once a radar signal is captured through an
antenna, the antenna converts it into an electrical signal which a receiver can
detect and pass through to a signal processor. The Company designs specific
antennas to meet the applications and requirements of its customers.

As part of the development of its radar threat warning systems, the Company
specializes in the development of broadband receivers. A broadband receiver has
the capacity to monitor a large portion of bandwidth spectrum. Although narrow
band receivers can generally detect very weak signals within the limited
spectrum they monitor, important signals in other spectrums can be missed. For
this reason, the Company utilizes broadband receivers and channelized receivers
in its radar warning systems which possess the capability of detecting and
measuring the frequency of each radar pulse over its entire bandwidth thereby
resulting in a higher probability of interception. Moreover, a broadband
receiver allows for simultaneous surveillance of all radars in a broad spectrum,
the ability to detect frequency hopping radars and the increased prospects of
intercepting a radar which transmits for a short interval of time.



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<PAGE>   6

The Company's receivers then pass the intercepted radar signal to a signal
processor. The signal processor, in turn, dissects all of the detailed
parameters of the signal and manipulates the data derived therefrom to compare
these parameters with known radar signals. The characteristics of these known
signals are generally stored in a database. This comparison can then allow for
assessments of the host platform emitting the signal, the potential threat posed
by the radar target and, in certain cases, the specific intentions surrounding
the use of an enemy weapons system.

The Company believes that as a result of its research and development efforts,
particularly in advanced distributed microprocessor applications, it is at the
forefront of signal processing technology. The Company's processors are capable
of rapidly processing complex environments derived from a broad frequency
spectrum in which multiple signals are intercepted, many of which possess unique
and complex parameters.

The information derived from the signal processors must be presented to the
decision maker. As part of its radar warning systems, the Company provides
display and interface equipment which process the data derived from the signal
processor for presentation. Two key objectives exist at this level. First, only
relevant information for presentation must be derived from the overall signal
environment. Second, all detailed information which is captured must be stored
for later analysis. The Company relies upon its experience and its understanding
of the operational use of reconnaissance data in its attempts to achieve these
objectives.

Electronic support systems which the Company produces can typically sell for up
to $3,000,000 depending upon the system configuration and complexity. The
Company can configure its electronic support systems for small patrol boats as
well as large aircraft carriers and has configured systems specifically for
mobile vehicles. The Company is presently investigating applications of its
threat warning technology for airborne applications.

The Company provides support in the form of maintenance service and spare parts
for its installed systems under contracts similar to production contracts. These
activities generally continue for the life of a system. The Company expects this
aspect of its business to increase as its base of installed products expands.

o        COMMUNICATIONS RECONNAISSANCE SYSTEMS

Worldwide commercial communications networks are increasingly being used for
criminal and/or terrorist purposes. Also, certain third world countries utilize
these networks for military purposes as opposed to developing special purpose
military control centers. Because of the usage of these networks, communications
reconnaissance systems have been developed to intercept communications signals
in an attempt to detect and analyze the signal and determine the activity for
which the communications transmission is being employed.

Communications transmission interception has become increasingly complex as
military and commercial systems have been designed to make maximum utilization
of available bandwidth



                                       6
<PAGE>   7

not only for added capacity but to enhance the range of features available to
the systems' users. Sophisticated encryption technology is also employed to
prevent the misappropriation of proprietary data. Against this backdrop, the
communications interceptor must monitor multiple frequency bands, derive
information necessary to detect and analyze the transmission and then attempt to
determine the activity which the transmission is supporting.

The Company has been developing intercept technology which is both hardware and
software based. The Company's efforts are specifically aimed at the existing
deployed global communications networks as well as emerging satellite and land
based systems planned for future introduction into the marketplace. As part of
these development efforts, the Company has been investing in broad band digital
receiver technology and real time signal processing to sort through, detect and
analyze communications transmissions. The current prices of the interception
equipment used to intercept commercial communications range up to $2,000,000.

o        AIRBORNE IMAGING SYSTEMS

The Company manufactures airborne imaging systems. These systems are installed
in aircraft and are used to acquire optical radiation data from objects on the
earth's surface and in the atmosphere. This data is then processed into a useful
form by data handling and data processing equipment which, in some cases, is
also manufactured by the Company. A principal application of these products has
been the measurement of environmental parameters in support of pollution control
programs and environmental impact studies.

The Company manufactures these products by integrating precision optical,
mechanical and electrical components into unified systems. These components are
either purchased off the shelf or are custom designed or manufactured by the
Company or designed and specified by the Company for outside manufacture.
Systems are assembled, tested and calibrated as part of their overall delivery
to the end user customer. Customers generally include aerospace, aerial survey,
oil and mineral exploration companies, universities and domestic and foreign
federal and state government agencies. The current prices for the imaging
systems range up to $2,000,000.

o        COMPETITION

There is substantial competition in both the domestic and foreign threat warning
and communications intercept businesses. Competitors for U.S. Government
contracts include major companies such as Raytheon Company, Lockheed-Martin
Corporation, Litton Industries, Inc., Condor Systems, Inc., and TRW
Incorporated. The size and reputation of these companies can give them a
significant advantage in competing for contracts. The Company attempts to
compete in those market niches where it believes it has both a technological and
cost advantage. In the foreign market, a number of overseas companies are
competitors, such as Racal Communications (United Kingdom), Electronica (Italy),
Thompson-CFS and Dassault Electronique (France). These companies are larger and
better known than the Company and, therefore often times maintain a competitive
advantage in their home countries. Nevertheless, the Company believes



                                       7
<PAGE>   8

it is one of the top suppliers of electronic support measure systems to the U.S.
Government, and can favorably compete in the foreign threat warning and
communications intercept marketplace.

The principal competitive factors in the threat warning and communications
markets are technical performance, reliability, experience and price. Based on a
combination of these factors, the Company believes that it competes very
favorably in its markets. The Company's most important competitive attributes
are its emphasis on technical superiority and a willingness and capability to
modify its products to meet customer specific needs. Once a particular
supplier's products have been selected for incorporation in a military
electronic system, further competition by other vendors during the life cycle of
the program is usually limited. In the airborne imaging markets, the Company
believes it provides superior technology in the niche market it serves. In all
business sectors in which the Company competes, it always strives to distinguish
itself on the basis of superior technological products and its system
application skills.

There are several competitors who compete with individual imaging products. In
addition, the imaging products compete with satellite based equipment suppliers.
The Company believes it competes successfully due to its product capabilities
and performance.

o        MATERIALS

The Company's operations primarily require electronic and mechanical components
and supplies which are generally available from several commercial sources. A
variety of unique optical and electronic components, however, which are designed
and specified to meet particular Company requirements have a limited number of
manufacturing resources. Even with certain limited sources of supply, the
Company believes that the loss of a single supplier would not be expected to
have a material adverse effect on the Company.

o        PATENTS

The Company holds several patents and has applied for others. However, the
Company believes that the ownership of patents is not a significant factor in
its business and that its success depends primarily on innovative skills,
technical competence, and the ability to rapidly adapt to new technology and
emerging requirements from its customers. None of the Company's revenue during
the last three fiscal years is attributable to patented technologies. Therefore,
the loss of patent protection does not constitute a material risk of the
Company. The Company has registered no trademarks.



                                       8
<PAGE>   9


o        MARKETING

Marketing of the Company's reconnaissance products and services is conducted
primarily by members of its technical staff who concentrate on developing an
understanding of a particular customer's technical requirements and maintaining
close contact with such customer. The Company's imaging products are sold by a
small technically skilled marketing staff domestically and by agents in foreign
markets.

Export sales of the threat warning and commercial communication intercept
systems and imaging products and systems must be approved by the U.S. Department
of State, which limits the markets for such products and may result in delay or
possible cancellation of an order.

o        PRODUCT DEVELOPMENT

The Company believes that continued success of the Company depends, in a large
part, on its ability to develop and apply new technology. Funding for these
activities comes both from internally sponsored research and development as well
as from customer funded development contracts. Total research and development
expenditures over the past two years were as follows:

<TABLE>
<CAPTION>
                                                                             Year Ended September 30,
                                                                            1998                       1997
                                                                            ----                       ----
<S>                                                                   <C>                        <C>       
Internal research and development                                     $  994,000                 $  517,000
Customer funded development                                            5,368,000                  6,318,000
                                                                      ----------                 ----------
Total                                                                 $6,362,000                 $6,835,000
                                                                      ==========                 ==========
</TABLE>

Current funded programs include development of (1) high probability of intercept
systems for surface ships, (2) communications intercept capability, and (3)
phase coherent synthesizer techniques for the generation of broad band signals.

o        BACKLOG

At September 30, 1998, the Company had a funded backlog of $15,100,000 compared
to a funded backlog of $15,800,000 at September 30, 1997. A significant part of
the Company's business is a short-term effort which is typically transacted in a
six to nine month period.

In addition, at September 30, 1998, the Company had unfunded backlog of
$7,500,000 and options outstanding of approximately $50,000,000, which it
anticipates the U.S. Government and/or prime contractors will exercise and fund
in accordance with the terms of the respective contracts compared to $1,100,000
and $11,000,000, respectively at September 30, 1997. There are also programs for
which the Company, based on prior experience, expects the U.S.
Government to negotiate continuing contractual coverage.



                                       9
<PAGE>   10

The increase in the Company's unfunded backlog and options is primarily the
result of a subcontract for engineering and production of components of the
AIEWS systems for U.S. Navy surface ships. Following development, the prime
contractor holds options for subsequent production. The Company anticipates the
options will be exercised during the period 2000 through 2005.

o        GOVERNMENT CONTRACTS

During the most recent fiscal year approximately 96% of the Company's revenues
were attributable to contracts with numerous offices and agencies of the U.S.
Government or its prime contractors. The Company's federal government contracts
include cost plus fixed fee, cost plus incentive fee, cost plus award fee, time
and material and fixed price contracts. The fixed price contracts are not
subject to adjustment by reason of costs incurred in the performance of the
contract. With this type of contract the Company assumes the risk that it will
be able to perform at a cost below the fixed price except for costs incurred
because of contract changes ordered by the customer. The Company is subject to
various statutes and regulations governing defense contracts, which carry
substantial penalty provisions including denial of future contracts in the event
the Company is found to have abused any of these regulations. The Company
carefully monitors all of its contracts and contractual efforts to minimize the
possibility of any abuses associated with its government contracts. The Company
has experienced minimal audit adjustments over the past ten years. The Defense
Contract Audit Agency ("DCAA") has completed its audit of the Company's
contracts through the fiscal year ended September 30, 1996.

Although the Company contracts with several agencies of the federal government,
either directly or indirectly through prime contractors, its business is
substantially dependent upon continuing appropriations to support the current
and anticipated programs in which the Company will participate. The Company
believes the markets in which it participates will continue to expand as the
military branches and intelligence agencies continue to rely upon technological
advances for defense and intelligence purposes. There can be no assurances,
however, that federal appropriations will continue to exist at their current
levels or that the Company's products will be utilized in the future.

o        ENVIRONMENTAL

The Company's operations do not include any activities which result in
environmental issues. As a result, the Company has incurred no costs in the past
two years related to environmental compliance.

o        EMPLOYEES

At September 30, 1998, the Company employed 165 persons. Of these employees, 4
were executive officers, 89 were engaged in engineering activities, 34 were in
manufacturing, and 38 were in administrative and support positions. Many of the
Company's employees are highly



                                       10
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skilled, with advanced degrees. The Company's continued success depends upon its
ability to continue to attract and retain highly skilled employees. The Company
has experienced low turnover of its employees. The Company has never had a work
stoppage, and none of its employees are represented by a labor organization. The
Company considers its employee relations to be good.

ITEM 2.  PROPERTIES

The Company believes that its owned and leased facilities are suitable for their
respective operations. Each facility is well maintained and capable of
supporting higher levels of revenue. The table below sets forth certain
information about the Company's principal facilities:

<TABLE>
<CAPTION>
                                            Owned or                                              Principal
Address                    Square Feet      Leased            Description                         Activity
-------                    -----------      ------            -----------                         --------
<S>                        <C>              <C>               <C>                                 <C>
8419 Terminal Road            67,000        Leased            Two 1-story and one partial         Engineering/
Newington, VA 22122                                           2-story adjacent block              Manufacturing/
                                                              buildings.  Buildings are           Administration
                                                              in an industrial park

8540 Cinderbed Road            7,100        Leased            1-story brick and glass             Engineering
Suite 1700                                                    building in an office park
Newington, VA  22122

300 Parkland Plaza            12,500        Leased            1-story facility in a               Engineering/
Ann Arbor, MI  48103                                          research park                       Manufacturing/
                                                                                                  Administration
</TABLE>

The Company's facilities in Newington and Ann Arbor are equipped with equipment
used for the design, development and manufacture of its products. Facilities in
Newington include a Sensitive Compartmented Information Facility ("SCIF"),
anechoic chamber, secure test areas, environmental equipment, antennas, as well
as general purpose equipment required to manufacture and test its products.

ITEM 3.  LEGAL PROCEEDINGS

The Company is not a party to, nor is any of its property the subject of, any
material pending legal proceedings.




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<PAGE>   12


ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

On September 21, 1998, stockholders holding approximately 65% of the Company's
outstanding shares approved a consent resolution increasing the 400,000 shares
of stock set aside for issuance upon exercise of options granted under the
Company's Long-Term Incentive Plan to 720,000 shares.

There were no other matters submitted to a vote of security holders during the
fourth quarter of the Company's fiscal year ended September 30, 1998.




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                                     PART II
                                     -------

ITEM 5.  MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER
         MATTERS

The Company's Common Stock is traded on the over the counter market through the
OTC Bulletin Board service under the symbol "STST". Prior to the Acquisition,
the Company's stock representing the outstanding shares of DEI was traded under
the symbol "DEDI".

The following table sets forth the range of high and low actual sales prices of
the Common Stock for the periods indicated. Sale prices include prices between
dealers, may not reflect mark-ups, mark-downs or commissions and may not
represent final actual transactions.

Quarter Ended                                High             Low
-------------                                ----             ---

December 31, 1996                            2               1-5/8
March 31, 1997                               2-1/4           1-7/8
June 30, 1997                                2-5/8           2-1/8
September 30, 1997                           2-3/4           2-1/4
December 31, 1997                            3               2-3/4
March 31, 1998                               6-1/4           3
June 30, 1998                                6-1/4           4-3/4
September 30, 1998                           4-3/4           3-1/8

No dividends have been paid on the Company's Common Stock during the last two
fiscal years. Furthermore, the line of credit covenants contain restrictions on
payment of dividends. The Company currently intends to retain earnings to
finance the growth and development of its business and does not anticipate
paying cash dividends on its Common Stock in the foreseeable future.

As of November 12, 1998, there were approximately 500 beneficial owners of the
Company's Common Stock, including 192 holders of record.

ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS

CERTAIN STATEMENTS CONTAINED HEREIN ARE NOT BASED ON HISTORICAL FACTS, BUT ARE
FORWARD-LOOKING STATEMENTS THAT ARE BASED UPON NUMEROUS ASSUMPTIONS ABOUT FUTURE
CONDITIONS THAT COULD PROVE NOT TO BE ACCURATE. ACTUAL EVENTS, TRANSACTIONS AND
RESULTS MAY MATERIALLY DIFFER FROM THE ANTICIPATED EVENTS, TRANSACTIONS OR
RESULTS DESCRIBED IN SUCH STATEMENTS. THE COMPANY'S ABILITY TO CONSUMMATE SUCH
TRANSACTIONS AND ACHIEVE SUCH EVENTS OR RESULTS IS SUBJECT TO CERTAIN RISKS AND
UNCERTAINTIES. SUCH RISKS AND UNCERTAINTIES INCLUDE, BUT ARE NOT LIMITED TO, THE
EXISTENCE OF DEMAND FOR AND ACCEPTANCE OF THE COMPANY'S PRODUCTS AND SERVICES,



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REGULATORY APPROVALS AND DEVELOPMENTS, ECONOMIC CONDITIONS, THE IMPACT OF
COMPETITION AND PRICING, RESULTS OF FINANCING EFFORTS AND OTHER FACTORS
AFFECTING THE COMPANY'S BUSINESS THAT ARE BEYOND THE COMPANY'S CONTROL. THE
COMPANY UNDERTAKES NO OBLIGATION AND DOES NOT INTEND TO UPDATE, REVISE OR
OTHERWISE PUBLICLY RELEASE THE RESULTS OF ANY REVISIONS TO THESE FORWARD-LOOKING
STATEMENTS THAT MAY BE MADE TO REFLECT FUTURE EVENTS OR CIRCUMSTANCES.

The following discussion provides information which management believes is
relevant to an assessment and understanding of the Company's operations and
financial condition. This discussion should be read in conjunction with the
condensed consolidated financial statements and accompanying notes.

On June 9, 1998, Daedalus Enterprises, Inc. ("DEI") acquired S. T. Research
Corporation ("STR"). See Item 1 "Business: Acquisition and Merger." The
Acquisition was accounted for as a reverse acquisition whereby STR was deemed to
have acquired DEI for financial reporting purposes. Consistent with the reverse
acquisition accounting treatment, the historical financial statements presented
for periods prior to the Acquisition date are the financial statements of STR,
except for stockholders' equity which has been retroactively restated for the
equivalent number of shares of the legal acquiror and therefore, differ from the
consolidated financial statements of DEI as previously reported. The operations
of the former DEI business have been included in the financial statements from
the date of the Acquisition. In connection with the Acquisition, the Company
changed its fiscal year-end from July 31 to September 30, which was the fiscal
year end of STR.

OPERATING CYCLE

In accordance with industry practice, the Company classifies as current assets
amounts relating to long-term contracts which may have terms extending beyond
one year but are expected to be realized during the normal operating cycle of
the Company. The liabilities in the accompanying balance sheets which have been
classified as current liabilities are those expected to be satisfied by the use
of assets classified as current assets. At September 30, 1998, substantially all
contracts will be completed within the next twelve months. Therefore,
substantially all current assets and current liabilities are expected to be
liquidated in the next twelve months.

RESULTS OF OPERATIONS

Revenue for the year ended September 30, 1998 was $21,927,000 compared to
$23,953,000 for the year ended September 30, 1997, resulting in a $2,026,000 or
a 8.5% decrease. The decrease was primarily due to the expiration of certain
long-term contracts coupled with delays in finalizing negotiations on newly
awarded contracts.

The total amounts of contracts funded and unfunded in backlog, as of September
30, 1998 and 1997, were approximately $22,600,000 and $16,900,000, respectively,
including both the



                                       14
<PAGE>   15

uncompleted portion of contracts in progress and contracts awarded but not yet
started. The majority of the funded backlog at September 30, 1998 of $15,100,000
is expected to be completed within a year. Options on existing contracts
approximate $50,000,000 at September 30, 1998. The principal amount of options
are on the U.S. Navy Integrated Electronic Warfare System (AIEWS) subcontract
from Lockheed-Martin Corporation. The options are planned for exercise between
the year 2000 and the year 2005 with potential deliveries extending for an
additional two (2) years.

Cost of revenue, as a percentage of revenue, decreased from 86.7% for the year
ended September 30, 1997 to 84.5% for the year ended September 30, 1998. This
improvement primarily resulted from a reduction in contract revenue from which
losses were sustained as well as an increase in the profit margins under other
contracts. The Company attributes this improvement to its efforts to focus on
its more profitable core businesses.

During fiscal 1998, general and administrative expenses increased from
$2,654,000 to $3,424,000, a $770,000 or a 29.0% increase from fiscal 1997. This
was primarily the result of an increase in internally funded research and
development expense which increased by $477,000. Additionally, professional fees
increased $105,000 and bad debt expense increased $155,000. The increase in
professional fees was largely the result of increased costs associated with 
STR's transition to a publicly traded company as a result of the Acquisition.

During fiscal 1998, the Company recorded nonrecurring charges of $1,096,000 in
connection with the ongoing restructuring of the Company's operations primarily
emanating from the Acquisition. The restructuring will combine, integrate, and
reengineer the Company's processes, policies and procedures.

Net interest expense of $345,000 for the year ended September 30, 1997,
decreased 42.9% to $197,000 for the year ended September 30, 1998. The decrease
was a result of a repayment of the Company's outstanding line of credit
borrowings resulting from proceeds of $3,783,000 from the Company's private
placement of common stock, completed on January 30, 1998.

Income tax benefit consists of federal and state income taxes. The Company's
effective income tax rate was 37.3% for the year ended September 30, 1998 and
was 37.5% for the year ended September 30, 1997. The rate varied from the
statutory rate primarily due to certain non-deductible expenses.

Net income decreased from $120,000 for the year ended September 30, 1997 to a
net loss of $822,000 for the year ended September 30, 1998. The decrease in net
income was primarily the result of the Company's nonrecurring restructuring 
charges.




                                       15
<PAGE>   16


LIQUIDITY AND SOURCES OF CAPITAL

Cash flows used in operating activities were $564,000 for the year ended
September 30, 1998. This was primarily a result of lower revenue and higher
operating costs for the year ended September 30, 1998, including payment of the
restructuring charges.

Cash flows used in investing activities of $480,000 for the year ended September
30, 1998 included payment of the expenses related to the acquisition of DEI of
$115,000 and capital expenditures of $365,000. The Company has currently
budgeted $500,000 for capital expenditures during fiscal 1999 including $150,000
principally for machinery and equipment, $150,000 for computer hardware and
software and $200,000 for facility improvements. The Company expects to be able
to finance these expenditures with available working capital and credit
facilities.

On January 30, 1998, the Company completed a private placement, whereby it
issued 582,000 shares of common stock. The common stock was issued for cash of
$6.50 per share for aggregate proceeds of $3,783,000. When restated for the
exchange ratio used in the Acquisition, the Company's equivalent number of
shares issued was 1,501,560 and the issuance price was $2.52. The proceeds were
used to pay outstanding bank borrowings under the Company's line of credit.
Subsequent to the Acquisition, the Company also repaid DEI's existing note
payable to its bank in the amount of $879,000. Cash flows provided by financing
activities of $1,016,000 for the year ended September 30, 1998 were primarily a
result of the proceeds on the private placement offset by the subsequent
repayment of outstanding borrowings.

Inventories, property and equipment, land and building held for sale, and
goodwill increased from September 30, 1997 to September 30, 1998 primarily due
to the acquisition of DEI. The property held for sale was sold on December 1,
1998.

The Company's line of credit from its bank was amended and extended to February
28, 1999. At September 30, 1998, the Company was not in compliance with the
earnings and tangible net worth covenants of the line of credit. In December
1998, the events of non-compliance were waived, and the tangible net worth
covenant was amended by the bank. The Company believes that it will comply with
the covenants under the line of credit, as amended, through the remaining term
of the agreement. The Company believes that its existing funds, amounts
generated by operations, and amounts available for borrowing under its line of
credit will be sufficient to meet its working capital needs through fiscal 1999.
Management has had discussions and expects to negotiate a new credit facility
with the existing lender by February 1999. However, no assurances can be
provided that a new facility possessing acceptable terms will be available to
the Company. The amended line of credit contains various performance covenants
and restrictions including restrictions on dividend payments.

The Company's 1998 tax loss is expected to be utilized as set forth below.
Approximately $526,000 ($200,000 tax benefit) will be utilized under tax loss
carry back provisions of the Internal Revenue Service ("IRS") Code to obtain tax
refunds for taxes paid in prior years. The remaining balance of approximately
$763,000 ($290,000 tax benefit) will be utilized to reduce future taxable
income. The acquired deferred tax assets arising from the DEI net operating
losses and tax credits approximate $732,000. These deferred tax assets have been
fully



                                       16
<PAGE>   17
reserved because of limitations under the IRS Code. To the extent these deferred
tax assets are utilized, there will be a corresponding reduction in goodwill.

NEW ACCOUNTING PRONOUNCEMENTS

In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards (SFAS) No. 129, "Disclosure of
Information about Capital Structure," for fiscal years ending after December 15,
1997. The provisions of SFAS No. 129 established standards for disclosing
information about an entity's capital structure.

In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income,"
and SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," for fiscal years beginning after December 15, 1997. The provisions
of SFAS No. 130 establish standards for reporting and display of comprehensive
income and its components in the financial statements. This statement requires
all items that are required to be recognized under accounting standards as
components of comprehensive income be reported in the financial statements and
displayed with the same prominence as other financial statements. The provisions
of SFAS No. 131 establish standards for the way that enterprises report
information about operating segments in annual financial statements and required
that selected information about operating segments in interim financial
statements be reported. It also establishes standards for related disclosure
about products and services, geographic areas, and major customers.

In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits". This statement significantly
changes current financial statement disclosure requirements from earlier
statements. Some of the more significant effects of SFAS No. 132 which will
affect the Company's disclosures are that it:

         (1)      standardizes the disclosure requirements for pensions and
                  other postretirement benefits and presents them in one
                  footnote;
         (2)      requires that additional information be disclosed regarding
                  changes in the benefit obligation and fair values of plan
                  assets; 
         (3)      eliminates certain disclosures that are no longer considered
                  useful, including general descriptions of the plans and;
                  revises disclosures about defined-contribution plans.

On June 15, 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". SFAS No. 133 establishes a new model for
accounting for derivatives and hedging. The new standard requires enhanced
disclosure of accounting policies for derivative financial instruments and
derivative commodity instruments in the footnotes to the financial statements.
In addition, the standard expands disclosure requirements to include
quantitative and qualitative information about market risk inherent in market
risk sensitive instruments.



                                       17
<PAGE>   18
The Company has adopted SFAS No. 129 for the fiscal year ended September 30,
1998, and will adopt SFAS Nos. 130, 131, and 132 beginning October 1, 1998. The
Company will adopt Statement No. 133 effective October 1, 1999. The Company
believes that the adoption of these statements will not have a material effect
on the Company's consolidated financial position or results of operations.

IMPACT OF INFLATION

The Company's operations were not significantly affected by inflation.

IMPLICATIONS OF YEAR 2000

The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of the Company's
internal business systems, facilities and products that have software, whether
installed or embedded, may recognize a date using "00" as the year 1900 rather
than the year 2000. This could result in a system failure or miscalculations
causing disruptions of operations, including among, other things, a temporary
inability to process transactions, send invoices, or engage in similar normal
business activities. In addition, disruptions in the economy generally resulting
from Year 2000 issues could have a material adverse affect on the Company.

The Company began its assessment of the implications of the Year 2000 issue
during March 1998, by developing plans and a program to address the potential
impact of the Year 2000 on its internal business systems, facilities and
products which might include embedded software. The Company has substantially
completed its review of each of these areas for potential Year 2000 impact.
Based on current information, the Company believes there are no material
operational problems or expenses related to the Year 2000 problem. Certain
versions of the Company's products require modifications and it appears there
may be opportunities to sell upgrades to its customer base. The Company does not
believe that it has any contingent liabilities associated with any products it
has previously manufactured which may not be Year 2000 fully compliant. Detailed
implementation plans are in place for the required modifications or
replacements. Products currently in production have been determined to be Year
2000 compliant and require no remediation. While initial assessments of Year
2000 implications are substantially complete, the Company plans to continually
re-assess its software-embedded products and operational software applications
to insure Year 2000 compliance. In addition, the Company has gathered
information about the Year 2000 compliance status of its significant suppliers,
vendors and subcontractors and continues to monitor their compliance. There have
been no significant compliance issues identified. The Year 2000 review process
and progress are monitored on a regular basis by a special task group of
management. There appears to be no material financial risk to the Company.

The Company has contingency plans for certain critical applications. Such plans
include, among other actions, manual workarounds, increasing inventories and
adjusting staffing strategies.

ITEM 7.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The information required by this item is included in this report on pages F-1
through F-23.



                                       18
<PAGE>   19

ITEM 8.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
         FINANCIAL DISCLOSURES

The Company's change in accountants was previously disclosed in its report on
Form 8-K filed June 15, 1998. There were no disagreements with the current or
prior auditors.




                                       19
<PAGE>   20


                                    PART III
                                    --------

ITEM 9.  DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
         COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.

Information relating to the Directors and Executive Officers of the Company and
compliance with section 16(a) of the Exchange Act will appear beneath the
captions "Election of Directors," "Certain Information Regarding Nominees,"
"Meetings and Committees of the Board," "Business Experience of Executive
Officers," "Compensation of Directors," and "Section 16(a), Beneficial Ownership
Reporting Compliance" in the Company's definitive Proxy Statement which will be
distributed in connection with its 1999 Annual Meeting of Stockholders. Such
Proxy Statement will be filed with the Securities and Exchange Commission
pursuant to Regulation 14A and such information will be incorporated herein by
reference as of the date of such filing.

ITEM 10.  EXECUTIVE COMPENSATION

Information relating to management remuneration and transactions will appear
beneath the caption "Executive Compensation" and "Employment Agreements" in the
Company's definitive Proxy Statement which will be distributed in connection
with its 1999 Annual Meeting of Stockholders. Such Proxy Statement will be filed
with the Securities and Exchange Commission pursuant to Regulation 14A and such
information will be incorporated herein by reference as of the date of such
filing.

ITEM 11.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

Information relating to the ownership of equity securities by management and by
beneficial owners of 5% or more of the Common Stock of the Company will be set
forth under the caption "Stock Ownership of Certain Beneficial Owners" in the
Company's definitive Proxy Statement which will be distributed in connection
with its 1999 Annual Meeting of Stockholders. Such Proxy Statement will be filed
with the Securities and Exchange Commission pursuant to Regulation 14A and such
information will be incorporated herein by reference as of the date of such
filing.

ITEM 12.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information concerning certain relationships and transactions between the
Company and its Officers and Directors will appear beneath the caption "Certain
Relationships and Related Transactions" in the Company's definitive Proxy
Statement which will be distributed in connection with its 1999 Annual Meeting
of Stockholders. Such Proxy Statement will be filed with the Securities and
Exchange Commission pursuant to Regulation 14A and such information will be
incorporated herein by reference as of the date of such filing.

In the event that the Company's definitive Proxy Statement to be distributed in
connection with its 1999 Annual Meeting of Stockholders is not filed, or mailed
for filing, with the Securities and Exchange Commission pursuant to Regulation
14A within 120 days of the end of the Company's



                                       20
<PAGE>   21

most recent fiscal year, the Company will amend this Report within such time
period to provide the information required by Part III hereof.


ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K

(a)  EXHIBITS

Exhibits are listed in the Exhibit Index which is on pages 24 and 25 of this
Form 10-KSB, which is incorporated herein by reference.

(b)  REPORTS ON FORM 8-K

No Reports on Form 8-K were filed during the quarter ended September 30, 1998.



                                       21

<PAGE>   22


                        REPORT OF INDEPENDENT ACCOUNTANTS



To the Board of Directors and Shareholders of
Sensys Technologies Inc.:

In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, stockholders' equity and cash flows
present fairly, in all material respects, the financial position of Sensys
Technologies Inc. and its subsidiaries at September 30, 1998 and 1997, and the
results of their operations and their cash flows for each of the two years in
the period ended September 30, 1998, in conformity with generally accepted
accounting principles. These financial statements are the responsibility of the
Company's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
financial statements in accordance with generally accepted auditing standards
which require that we plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.



PricewaterhouseCoopers LLP
Pittsburgh, PA


December 4, 1998, except
for Note 8, as to which
the date is December 22, 1998




                                      F-1
<PAGE>   23


                    SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES

                           CONSOLIDATED BALANCE SHEET

                                     ASSETS

<TABLE>
<CAPTION>
                                                                                September 30,        September 30,
                                                                                    1998                 1997
                                                                                -------------        -------------
<S>                                                                             <C>                   <C>
CURRENT ASSETS
    Cash and cash equivalents (Note 3)                                          $   112,000           $  140,000
    Accounts receivable                                                           5,082,000            2,916,000
    Unbilled contract costs, net (Note 4)                                         3,826,000            6,198,000
    Inventories  (Note 5)                                                           536,000              111,000
    Deferred tax asset (Note 17)                                                    288,000              264,000
    Other current assets                                                             89,000              108,000
    Refundable and prepaid income taxes (Note 17)                                   311,000               75,000
                                                                                -----------          -----------
          TOTAL CURRENT ASSETS                                                   10,244,000            9,812,000
                                                                                -----------          -----------

PROPERTY AND EQUIPMENT (Note 6)                                                   1,647,000              932,000

OTHER ASSETS
    Deferred tax asset - non current (Note 17)                                      236,000                    -
    Goodwill (Note 2)                                                               782,000                    -
    Property held for sale (Note 7)                                               1,446,000                    -
    Other assets                                                                     69,000               60,000
                                                                                -----------          -----------

          TOTAL ASSETS                                                          $14,424,000          $10,804,000
                                                                                ===========          ===========
</TABLE>


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



                                      F-2
<PAGE>   24


                    SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES

                      CONSOLIDATED BALANCE SHEET, CONTINUED

                      LIABILITIES AND STOCKHOLDERS' EQUITY

<TABLE>
<CAPTION>
                                                                                       September 30,          September 30,
                                                                                           1998                    1997
                                                                                       -------------          -------------
<S>                                                                                     <C>                    <C>
CURRENT LIABILITIES
    Note payable - line of credit (Note 8)                                              $ 2,049,000            $ 3,911,000
    Accounts payable                                                                      2,554,000              2,880,000
    Accrued salaries, benefits, and related expenses                                      1,199,000                922,000
    Deferred compensation (Note 9)                                                          319,000                291,000
    Other accrued expenses (Note 16)                                                        619,000                174,000
    Mortgage payable (Note 11)                                                              220,000                      -
    Capital leases (Note 12)                                                                 53,000                 76,000
                                                                                        -----------            -----------

          TOTAL CURRENT LIABILITIES                                                       7,013,000              8,254,000

LONG-TERM LIABILITIES
    Capital leases (Note 12)                                                                104,000                 14,000
                                                                                        -----------            -----------

STOCKHOLDERS' EQUITY (Notes 2 and 13) Common Stock, at September 30, 1998, $.01
    par value, authorized 5,000,000 shares; issued and outstanding 3,961,271
    shares; at September 30, 1997, $.01 par value, authorized
    3,000,000 shares; issued and outstanding 723,792 shares                                  40,000                 19,000
    Additional paid-in capital                                                            6,858,000              1,286,000
    Retained earnings                                                                       409,000              1,231,000
                                                                                        -----------            -----------

                                                                                          7,307,000              2,536,000
                                                                                        -----------            -----------

          TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY                                    $14,424,000            $10,804,000
                                                                                        ===========            ===========
</TABLE>


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



                                      F-3
<PAGE>   25


                    SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES

                      CONSOLIDATED STATEMENT OF OPERATIONS


<TABLE>
<CAPTION>
                                                                        Year Ended               Year Ended
                                                                       September 30,            September 30,
                                                                           1998                      1997
                                                                       -------------            -------------
<S>                                                                     <C>                      <C>
REVENUE
    Contract revenue                                                    $21,927,000              $23,953,000

COSTS AND EXPENSES
    Cost of revenues                                                     18,522,000               20,762,000
    General and administrative expenses                                   3,424,000                2,654,000
    Restructuring costs (Note 16)                                         1,096,000                        -
                                                                        -----------              -----------

          Total costs and expenses                                       23,042,000               23,416,000
                                                                        -----------              -----------

(LOSS) INCOME FROM OPERATIONS                                            (1,115,000)                 537,000

OTHER EXPENSES
   Interest expense, net                                                   (197,000)                (345,000)
                                                                        -----------              -----------

(LOSS) INCOME BEFORE INCOME TAXES                                        (1,312,000)                 192,000

INCOME TAX BENEFIT (PROVISION) (Note 17)                                    490,000                  (72,000)
                                                                        -----------              -----------

NET (LOSS) INCOME                                                       $ (822,000)              $   120,000
                                                                        ==========               ===========

PER SHARE AMOUNT (Note 1)
  Basic and diluted (loss) earnings per share                           $    (0.27)              $      0.06
                                                                        ==========               ===========
</TABLE>



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



                                      F-4
<PAGE>   26


                    SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES

                 CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY


<TABLE>
<CAPTION>
                                                                                           Additional                      Total
                                                                               Common       Paid-in       Retained     Stockholders'
                                                                                Stock       Capital       Earnings         Equity
                                                                               -------     ----------    ----------    ------------
<S>                                                                            <C>         <C>           <C>             <C>
BALANCE AT SEPTEMBER 30, 1996                                                  $19,000     $1,289,000    $1,111,000      $2,419,000

Net income                                                                           -              -       120,000         120,000
Repurchase of common stock                                                           -         (3,000)            -          (3,000)
                                                                               -------     ----------    ----------      ----------

BALANCE AT SEPTEMBER 30, 1997                                                   19,000      1,286,000     1,231,000       2,536,000
                                                                               -------     ----------    ----------      ----------

Net loss                                                                             -              -      (822,000)       (822,000)

Issuance of stock, net of related expenses of $6 (Note 13)                      15,000      3,762,000             -       3,777,000

Acquisition, including par value adjustment (Note 2)                             5,000      1,752,000             -       1,757,000

Exercise of stock options                                                        1,000         58,000             -          59,000
                                                                               -------     ----------    ----------      ----------

BALANCE AT SEPTEMBER 30, 1998                                                  $40,000     $6,858,000    $  409,000      $7,307,000
                                                                               =======     ==========    ==========      ==========
</TABLE>

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



                                      F-5
<PAGE>   27



                   SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES

                      CONSOLIDATED STATEMENT OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                               Year Ended          Year Ended
                                                                              September 30,       September 30,
                                                                                   1998               1997
                                                                              -------------       -------------
<S>                                                                            <C>                <C>
Cash flows from operating activities:
 Net (loss) income                                                             $  (822,000)       $   120,000
    Adjustments to reconcile net (loss) income to net cash
     used in operating activities:
       Depreciation and amortization                                               426,000            360,000
       Bad debt expense                                                            155,000                  -
       Deferred tax (benefit) expense                                             (287,000)            11,000
       Accrued restructuring                                                       485,000                  -
       Cash provided (used) by assets and liabilities:
         Accounts receivable                                                    (1,826,000)          (649,000)
         Unbilled contract costs                                                 2,417,000         (1,812,000)
         Inventories                                                                83,000            130,000
         Other current assets                                                       87,000            (59,000)
         Refundable and prepaid income taxes                                      (236,000)           (75,000)
         Other assets                                                                    -            (13,000)
         Accounts payable                                                         (387,000)         1,528,000
         Accrued expenses                                                         (612,000)          (457,000)
         Other                                                                     (47,000)             9,000
                                                                               -----------        ----------- 

NET CASH USED IN OPERATING ACTIVITIES                                             (564,000)          (907,000)
                                                                               -----------        ----------- 

CASH FLOWS FROM INVESTING ACTIVITIES:
 Acquisition expenses, net of cash acquired                                       (115,000)                 -
 Acquisitions of property and equipment                                           (365,000)          (462,000)
                                                                               -----------        ----------- 

NET CASH USED IN INVESTING ACTIVITIES                                          $  (480,000)       $  (462,000)
                                                                               -----------        ----------- 
</TABLE>

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



                                      F-6
<PAGE>   28


                    SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES

                CONSOLIDATED STATEMENT OF CASH FLOWS, CONTINUED

<TABLE>
<CAPTION>
                                                                                           Year Ended            Year Ended
                                                                                          September 30,         September 30,
                                                                                              1998                   1997
                                                                                          -------------         -------------
<S>                                                                                         <C>                   <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
 Net (payments) proceeds under line of credit                                               $(2,740,000)          $1,584,000
 Principal payments on mortgage debt                                                             (5,000)                   -
 Principal payments on capital lease obligations                                                (75,000)            (112,000)
 Net proceeds of private placement of common stock                                            3,777,000                    -
 Proceeds of stock option exercises                                                              59,000                    -
 Repurchase of common stock                                                                           -               (4,000)
                                                                                            -----------           ----------

NET CASH PROVIDED BY FINANCING ACTIVITIES                                                     1,016,000            1,468,000
                                                                                            -----------           ----------

NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS                                            (28,000)              99,000
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR                                                    140,000               41,000
                                                                                            -----------           ----------

CASH AND CASH EQUIVALENTS, END OF YEAR                                                      $   112,000           $  140,000
                                                                                            ===========           ==========

SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Equipment acquired with capital lease obligations                                           $   141,000                    -
                                                                                            ===========           ==========
Details of the Acquisition (Note 2)
    Fair value of assets acquired                                                           $ 3,929,000                    -
    Fair value of liabilities assumed                                                        (2,041,000)                   -
                                                                                            -----------           ----------
    Net assets acquired                                                                       1,888,000                    -
    Acquisition expenses                                                                       (131,000)                   -
                                                                                            -----------           ----------
    Stock issued in connection with the Acquisition                                         $ 1,757,000                    -
                                                                                            ===========           ==========

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:

    Cash paid for interest                                                                  $   177,000           $  310,000
                                                                                            ===========           ==========

    Cash paid for income taxes                                                              $    22,000           $  187,000
                                                                                            ===========           ==========
</TABLE>

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



                                      F-7
<PAGE>   29


                    SENSYS TECHNOLOGIES INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES:

Business Activities:
--------------------

Sensys Technologies Inc. and subsidiaries (the "Company") primarily designs,
develops, manufactures, and markets reconnaissance systems and related products
primarily through U.S. Government contracts. In addition, the Company designs
and manufactures airborne imaging systems.

Principles of Consolidation:
----------------------------

The consolidated financial statements include the accounts of Sensys
Technologies Inc. and its wholly owned subsidiaries. All intercompany
transactions have been eliminated in consolidation.

Cash and Cash Equivalents:
--------------------------

For purposes of the statement of cash flows, the Company considers all
unrestricted highly liquid debt instruments purchased with an original maturity
of three months or less to be cash equivalents.

Inventories:
------------

Inventories are stated at the lower of cost or market, determined on the
first-in, first-out basis.

Property and Equipment:
-----------------------

Property and equipment are recorded at cost and are depreciated over estimated
useful lives ranging from three to eight years using straight-line and double
declining balance methods. Leasehold improvements are amortized over the life of
the improvement or length of lease term, whichever is shorter using the
straight-line method. Amortization of leasehold improvements and capital lease
obligations are included in depreciation expense. The cost and accumulated
depreciation or amortization of assets sold or retired are removed from the
respective accounts and any gain or loss is reflected in other income
(expenses).

Revenue Recognition:
--------------------

The estimated revenue of performance under Government fixed-price and cost-type
contracts, including customer funded research and development, is recognized
under the percentage of completion method of accounting whereunder the estimated
revenue is determined on the basis of completion to date (the total contract
amount multiplied by percent of performance to date less



                                      F-8
<PAGE>   30

revenue value recognized in previous periods) and general and administrative
expenses are expensed as incurred. Revenues under cost-reimbursement contracts
are recorded as costs are incurred and include estimated earned fees in the
proportion that costs incurred to date bear to total estimated costs. The fees
under certain Government contracts may be increased or decreased in accordance
with cost or performance incentive provisions which measure actual performance
against established targets or other criteria. Such incentive fee awards or
penalties, which historically are not material, are included in revenue at the
time the amounts can be determined reasonably. Anticipated losses are recognized
at the time they become known. It is reasonably possible that future operating
results may be effected if actual contract costs incurred differ from total
contract costs currently estimated by management.

Research and Development:
-------------------------

Internally funded research and development costs are included in general and
administrative expenses in the consolidated statement of operations. The amount
of internally funded research and development costs expensed during 1998 and
1997 was $994,000 and $517,000, respectively.

Income Taxes:
-------------

The Company accounts for income taxes in accordance with Statement of Financial
Accounting Standards No. 109, "Accounting for Income Taxes." Deferred tax assets
and liabilities have been established for the temporary differences between
financial statement and tax bases of assets and liabilities existing at the
balance sheet date using expected tax rates. A valuation allowance is recorded
to reduce a deferred tax asset to that portion that is expected to more likely
than not be realized.

Use of Estimates:
-----------------

The preparation of financial statements requires management to make estimates
and assumptions that affect the reported amount of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
periods. Accordingly, actual results could differ from those estimates.

Operating Cycle:
----------------

In accordance with industry practice, the Company classifies as current assets
amounts relating to long-term contracts which may have terms extending beyond
one year but are expected to be realized during the normal operating cycle of
the Company. The liabilities in the accompanying balance sheets which have been
classified as current liabilities are those expected to be satisfied by the use
of assets classified as current assets. At September 30, 1998, substantially all
contracts will be completed within the next twelve months. Therefore,
substantially all current assets and current liabilities are expected to be
liquidated in the next twelve months.



                                      F-9
<PAGE>   31

Acquisitions:
-------------

The Company's acquisitions have been accounted for using the purchase method of
accounting. The results of operations for the periods since the date of
acquisition are included in the consolidated financial statements. Costs in
excess of net assets acquired are amortized on the straight-line method
principally over ten years. The Company regularly reviews the individual
components of the balances of all of its long term assets by analyzing the
future recoverability of the assets and recognizes, on a current basis, any
diminution in value.

Earnings Per Share:
-------------------

Effective December 31, 1997, the Company adopted Statement of Financial
Accounting Standards No. 128, Earnings Per Share. This Statement requires the
disclosure of basic and diluted earnings per share and revises the method
required to calculate these amounts under previous standards. Basic earnings per
share is computed using the weighted average number of common shares outstanding
during each period. Diluted earnings per share is computed using the weighted
average number of common and common equivalent shares outstanding during each
period. For the year ended September 30, 1998, the effect of shares issuable
upon exercise of stock options was excluded from the diluted (loss) earnings per
share calculation as their effect would have been antidilutive. The weighted
average shares outstanding were adjusted to reflect the conversion of S.T.
Research Corporation stock in connection with the Acquisition discussed in Note
2. The following summary is presented for the years ended:

<TABLE>
<CAPTION>
                                                                            September 30,
                                                                            -------------
                                                                  1998                        1997
                                                              -----------                  ----------
<S>                                                           <C>                          <C>
Net (loss) income                                             $  (822,000)                 $  120,000
Weighted average shares
   outstanding - basic                                          3,072,000                   1,867,000
Basic (loss) earnings per share                               $      (.27)                 $      .06

Effect of dilutive securities:
Shares issuable upon exercise of
   stock options                                                        -                      63,000
                                                              -----------                  ----------
Weighted average shares
   outstanding - diluted                                        3,072,000                   1,930,000
Diluted (loss) earnings per share                             $      (.27)                 $      .06
</TABLE>




                                      F-10
<PAGE>   32


NOTE 2 - ACQUISITIONS

On June 9, 1998, S.T. Research Corporation ("STR") acquired Daedalus
Enterprises, Inc. ("DEI") in an acquisition whereby the outstanding STR shares
were converted into approximately 86.5% of the issued and outstanding shares of
DEI (the "Acquisition"). As part of this overall transaction, DEI changed its
name to Sensys Technologies Inc. While DEI was the legal acquiror, the
Acquisition was accounted for as a reverse acquisition whereby STR was deemed to
have acquired DEI for financial reporting purposes. Consistent with the reverse
acquisition accounting treatment, the historical financial statements presented
for periods prior to the Acquisition date are the financial statements of STR
except for stockholders' equity which has been retroactively restated for the
equivalent number of shares of the legal acquiror. An adjustment has also been
made to adjust the par value with an offset to additional paid-in capital. The
operations of the former DEI business have been included in the financial
statements from the date of the Acquisition. In connection with the Acquisition,
the Company changed its fiscal year-end from July 31 to September 30 which was
the fiscal year end of STR.

The average market value of the DEI Common Stock for a reasonable period of time
before and after the announcement of the Acquisition determined the purchase
price for accounting purposes. The average market value of DEI stock used to
record the purchase was $3.25 per share and there were 540,751 shares issued and
outstanding at the Acquisition date. As a result, the aggregate value of the
stock used to record the purchase was approximately $1,757,000. In addition,
direct expenses of the purchase of $131,000 consisting of legal, accounting and
other fees were included in the recorded purchase price.

The Company recorded goodwill of $802,000 which will be amortized over a
ten-year period on a straight line basis. In addition, the Company repaid DEI's
existing note payable to its bank in the amount of $879,000. Goodwill
amortization expense for the year ended September 30, 1998 was approximately
$20,000.

The following unaudited pro forma information reflects the pro forma results of
operations of the Company and DEI for the years ended September 30, 1998 and
1997, assuming the companies had combined as of October 1, 1996.

<TABLE>
<CAPTION>
                                                                    1998                  1997
                                                                    ----                  ----
               <S>                                              <C>                   <C>
               Revenue                                          $22,884,000           $26,954,000
               Net (loss) income                                $(1,640,000)          $    56,000
               Basic and diluted (loss) earnings per share      $      (.45)          $       .02
</TABLE>

This pro forma information does not purport to be indicative of the results that
actually would have been obtained if the companies had been combined during the
periods presented and is not intended to be a projection of future results.




                                      F-11
<PAGE>   33


The purchase price of $1,888,000, including direct expenses, was allocated as
follows:

<TABLE>
<S>                                                           <C>
Current assets                                                $ 1,065,000
Property and equipment                                            562,000
Property held for sale                                          1,500,000
Goodwill                                                          802,000
                                                              -----------
Total assets                                                    3,929,000
Current liabilities, including debt                            (2,041,000)
                                                              ----------- 
                                                              $ 1,888,000
                                                              ===========
</TABLE>

At the Acquisition date, DEI had net operating loss carry forwards (NOLs) of
approximately $2,575,000 and tax credits of approximately $40,000. Except for
the amount of acquired NOLs and tax credits which can be used to offset a
built-in tax gain associated with property held for sale, the acquired NOLs and
tax credits are limited as to use under the current Internal Revenue Service Tax
Code. Therefore, the amount of acquired NOLs and tax credits, net of the
built-in tax gain associated with the property held for sale, have been fully
reserved through the recording of a valuation allowance. To the extent that the
reserved NOLs become realized, the corresponding tax benefit will be used to
reduce goodwill.

On January 17, 1997, the Company acquired a division of a corporation for an
aggregate purchase price of $110,000 plus liabilities assumed of $54,000. The
acquisition was accounted for as a purchase and has been included with
operations from the acquisition date. Pro forma results of operations would not
differ significantly from the Company's historical operating results.

The total purchase price of $164,000 was allocated as follows:

<TABLE>
<S>                                      <C>
Property and equipment                   $141,000
Prepaid expenses and deposits              23,000
                                         --------
Total                                    $164,000
                                         ========
</TABLE>

NOTE 3 - CASH HELD IN TRUST - RESTRICTED:

On January 1, 1990, the Company established a health and disability benefit plan
pursuant to the Employee Retirement Income Security Act of 1974 for employees
and their dependents. The Company funds the plan by making monthly contributions
to a trust established and administered by an independent third party. The
monthly contribution is based on a predetermined rate for each enrolled
employee. The excess contributions over claims are maintained in trust to cover
future claims of the enrolled employees. The Company may terminate the trust at
any time. Distribution of trust assets shall be determined by the Company. The
Company maintains individual claim and aggregate stop loss coverage. The Company
records a liability in the financial statements for known claims outstanding and
an estimate, based on prior experience, of incurred but not reported



                                      F-12
<PAGE>   34

claims in excess of amounts remaining in the trust fund. The trust cash account
had a balance of zero as of September 30, 1998 and 1997. The Company accrued a
liability of $151,000 and $144,000 at September 30, 1998 and 1997, respectively,
under its health and disability plan.

NOTE 4 - UNBILLED CONTRACT COSTS, NET:

Net unbilled contract costs consist of the following at September 30:

<TABLE>
<CAPTION>
                                                                 1998               1997
                                                                 ----               ----
         <S>                                                 <C>                 <C>
         Unbilled costs and accrued profit on
            contracts in progress                            $ 6,359,000         $12,128,000

         Progress payments                                    (2,533,000)         (5,930,000)
                                                             -----------         -----------

         Total                                               $ 3,826,000         $ 6,198,000
                                                             ===========         ===========
</TABLE>

Unbilled costs and accrued profit on contracts in progress comprise principally
amounts of revenue recognized on contracts for which billings had not been
presented to the contractor because the amounts were not billable at the balance
sheet date. It is anticipated such unbilled amounts receivable at September 30,
1998, will be billed over the next 270 days as products and/or services are
delivered. Retainages, which approximate $192,000 at September 30, 1998, will be
billed and collected as contracts are finalized with the contractor. As of
September 30, 1998 and 1997, there are no significant unrecovered costs or
estimated profits subject to future negotiation.

Receivables under certain Government contracts are based on provisional rates
that permit recovery of overhead not exceeding certain limits. These overhead
rates are subject to audit on an annual basis by the Defense Contract Audit
Agency (DCAA). When final determination and approval of the allowable rates have
been made, receivables may be adjusted accordingly. In management's opinion, any
adjustments will not be material. The DCAA has completed their audit of the
rates through September 30, 1996.

NOTE 5 - INVENTORIES:

Inventories consist of the following at September 30:

<TABLE>
<CAPTION>
                                                1998           1997
                                              --------       --------
            <S>                               <C>            <C>
            Materials                         $ 94,000       $107,000
            Work in process                    442,000          4,000
                                              --------       --------
                                              $536,000       $111,000
                                              ========       ========
</TABLE>




                                      F-13
<PAGE>   35


NOTE 6 - PROPERTY AND EQUIPMENT:

Property and equipment are summarized as follows at September 30:

<TABLE>
<CAPTION>
                                                              1998                  1997
                                                           -----------          -----------
<S>                                                        <C>                  <C>
Furniture and fixtures                                     $   123,000          $    96,000
Machinery and equipment                                      3,054,000            1,942,000
Leasehold improvements                                         400,000              317,000
Equipment capitalized under capital leases                     156,000              328,000
                                                           -----------          -----------
      Subtotal                                             $ 3,733,000          $ 2,683,000
Less accumulated depreciation
    and amortization                                       $(2,086,000)         $(1,751,000)
                                                           -----------          ----------- 
Total                                                      $ 1,647,000          $   932,000
                                                           ===========          ===========
</TABLE>

Depreciation and amortization expense was approximately $406,000 and $360,000
for the years ended September 30, 1998 and 1997, respectively.

NOTE 7 - PROPERTY HELD FOR SALE:

Property held for sale consists of land and a building acquired in connection
with the Acquisition. On December 1, 1998, the Company sold the property for
cash of approximately $1,575,000, with net proceeds of approximately $1,500,000
of which approximately $220,000 was used to pay off the mortgage balance. Under
terms of the sales agreement, the Company is leasing approximately fifty percent
of the facility for five years with a five year option. The annual rental
approximates $112,000 for each of the next five years for an aggregate amount of
$560,000.

NOTE 8 - NOTE PAYABLE - LINE OF CREDIT:

On September 30, 1998, the Company's line of credit with its bank was extended
to February 28, 1999. The amended agreement provides a maximum available line of
credit of $3,000,000. However, the total borrowing base generally cannot exceed
the sum of 90 percent of qualified Government accounts receivable and 80 percent
of qualified non-Government accounts receivable.

The bank agreement amendment establishes the interest rate at the bank's prime
(8.25 percent at September 30, 1998) plus .5 percent. The amendment also
contains various covenants as to dividend restrictions, working capital,
tangible net worth, earnings and debt-to-equity ratios. The Company expects to
renew the line of credit under similar terms and conditions.

The Company was not in compliance with the earnings and tangible net worth
covenants at September 30, 1998. In December 1998, the events of non-compliance
were waived, and the tangible net worth covenant was amended by the bank. The
Company believes that it will be able to comply with the covenants under the
line of credit, as amended, through the term of the agreement.



                                      F-14
<PAGE>   36

NOTE 9 - DEFERRED COMPENSATION:

The Company has a Non-Qualified Deferred Compensation Plan whereby employees may
defer compensation with such deferrals taking the status of a general obligation
of the Company. The balance bears interest at prime plus one half percent. The
principal amount of the balance is due to an employee Board member.

NOTE 10 - EMPLOYEE BENEFIT PLANS:

At September 30, 1998, the Company's sole qualified deferred compensation plan
("the Plan") consisted of two segments. The Plan is comprised of a 401(k) plan
and a profit sharing plan. Included in the Plan are the former DEI Defined
Contribution Pension Plan assets and the former S.T. Research Corporation ESOP
stock. In June, 1998, the Plan was amended to merge with the employee stock
ownership plan ("ESOP") segment. Upon the amendment, the right was afforded Plan
participants to liquidate their ESOP shares at market prices and self-direct the
proceeds acquired at market prices. Also, in June of 1998, the Plan was amended
to allow for self direction of profit sharing shares.

To participate in the Plan, eligible employees must have attained 21 years of
age. Eligible employees may elect to participate in the Company's 401(k) plan on
January 1 and July 1. In 1998, the Company matched 50 percent of the first six
percent of employee contributions, which amounted to $174,000. Matching
contributions for 1997 were $112,000.

Company contributions to the ESOP Plan totaled $118,000 in 1997. The Company did
not make an ESOP contribution in 1998. The Company did not make a contribution
to the profit sharing segment in 1998 or 1997.

The total number of Company shares allocated to participants under the profit
sharing plan at September 30, 1998 and 1997, including shares formerly in the
ESOP and 401(k) Plans, was 615,918 and 721,300, respectively.

NOTE 11 - MORTGAGE PAYABLE:

The Company has a mortgage bearing interest at prime (8.25% at September 30,
1998) plus 1.5%, with a balance of $220,000 as of September 30, 1998. The
mortgage was associated with the property held for sale and was paid in full on
December 1, 1998, in connection with the sale of the property.

NOTE 12 - LEASE COMMITMENTS:

Operating Leases:
-----------------

The facilities at the Company's principal location have been leased from
partnerships (related parties) in which an officer, employees and stockholders
of the Company are partners. The risk and rewards associated with the facilities
and the obligations imposed by the partnerships' debt and other general
obligations reside with the partnerships. In 1993, the Company entered into a 
letter agreement to extend the lease commitment for 80% of its principal 
location through December 31, 1998. In 1995, the Company entered into a
separate agreement to



                                      F-15
<PAGE>   37

extend the lease on the remaining 20% of its principal location to December 14,
1998. On December 15, 1998, the Company entered into rolling six month leases
for these facilities effective upon the expiration of the respective leases.
These six month leases can be terminated by the parties upon the Company
finalizing a lease agreement with a prospective buyer for these facilities.

On September 2, 1998, the Company entered into a sales agreement for the
property held for sale. A condition of the sales agreement was to enter into a
five year lease for 50% of the facility. Effective with the sale of the
property, on December 1, 1998, the Company entered into a five year lease
agreement with a five year option.

In connection with an acquisition (Note 2), the Company assumed a facility lease
used in the operations of the acquired business. The terms of the lease provide
for annual minimum lease payments of $172,000 plus operating expenses through
April 30, 2003. On November 9, 1998, in accordance with the terms of the lease,
the Company notified the landlord of its intent to terminate the lease effective
December 31, 1998.

The Company leases various equipment under noncancellable operating leases.

Rent expense for the years ended September 30, 1998 and 1997 was $852,000 and
$759,000, respectively, which included $419,000 associated with leases from
related parties in both 1998 and 1997. As of September 30, 1998, minimum rental
payments under operating leases for facilities and equipment are as follows:

<TABLE>
<CAPTION>
                                     Related Party         Third Party
                                     -------------         -----------
               <S>                        <C>              <C>        
               1999                       $105,000         $   556,000
               2000                              -             490,000
               2001                              -             449,000
               2002                              -             411,000
               2003                              -             334,000
               Remainder                         -              25,000
                                          --------          ----------
               Total                      $105,000          $2,265,000
                                          ========          ==========
</TABLE>

The Company subleases a portion of its facility at its principal location. As of
September 30, 1998, minimum rentals to be received under the sublease through
1999 are $19,000.

Capital Leases:
---------------

At September 30, 1998 and 1997, the Company was obligated under capital leases
for equipment having an aggregate book value of $156,000 and $328,000,
respectively. The following schedule summarizes the future minimum lease
payments:



                                      F-16
<PAGE>   38

<TABLE>
<CAPTION>
         Years Ending September 30,                                1998
         --------------------------                                ----
         <S>                                                     <C>
         1999                                                    $ 65,000
         2000                                                      50,000
         2001                                                      50,000
         2002                                                      13,000
         2003                                                           - 
                                                                 --------
         Subtotal                                                 178,000
         Less amount representing interest                        (21,000)
                                                                 --------
         Present value of minimum lease obligations               157,000
         Less current portion                                     (53,000)
                                                                 --------

         Capital leases payable - long-term portion              $104,000
                                                                 ========
</TABLE>

NOTE 13 - STOCK ISSUANCE

On January 30, 1998, the Company completed a private placement, whereby it
issued 582,000 shares of common stock. The common stock was issued for cash of
$6.50 per share for aggregate proceeds of $3,783,000. When restated for the
exchange ratio used in the Acquisition of 2.58 shares, the equivalent number of
shares issued was 1,501,560 and the issuance price was $2.52. The proceeds were
used to repay outstanding bank borrowings under the Company's line of credit.

NOTE 14 - STOCK OPTIONS:

The Company has an Incentive Stock Option Plan established in 1983 ("1983
Plan"), and a Long-Term Incentive Plan and a Non-Employee Director Stock Option
Plan established in 1995 (collectively the "1995 Plans"). The Long-Term
Incentive Plan provides for the granting of options, restricted stock and/or
performance awards to key employees and the Non-Employee Director Stock Option
Plan provides for the granting of options to outside members of the Board of
Directors to purchase common stock of the Company at the fair market value at
the date of the grant. As of September 30, 1998, there were 720,000 and 21,000
shares of common stock reserved under the Long-Term Incentive Plan and the
Non-Employee Director Stock Option Plan, respectively. There are 38,975
exercisable options outstanding at September 30, 1998 in the Long-Term Incentive
Plan. There are no exercisable options or stock appreciation rights outstanding
under the 1983 Plan at September 30, 1998. No additional options can be granted
under the 1983 Plan. The Non-Employee Director Stock Option Plan was amended
effective with the Acquisition to prohibit future granting of options.

The Company also has a 1991 Stock Option Plan, the ("1991 Plan") and a 1996
Stock Option Plan, the ("1996 Plan"). The 1991 Plan has 25,800 exercisable
shares that are outstanding. The 1996 Plan has 41,280 shares outstanding of
which 31,992 are exercisable.

Options under all of the aforementioned Plans generally vest over a three to
five year period and expire after ten years.


                                      F-17
<PAGE>   39

Stock option activity is summarized as follows:

<TABLE>
<CAPTION>
                                       1983         Weighted Average            1995         Weighted Average
                                       Plan          Exercise Price             Plans         Exercise Price
                                       ----          --------------             -----         --------------
<S>                                  <C>             <C>                        <C>           <C>
Balance at Sept. 30, 1996             28,000               $3.87                22,500               $3.23
   Granted                                 -                   -                16,850                2.25
   Expired                                 -                   -                     -                   -
   Forfeited                               -                   -                     -                   -
Balance at Sept. 30, 1997             28,000                3.87                39,350                2.81
   Exercised                         (25,000)               4.00                     -                   -
   Granted                                 -                   -                     -                   -
   Expired                            (3,000)               2.75                 (375)                2.25
   Forfeited                               -                   -                     -                   -
Balance at Sept. 30, 1998                  -                   -                38,975                2.82
</TABLE>

<TABLE>
<CAPTION>
                                       1991         Weighted Average            1996         Weighted Average
                                       Plan          Exercise Price             Plan          Exercise Price
                                       ----          --------------             ----          --------------
<S>                                  <C>            <C>                        <C>            <C>
Balance at Sept. 30, 1996            113,520               $1.19                15,480               $3.37
   Granted                                 -                   -                46,440                3.34
   Expired                           (10,320)               1.52                     -                   -
   Forfeited                         (25,800)               1.58                     -                   -
Balance at Sept. 30, 1997             77,400                1.01                61,920                3.35
   Exercised                         (51,600)               1.14                     -                   -
   Granted                                 -                   -                     -                   -
   Expired                                 -                   -                     -                   -
   Forfeited                               -                   -               (20,640)               3.31
Balance at Sept. 30, 1998             25,800                0.75                41,280                3.37
</TABLE>

Total shares of common stock reserved pursuant to the aforementioned Plans are
151,055.

The weighted average grant date fair value of options granted during 1997 was
$4.60 for the 1996 Plan and $1.03 for the 1995 Plans. There were no options
granted in 1998.

The Black-Scholes model was used to estimate the fair value of the options.
Significant assumptions include a risk-free interest rate of 7.5 percent and an
expected life equal to the term of the options.



                                      F-18
<PAGE>   40



The following summarizes information about stock options outstanding at
September 30, 1998:

<TABLE>
<CAPTION>
                                              1998
                                             Number               Range of            Weighted Average
                                           Outstanding        Exercises Prices         Remaining Life
                                           -----------        ----------------         --------------
<S>                                        <C>                <C>                      <C>
1983 Option Plan                                  -                         -                     -
1995 Option Plans                            38,975            $2.25 to $3.94             4.4 years
1991 Option Plan                             25,800                     $0.75             2.3 years
1996 Option Plan                             41,280                     $3.37             8.1 years
                                            -------
                                            106,055            $0.75 to $3.94                     -
                                            =======
</TABLE>

The Company does not recognize compensation costs for its stock option plan in
the determination of net income. Had compensation costs been determined based on
the fair value at the grant dates for awards under the plan, the Company's net
income and earnings per share would have been reduced to the pro forma amounts
indicated below for the years ended September 30, 1998 and 1997:

<TABLE>
<CAPTION>
                                             Basic and diluted
                                                  (loss)
                                                 earnings
                           Net income            per share
                           ----------            ---------
<S>                        <C>                   <C>
1998:
As reported                 $(822,000)             $(.27)
Pro forma                   $(822,000)             $(.27)

1997:
As reported                 $ 120,000              $ .06
Pro forma                   $ 114,000              $ .06
</TABLE>

On October 5, 1998, the Compensation Committee of the Board of Directors
approved the award of 414,000 options at $3.00 per share.

NOTE 15 - STOCK PURCHASE PLAN:

The Company reserved 100,000 shares of common stock for sale to eligible
employees through payroll deductions over six month periods pursuant to the 1983
Employee Stock Purchase Plan (the "Purchase Plan"). The purchase price is the
lower of 90% of the fair market value of the stock on



                                      F-19
<PAGE>   41


the first or last day of the purchase period. Under the Purchase Plan, zero and
1,350 shares were issued in 1998 and 1997, at an average price in 1997 of $2.16.
At September 30, 1998 and 1997, there were 64,468 shares available for future
purchase.

NOTE 16 - RESTRUCTURING  COSTS

During fiscal 1998, the Company recorded nonrecurring charges of $1,096,000 in
connection with the ongoing restructuring of the Company's operations. The
restructuring will combine, integrate, and reengineer Company's processes,
policies and procedures. Costs incurred consisted primarily of severance costs
and other employee benefits, professional fees and relocation expenses. Total
restructuring costs included in other accrued expenses at September 30, 1998 was
$485,000.

NOTE 17 - INCOME TAXES:

The income tax provision (benefit) for the years ended September 30, 1998 and
1997 consisted of the following:

<TABLE>
<CAPTION>
                                 1998                1997
                               ---------           -------
<S>                            <C>                 <C>
  Current:
     Federal                   $(163,000)          $51,000
     State                       (40,000)           10,000
  Deferred:
     Federal                    (242,000)           10,000
     State                       (45,000)            1,000 
                               ---------           -------

                               $(490,000)          $72,000
                               =========           =======
</TABLE>

The Company's deferred tax assets by tax jurisdiction are as follows:

<TABLE>
<CAPTION>
                                       September 30,
                                       -------------
                                  1998               1997
                                --------           --------
             <S>                <C>                <C>
             Federal            $442,000           $221,000
             State                82,000             43,000
                                --------           --------

             Total              $524,000           $264,000
                                ========           ========
</TABLE>




                                      F-20
<PAGE>   42


Deferred tax assets and liabilities consist of the following:

<TABLE>
<CAPTION>
                                                               September
                                                         1998             1997
                                                      ----------        --------
             <S>                                      <C>               <C>
             Deferred compensation                    $  121,000        $111,000
             Accrued vacation                            127,000         134,000
             Property held for sale                     (287,000)              -
             Net operating losses and tax credits      1,294,000               -
             Other, net                                    1,000          19,000
                                                      ----------        --------
                Sub-total                             $1,256,000        $264,000
             Less:  Valuation allowance                 (732,000)              -
                                                      ----------        --------
                                                      $  524,000        $264,000
                                                      ==========        ========
</TABLE>

The provision (benefit) for income taxes from income (loss) from continuing
operations in 1998 and 1997 varied from the U.S. statutory rate for the
following reasons:

<TABLE>
<CAPTION>
                                                                   1998           1997
                                                                   ----           ----
  <S>                                                           <C>            <C>
  Federal statutory rate                                           34.0%          34.0%
  State income taxes, net of federal tax benefit                    4.0            4.0
  Other, net                                                        (.7)           (.5)
                                                                   ----           ---- 

                                                                   37.3%          37.5%
                                                                   ====           ==== 
</TABLE>

As a result of limitations under the Internal Revenue Service Tax Code and
uncertainties as to the Company's ability to generate sufficient taxable income
in future periods, a portion of the NOLs acquired in the Acquisition have been
reserved through a valuation allowance. To the extent that the reserved NOLs
become realized, the corresponding tax benefits will be used to reduce goodwill.

The Company's available net operating loss carryforwards and tax credits will 
expire from 2009 through 2018.

NOTE 18 - CONCENTRATIONS OF CREDIT RISK:

As of September 30, 1998 and 1997, the Company had funds on deposit in excess of
the federally insured amount with NationsBank. Approximately 96 percent of the
Company's revenues are generated from contracts with U.S. Government agencies or
U.S. Government contractors.

NOTE 19 - RELATED PARTY TRANSACTIONS

Related party transactions related to facility leases are disclosed in Note 12.
In addition, the Company entered into agreements with a corporation in which
certain of the principals were related to an officer of the Company's
predecessor, S.T. Research Corporation. The customer was placed into
receivership and did not possess the financial capacity to pay the Company
thereby resulting in bad debt losses of $155,000 in 1998. The total revenue
recognized from these agreements during fiscal years



                                      F-21
<PAGE>   43
1998 and 1997 was approximately $110,000. The balance of the bad debt losses
related to equipment which was purchased for the agreements and sold to the
customer.

NOTE 20 - FAIR VALUES OF FINANCIAL INSTRUMENTS:

Based on existing rates, economic conditions and the short maturities, the
carrying amounts of all the financial instruments at September 30, 1998 and 1997
are reasonable estimates of their fair values. The Company's financial
instruments include cash and cash equivalents, accounts receivable, the note
payable - line of credit, accounts payable and the capital lease obligations.

NOTE 21 - NEW ACCOUNTING PRONOUNCEMENTS:

In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards (SFAS) No. 129, "Disclosure of
Information about Capital Structure," for fiscal years ending after December 15,
1997. The provisions of SFAS No. 129 established standards for disclosing
information about an entity's capital structure.

In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income,"
and SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," for fiscal years beginning after December 15, 1997. The provisions
of SFAS No. 130 establish standards for reporting and display of comprehensive
income and its components in the financial statements. This statement requires
all items that are required to be recognized under accounting standards as
components of comprehensive income be reported in the financial statements and
displayed with the same prominence as other financial statements. The provisions
of SFAS No. 131 establish standards for the way that enterprises report
information about operating segments in annual financial statements and required
that selected information about operating segments in interim financial
statements be reported. It also establishes standards for related disclosure
about products and services, geographic areas, and major customers.

In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits". This statement significantly
changes current financial statement disclosure requirements from earlier
statements. Some of the more significant effects of SFAS No. 132 which will
affect the Company's disclosures are that it:

         (1)      standardizes the disclosure requirements for pensions and
                  other postretirement benefits and presents them in one
                  footnote;
         (2)      requires that additional information be disclosed regarding
                  changes in the benefit obligation and fair values of plan
                  assets; 
         (3)      eliminates certain disclosures that are no longer considered
                  useful, including general descriptions of the plans and;
                  revises disclosures about defined-contribution plans.

On June 15, 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". SFAS No. 133 establishes a new model for
accounting for derivatives and hedging. The new standard requires enhanced
disclosure of accounting policies for derivative financial instruments and
derivative commodity instruments in the footnotes to the financial statements.
In addition, the standard expands disclosure requirements to include
quantitative and qualitative information about market risk inherent in market
risk sensitive instruments.


                                      F-22
<PAGE>   44
The Company has adopted SFAS No. 129 for the fiscal year ended September 30,
1998, and will adopt SFAS Nos. 130, 131, and 132 beginning October 1, 1998. The
Company will adopt Statement No. 133 effective October 1, 1999. The Company
believes that the adoption of these statements will not have a material effect
on the Company's consolidated financial position or results of operations.

NOTE 22 - EXPORT SALES/FOREIGN OPERATIONS:

The Company had export sales to various countries which amounted to $335,000 and
$2,843,000 in 1998 and 1997, respectively. The Company has no foreign
operations.

                                      F-23
<PAGE>   45


SIGNATURES
----------

       Pursuant to the requirement of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this Form 10-KSB to be
signed on its behalf by the undersigned, thereunto duly authorized.

                                    SENSYS TECHNOLOGIES INC.
                                    (Registrant)

                                    By: /s/ S. Kent Rockwell
                                       ----------------------------------------
                                        S. Kent Rockwell
                                        Chief Executive Officer and
                                        Vice Chairman of the Board of Directors
                                        (principal executive officer)

Date: December 28, 1998




                                       22
<PAGE>   46


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

          Signature                                  Title

/s/ S.R. Perrino                              Chairman of the Board of Directors
---------------------------------
S.R. Perrino
Date:  December 28, 1998


/s/ Robert R. Bower                           Sr. Vice President, CFO
---------------------------------              and Treasurer
Robert R. Bower
Date:  December 28, 1998


/s/ Admiral James B. Busey, Jr                Director
---------------------------------
Admiral James B. Busey, Jr.
Date:  December 28, 1998

/s/ Charles Bernard                           Director
---------------------------------
Charles Bernard
Date:  December 28, 1998


/s/ Thomas R. Ory                             Director
---------------------------------
Thomas R. Ory
Date:  December 28, 1998


/s/ Philip H. Power                           Director
---------------------------------
Philip H. Power
Date:  December 28, 1998


/s/ John D. Sanders                           Director
---------------------------------
John D. Sanders
Date:  December 28, 1998





                                       23
<PAGE>   47


                                INDEX TO EXHIBITS

Exhibit No.                        Description
-----------                        -----------

2.1      Agreement and Plan of Merger, dated as of December 23, 1997 by and
         among the Company, DEI Merger Sub, Inc. and S.T. Research Corporation
         (incorporated by reference to Exhibit 2.1 to Form 8-K filed with the
         Securities and Exchange Commission on December 29, 1997, File No.
         000-08193).

3.1      Amended and Restated Certificate of Incorporation (incorporated by
         reference to Exhibit 3.1 to Form 8-K filed with the Securities and
         Exchange Commission on June 15, 1998, File No. 000-08193).

3.2      By-Laws, as amended (filed herewith)

4.1      Specimen Stock Certificate for Common Stock (filed herewith)

10.1     Sensys Technologies Inc. Long-Term Incentive Plan, as amended
         (incorporated by reference to the registration statement filed on Form
         S-8 filed with the Securities and Exchange Commission on October 5,
         1998, Registration No. 333-65351).

10.2     Form of Incentive Stock Option Agreement under Long-Term Incentive Plan
         (filed herewith)

10.3     1996 Employee Incentive Stock Option Plan of S.T. Research Corporation
         (filed herewith)

10.4     1996 Director Incentive Stock Option Plan of S.T. Research Corporation
         (filed herewith)

10.5     1991 Incentive Stock Option Plan of S.T. Research Corporation (filed
         herewith)

10.6     Non-Qualified Stock Option Agreement with Mr. Thomas R. Ory, dated
         November 8, 1989 (filed as exhibit 10.607 to the 1993 Form 10-K and
         incorporated herein by reference)

10.7     Non-Qualified Stock Option Agreement with Mr. Charles G. Stanich, dated
         November 8, 1989 (filed as exhibit 10.608 to the 1993 Form 10-K and
         incorporated herein by reference)

10.8     Stock Option Agreement with Charles Bernard (filed herewith)



                                       24
<PAGE>   48



Exhibit No.                        Description
-----------                        -----------

10.9     Stock Option Agreement with John Sanders (filed herewith)

10.10    Stock Option Agreement with Robert R. Bower (filed herewith)

10.11    Sensys Technologies Inc. 401(k) Profit Sharing Plan (filed herewith)

10.12    Employment Agreement with Thomas R. Ory  (filed herewith)

10.13    Employment Agreement with Charles Stanich  (filed herewith)

10.14    Credit Line Agreement with NationsBank, N.A. (filed herewith)

10.15    Lease dated December 1, 1985 for premises in Newington, Virginia
         (filed herewith)

10.16    Lease dated December 11, 1989 for premises in Newington, Virginia 
         (filed herewith)

10.17    Lease dated August 24, 1998 for premises in Newington, Virginia
         (filed herewith)

10.18    Lease dated December 1, 1998 for premises in Ann Arbor, Michigan
         (filed herewith)

10.19    Agreement for the sale of real estate located at 300 Parkland Plaza,
         Ann Arbor, Michigan, dated December 1, 1998 (filed herewith)

10.20    Agreement with Donald Reiser (filed herewith)

27       Financial Data Schedule (filed herewith)



                                       25