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                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON, DC 20549

                                 AMENDMENT NO. 1
                                       TO
                                    FORM 10-K

                        FOR ANNUAL AND TRANSITION REPORTS
                     PURSUANT TO SECTIONS 13 OR 15(d) OF THE
                         SECURITIES EXCHANGE ACT OF 1934
(Mark One)

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

         For the fiscal year ended DECEMBER 31, 2005.

                                       OR

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

         For the transition period from ____________ to _____________

                         Commission file number: 1-10346

                               EMRISE CORPORATION
             (Exact name of registrant as specified in its charter)

              DELAWARE                                       77-0226211
   (State or other jurisdiction of                       (I.R.S. Employer
    incorporation or organization)                      Identification No.)

9485 HAVEN AVENUE, SUITE 100, RANCHO CUCAMONGA, CALIFORNIA          91730
         (Address of principal executive offices)                 (Zip Code)

       Registrant's telephone number, including area code: (909) 987-9220

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

 Title of Each Class                  Name of Each Exchange on Which Registered
 -------------------                  -----------------------------------------
 COMMON STOCK, $0.0033 PAR VALUE      NYSE ARCA

           Securities registered pursuant to Section 12(g) of the Act:
                                      NONE
                                (Title of class)

     Indicate by check mark if the registrant is a well-known seasoned issuer,
as defined in Rule 405 of the Securities Act.  Yes [ ]  No [X]
     Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act.  Yes [ ]  No [X]
     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 [ ]  No [X]
     Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K 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 this Form 10-K or any amendment to this
Form 10-K. [X]
     Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).  Yes [ ]  No [X]
     Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).  Yes [ ]  No [X]
     The aggregate market value of the voting common equity held by
nonaffiliates of the registrant, computed by reference to the $1.03 closing sale
price of such stock on June 30, 2006, the last business day the registrant's
most recently completed second fiscal quarter, was approximately $37,981,000.
The registrant has no non-voting common equity.
     The number of shares of the registrant's common stock, $0.0033 par value,
outstanding as of December 14, 2006 was 38,081,750.

     DOCUMENTS INCORPORATED BY REFERENCE:  None.
================================================================================


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<TABLE>
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                                                 TABLE OF CONTENTS
                                                 -----------------

                                                                                                               Page
                                                                                                               ----

                                                       PART I

Item 1.    Business...............................................................................................1

Item 1A.   Risk Factors..........................................................................................15

Item 1B.   Unresolved Staff Comments.............................................................................20

Item 2.    Properties............................................................................................21

Item 3.    Legal Proceedings.....................................................................................21

Item 4.    Submission of Matters to a Vote of Security Holders...................................................22

                                                      PART II

Item 5.    Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
            Securities...........................................................................................23

Item 6.    Selected Financial Data...............................................................................24

Item 7.    Management's Discussion and Analysis of Financial Condition and Results of Operations.................25

Item 7A.   Quantitative and Qualitative Disclosures About Market Risk............................................50

Item 8.    Financial Statements and Supplementary Data...........................................................51

Item 9.    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure..................52

Item 9A.   Controls and Procedures...............................................................................54

Item 9B.   Other Information.....................................................................................56

                                                      PART III

Item 10.   Directors and Executive Officers of the Registrant....................................................57

Item 11.   Executive Compensation................................................................................60

Item 12.   Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters........67

Item 13.   Certain Relationships and Related Transactions........................................................69

Item 14.   Principal Accountant Fees and Services................................................................70

                                                      PART IV

Item 15.   Exhibits and Financial Statement Schedules............................................................71

Index to Financial Statements and Financial Statement Schedule..................................................F-1

Signatures ......................................................................................................78

Exhibits Attached to This Report.................................................................................79


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                                     PART I

ITEM 1.    BUSINESS.

OVERVIEW

         We are a leading supplier of timing and synchronization systems, rotary
and digital switches, electronic power supplies and radio frequency, or RF,
devices. We sell our products to communications service providers, defense and
aerospace contractors and industrial customers. We are a multinational company
operating out of facilities located in the United States, United Kingdom, France
and Japan. As of November 30, 2006, we had approximately 300 employees.

         We are a Delaware corporation that was formed July 14, 1989. We have
three wholly-owned operating subsidiaries, EMRISE Electronics Corporation, a New
Jersey corporation that was formed in 1983 ("EMRISE Electronics"), CXR Larus
Corporation, a Delaware corporation that was formed in 1984 ("CXR Larus"), and
CXR-Anderson Jacobson, a French company that was formed in 1973 ("CXR-AJ").

         In December 2004, CXR Larus changed its name from CXR Telcom
Corporation when it succeeded by merger to the assets and liabilities of Larus
Corporation, a San Jose, California-based manufacturer and seller of
telecommunications products, and Vista Labs, Incorporated, a subsidiary of Larus
Corporation that provided engineering services to Larus Corporation. As
described in more detail elsewhere in this report, we acquired Larus Corporation
and Vista Labs, Incorporated in July 2004.

         In March 2005, EMRISE Electronics Ltd. ("EEL"), a United Kingdom-based
subsidiary of EMRISE Electronics, acquired Pascall Electronic (Holdings) Limited
("PEHL") and its wholly-owned subsidiary, Pascall Electronics Limited
("Pascall"). Pascall is based in the United Kingdom and manufactures a range of
custom proprietary power systems and radio frequency ("RF") devices.

         In September 2005, EMRISE Electronics acquired all of the outstanding
common stock of RO Associates Incorporated ("RO"), a manufacturer of standard
power supplies located in Sunnyvale, California.

         Through our operating subsidiaries, CXR Larus, CXR-AJ and EMRISE
Electronics, and through the divisions and subsidiaries of those subsidiaries,
we design, develop, manufacture, assemble, and market products and services in
the following two material business segments:

         o        Electronic Components

                  --       digital and rotary switches

                  --       electronic power supplies

                  --       RF and microwave devices

         o        Communications Equipment

                  --       network access and transmission products

                  --       communication timing and synchronization products

                  --       communications test instruments


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<PAGE>

         Our sales are primarily in North America, Europe and Asia. Sales to
customers in the electronic components segment, primarily to defense and
aerospace customers, defense contractors and industrial customers were
approximately 62.6%, 51.1%, and 63.4% of our total net sales during 2005, 2004
and 2003, respectively. Sales of communications equipment and related services,
primarily to private customer premises and public carrier customers, were
approximately 37.4%, 48.9% and 36.6% of our total net sales during 2005, 2004
and 2003, respectively.

         Our objective in our electronic components business is to become the
supplier of choice for harsh environment, high reliability digital and rotary
switches, custom and standard power supplies and RF and microwave products and
subsystems. Our objective in our communications equipment business is to become
a leader in quality, cost effective solutions to meet the requirements of
communications equipment customers. We believe that we can achieve these
objectives through customer-oriented product development, superior product
solutions, and excellence in local market service and support.

INDUSTRY OVERVIEW

      ELECTRONIC COMPONENTS

         The electronic components industry comprises three basic segments,
which are active components, passive components and electromechanical
components. We compete in the active and electromechanical segments of this
industry. These segments can be further segmented by industry into
telecommunications, aerospace, defense, commercial, industrial and other
environments, each of which places constraints that define performance and
permitted use of differing grades of components.

         We are active only in the industry segments that are characterized by
harsh environment, high reliability, low volume, high margin and long
lead-times, namely the aerospace, defense and industrial segments. To support
the myriad customers that rely on digital and rotary switches and electronic
power supplies and RF devices, we believe that our electronic components must
offer high levels of reliability and in many cases must be tailored to the size,
appearance, functionality and pricing needs of each particular customer.

         The defense market, which is a predominant market for our electronic
components, makes use of sophisticated electronic assemblies in diverse
applications that involve both original equipment and retrofit of existing
equipment.

         The Digitran division of EMRISE Electronics ("Digitran"), which EMRISE
Electronics acquired from Becton Dickinson in 1985, has been manufacturing
digital switches since the 1960s. XCEL Power Systems, Ltd. ("XPS"), a
second-tier subsidiary of EMRISE Electronics, has been manufacturing electronic
power supplies since 1989. Pascall was formed in 1977.

      COMMUNICATIONS EQUIPMENT

         Over the past decade, telecommunications and data communications
infrastructures have undergone significant growth and have become a critical
part of the global business and economic infrastructure that has been driven by
the following:

         o        a surge in demand for broadband access used to conduct
                  e-commerce activities and transmit growing volumes of data,
                  voice and video information;

         o        the adoption of Internet protocol, or IP, which is a protocol
                  developed to enable the transmission of information as packets
                  of data from a source to a recipient using dynamically
                  changing routes, with the data being reassembled at the
                  recipient's location into the original information format; and


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         o        an apparent worldwide trend toward deregulation of the
                  communications industry, which has enabled a large number of
                  new communications service providers to enter the market.

         This rapid growth has been succeeded by a period of consolidation.
Private and corporate communications providers and other businesses that rely
heavily on information technology continue to devote significant resources to
the purchase of network access and transmission equipment, such as high-speed
DSL and fiber optic modems, through which data and voice information may be
transmitted.

         To support the rapidly changing needs of telecommunications companies
and information technology dependent businesses, we believe that network access
and transmission products and communications test instruments must offer high
levels of functional integration, automation and flexibility to operate across a
variety of network protocols, technologies and architectures. Because the
competition for subscribers for high-speed bandwidth access is intense, the
quality and reliability of network service has become critical to
telecommunications companies due to the expense, loss of customers and negative
publicity resulting from poor service. Quality and reliability of network
service are also important to information technology dependent businesses that
rely on broadband high-speed data links for a variety of purposes.

         Technicians who use service verification test equipment in the field or
in central or branch offices assist businesses in verifying and repairing
service problems effectively and, thus, increase the quality and reliability of
their networks. We believe that as broadband services are deployed further and
as competition for telecommunications subscribers and e-commerce customers
proliferates, telecommunications companies and other information
technology-reliant businesses will increasingly depend on new and improved
integrated access transmission devices and advanced field and central or branch
office testing and monitoring solutions.

OUR SOLUTION

         We have developed a range of electronic components, including digital
and rotary switches, custom and standard electronic power supplies and RF
devices, used primarily by aerospace, defense and industrial customers.

         We have developed and we manufacture and market various network access
and transmission devices used by businesses and other users to efficiently
transmit data, voice and video information to destinations within and outside of
their respective networks.

         We have developed and we manufacture and market a select range of test
instruments used by operators of telecommunications networks for the
installation, maintenance and optimization of communications networks.

         We have developed and we manufacture and market a range of
communication timing and synchronization products used by operators of public
and private telecommunications networks to provide a consistent source of timing
alignment, or synchronization, for digital networks.

         Our extensive knowledge and understanding of our customers' needs,
together with the broad capabilities of our network access and transmission
products, test instrumentation products and our sophisticated electronic
components, enable us to provide the following features and benefits to our
customers:


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         DEVELOPMENT OF NEW SWITCH TECHNOLOGY. We have complemented our
long-established range of digital switch products with a new range of
space-saving rotary switches we refer to as VLP(R), which are very low profile
switches. These products have been specifically designed to target harsh
environment and aerospace applications where space is at a premium, providing a
substantial advantage over larger, heavier switches offered by our competitors.
We have secured one patent and a number of other patents are pending relating to
this technology.

         PROVISION OF RF DEVICES. We have developed and provide a range of RF
devices that meet the requirements of defense, aerospace and industrial
applications.

         DEVELOPMENT AND PROVISION OF COMMUNICATION TIMING AND SYNCHRONIZATION
EQUIPMENT. We have extended the existing range of communication timing and
synchronization products with a new range of equipment designed specifically to
target the telephone company market in addition to private networks.

         PROVISION OF MORE EFFICIENT AND COST-EFFECTIVE POWER SYSTEMS. We have
developed and we provide custom and standard high and low voltage power systems
that are highly integrated within the application hardware, which minimizes
cost, space and complexity and maximizes overall system reliability and
efficiency. We believe that our ability to partner with major international
defense contractors and to provide power systems solutions based on both
standard modules and custom designs provides us with an important competitive
advantage.

         BROAD RANGE OF NETWORK ACCESS AND TRANSMISSION PRODUCTS FOR A WIDE
RANGE OF APPLICATIONS. We have developed a broad range of professional grade
network access and transmission products capable of connecting to a wide range
of remote monitoring devices and equipment. Many of these products are designed
to operate in extended temperatures and harsh environments and meet specific
requirements such as data speeds, data interfaces, power inputs, operating
temperatures, data formats and power consumption. In addition, our desktop and
rack mount transmission product lines allow us to serve both central site data
communications needs and remote access and transmission sites on both the
enterprise-wide and single location level.

         COMPREHENSIVE CONNECTIVITY. Our network access and transmission
products and communications test instruments are the result of significant
product research and engineering and are designed to connect to a broad range of
operation configurations and to connect over a wide range of prevailing
transmission conditions. Our products incorporate a wide range of standard
international connectivity protocols as well as proprietary protocols.

         CUSTOMER-DRIVEN FEATURES. Most of our digital and rotary switches and
each of our power supplies are highly tailored to our customers' needs. We
manufacture digital and rotary switches for insertion into new equipment as well
as for retrofit into existing equipment. Our engineers continually interact with
our customers during the design process to ensure that our electronic components
are the best available solution for them. For example, based on specifications
from our customers, we delivered a compact multiple output power supply to allow
BAE Systems to produce a single-heads up display suitable for fitting on a large
range of commercial and military aircraft.

         HANDHELD DESIGN OF FIELD TEST EQUIPMENT. The compact, lightweight
design of these products enables field technicians to access problems and verify
line operation quickly.

         CUSTOMER RELATIONS. Our electronic components business currently enjoys
a preferred supplier status with many key accounts, which means that we work in
close association with the customer to develop custom products specifically
addressing their needs. Our electronic components also are considered qualified
products with many key accounts, which mean that our products are designed into
equipment specifications of many of our customers for the duration of their
production of their equipment.


                                       4


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         LONG-TERM RELATIONSHIPS. Market procurement methods encourage long-term
relationships between electronic components suppliers and customers, with
customers committing to a single source of supply because of the high cost
involved in qualifying a product or its alternative for use. For example, a
large proportion of XPS' and Digitran's products are qualified products that
have been involved in many hours of flight trials.

OUR STRATEGY

         Our objectives are to become the supplier of choice for harsh
environment switches, RF devices and custom and standard power supplies in the
aerospace, defense and industrial markets, in addition to being a leading
provider of network access and transmission products and timing and
synchronization systems for a broad range of applications within the global
communications industry. The following are the key elements of our strategy to
achieve these objectives:

         FOCUS ON OUR ELECTRONIC COMPONENTS BUSINESS. We plan to continue to
grow our electronic components business by marketing our electronic devices in
their established market niches and identifying opportunities to broaden our
customer base.

         EXPAND OUR COMMUNICATION TIMING AND SYNCHRONIZATION PRODUCTS AND
CONTINUE TO FOCUS ON NETWORK ACCESS AND TRANSMISSION PRODUCTS. We plan to build
upon our existing strong base businesses in the communications equipment market
introducing additional new products, especially new communication timing and
synchronization products, utilizing our broader reach with CXR Larus to address
new markets.

         CONTINUE TO INVEST IN RESEARCH AND DEVELOPMENT TO ADDRESS HIGH GROWTH
MARKET OPPORTUNITIES. We plan to continue investing in markets and technologies
that we believe offer substantial growth prospects. We believe that the
expertise we have developed in creating our existing products will permit us to
enhance these products, develop new products and respond to emerging
technologies in a cost-effective and timely manner.

         LEVERAGE EXISTING CUSTOMER BASE. We believe that many of our existing
customers will continue to purchase network access and transmission products,
communication timing and synchronization products and test instrument products
and services. We intend to aggressively market new and enhanced products and
services to our existing customers. We also believe that our existing customer
base represents an important source of references and referrals for new
customers in new markets.

         PURSUE FOLLOW-ON SALES OPPORTUNITIES. We plan to continue to increase
the functionality of our communications equipment products, enabling products to
be upgraded by the downloading of software or the addition of hardware to an
existing unit, allowing customers to protect their investment in their already
deployed equipment and generating follow-on sales opportunities as we develop
new capabilities in the future. We plan to continue to approach our existing
digital switch customers to determine whether they need our proprietary and
patented rotary switches that we do not currently manufacture for them.

         SEEK COMPETITIVE WORLD-CLASS MANUFACTURING FOR SELECTED PRODUCTS.
Toward the end of 2002, we cut costs by using Asian manufacturing sources for
selected communications equipment products and subassemblies. We have now
located a Tier 1 manufacturer in the U.S. whose cost structure is more
competitive than the Asian manufacturing source.


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         SEEK ALTERNATIVE MARKET OPPORTUNITIES. We plan to expand our focus and
efforts to identify and capture more new customers, such as private network
utilities and transit customers, for our network access and transmission
products.

         DEVELOP AND ExPAND STRATEGIC RELATIONSHIPS. We plan to continue to
develop our strategic relationships with network access and transmission
manufacturers in order to enhance our product development activities and
leverage shared technologies and marketing efforts to build recognition of our
brands. In particular, in Europe, we intend to continue to expand our
relationships with offshore vendors as a reseller of their products to enhance
our position and reputation.

         PURSUE TECHNOLOGY TRANSFER AND LICENSING. We plan to continue our
established practice of purchasing or licensing core technologies where this
reduces time and cost to market.

         DEVELOP CUSTOMER-FOCUSED SOLUTIONS. We design, develop, and manufacture
many products and provide services that are tailored to the specific needs of
our customers with an emphasis on ease of use. We intend to continue to adapt
our core communications technologies to deliver focused products that improve
our customers' ability to manage increasingly large and complex networks.

         EXTEND OUR GLOBAL PRESENCE. Our customers' needs evolve through
industry expansion and consolidation as well as with the deployment of new
technologies and services. To support our customers more effectively, we intend
to further augment our sales, marketing and customer support organizations.

PRODUCTS AND SERVICES

         Our products and services currently are divided into the following two
main business segments:

         o        Electronic Components

                  --       digital and rotary switches

                  --       electronic power supplies

                  --       RF and microwave devices

         o        Communications Equipment

                  --       network access and transmission products

                  --       communication timing and synchronization products

                  --       communications test instruments


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<PAGE>

         During 2005, 2004 and 2003, our total net sales were approximately
$41,270,000, $29,637,000 and $25,519,000, respectively, and the percentages of
total net sales contributed by each product group within our two main business
segments were as follows:

<TABLE>
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                                                                              Year Ended December 31,
                                                                       --------------------------------------
  Segment and Product Type                                               2005           2004           2003
  ------------------------                                             --------       --------       --------

  Electronic Components
      Digital and Rotary Switches...............................         15.9%          18.6%          20.9%
      Electronic Power Supplies.................................         34.1%          26.9%          34.3%
      RF Components ............................................          7.5%           --              --
      Subsystem Assemblies......................................          --             0.8%           5.9%
      Other Products and Services...............................          4.7%           5.2%           2.3%
  ------------------------                                             --------       --------       --------
                                                                         62.2%          51.5%          63.4%
  Communications Equipment
      Network Access and Transmission Products..................         21.4%          27.9%          24.0%
      Communication Timing and Synchronization Products.........          6.4%           4.4%           --
      Communications Test Instruments...........................          7.2%          12.8%           9.2%
      Other Products and Services...............................          2.8%           3.4%           3.4%
                                                                         37.8%          48.5%          36.6%

  Totals........................................................        100.0%         100.0%         100.0%
                                                                       ========       ========       ========
</TABLE>

BACKLOG

         Our business is generally not seasonal, with the exception that
purchases of our communications equipment by public telecommunications carriers
tend to be lower than average during the first quarter of each year because
capital equipment budgets typically are not approved until late in the first
quarter. At December 31, 2005, our backlog of firm, unshipped orders was
approximately $22,150,000. Our backlog was related approximately 97.4% to our
electronic components business, which tends to provide us with long lead-times
for our manufacturing processes due to the custom nature of the products, and
approximately 2.6% to our communications equipment business, the majority of
which portion relates to our network access and transmission and communications
timing and synchronization and test equipment products. Of these backlog orders,
we anticipate fulfilling approximately 70% of our electronic components orders
and 100% of our communications equipment orders within the current fiscal year.
However, we cannot assure you that we will be successful in fulfilling these
orders in a timely manner or that we will ultimately recognize as revenue the
amounts reflected as backlog.

WARRANTIES

         Generally, our electronic components, network access and transmission
products and communication timing and synchronization products carry a one-year
limited parts and labor warranty and our communications test instruments and
European network access and transmission products carry a two-year limited parts
and labor warranty. Products returned under warranty typically are tested and
repaired or replaced at our option. Historically, product returns have not had a
material effect on our operations or financial condition. However, we cannot
assure you that this will continue to be the case or that disputes over
components or other materials or workmanship will not arise in the future.


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<PAGE>

                       OUR ELECTRONIC COMPONENTS BUSINESS

         Our electronic components segment includes digital and rotary switches,
electronic power supplies and RF devices. During the years ended December 31,
2005, 2004 and 2003, this segment accounted for approximately 62.2%, 51.5% and
63.4%, respectively, of our total net sales.

DIGITAL AND ROTARY SWITCHES

         The Digitran division of EMRISE Electronics manufactures, assembles and
sells digital and rotary switch products serving aerospace, defense and
industrial applications. Digital and rotary switches are manually operated
electromechanical devices used for routing electronic signals. Thumbwheel, push
button, lever-actuated and rotary modules, together with assemblies comprised of
multiple modules, are manufactured in many different model families. Digitran
also offers a variety of custom keypads.

         Our switches may be ordered with different combinations of a variety of
features and options, including night vision compatibility, harsh environment
sealing, RF shielding, various mounting methods, various electrical interfaces,
various packaging and presentation to suit each application.

ELECTRONIC POWER SUPPLIES

         XPS and Pascall, based in England, and RO based in the U.S.,
manufacture a range of high and low voltage, high specification, high
reliability custom and standard power conversion products designed for hostile
environments and supplied to an international customer base, predominantly in
the military and commercial aerospace, military vehicle and telecommunications
markets.

         Power conversion units supplied by XPS and Pascall range from 10VA to
1.5 KVA power ratings, low voltage (1V) to high voltage (20KV+), and convert
alternating current, or AC, to direct current, or DC, convert DC to AC and
convert DC to AC. Units can be manufactured to satisfy input requirements
determined by military, commercial aerospace, telecommunications or industrial
businesses, and sophisticated built-in test equipment, or BITE, and control
circuitry often is included. Operating environments for our units are diverse
and range from fighter aircraft to roadside cabinets.

RF COMPONENTS

         Pascall designs, develops, manufactures and markets a range of RF and
microwave amplifiers, multiplexers, components, subsystems and systems for
applications such as defense, aerospace, communications, air traffic control and
radar.

                      OUR COMMUNICATIONS EQUIPMENT BUSINESS

         Our communications equipment business comprises network access and
transmission products, communication timing and synchronization products, and
communications test equipment. During the years ended December 31, 2005, 2004
and 2003, the sale of communications equipment products and related services
accounted for approximately 37.8%, 48.5% and 36.6%, respectively, of our total
net sales. These products are configured in a variety of models designed to
perform analog and digital measurements or to transmit data at speeds varying
from low-speed voice grade transmission to high-speed broadband access.

NETWORK ACCESS AND TRANSMISSION PRODUCTS

         CXR Larus and CXR-AJ design, develop, manufacture and market a broad
range of network access and transmission products, including multiplexers, for
fiber, copper and microwave infrastructure, which combine to provide users with


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a complete solution for voice and data transmission. Typical applications
include secure encryption for point-of-sale and videoconferencing extension of
local area networks, the consolidation of voice or data sources into a single
carrier, modular routers, interface converters and voice and data transmission.

COMMUNICATION TIMING AND SYNCHRONIZATION PRODUCTS

         CXR Larus designs, develops, manufactures and markets a series of
communication timing and synchronization products that provide a consistent
source of timing alignment, or synchronization, for digital communication
networks. When the principal network timing source is lost, a CXR Larus
communication timing system can provide an alternative source of reference
synchronization until the principal source can be restored. This is called
operating in the "holdover" state. The various levels of accuracy in holdover
mode are referred to as "stratum levels." Stratum 1 is the most precise,
followed by Stratum 2, Stratum 3E, Stratum 3, and finally Stratum 4. Stratum 4
has no holdover mode and is the least precise. All CXR Larus communication
timing products offer Stratum 3E stability, or better, and all are available
with options that meet or exceed Stratum 1.

         Our range of communication timing and synchronization products include
the StarSyncs(TM) 5850, a GPS timing source, the StarSyncs(TM) 5800, an
economical timing system designed for small installations and the StarClock(TM)
200, specifically designed for central office applications.

COMMUNICATIONS TEST INSTRUMENTS

         CXR Larus manufactures the CXR HALCYON 700 series of products, which we
believe provide performance and value in integrated installation, maintenance
and testing of communications services. These test instruments are modular,
rugged, lightweight, hand-held products used predominantly by telephone
companies and private network operators to pre-qualify facilities for services,
verify proper operation of newly installed services and diagnose problems. The
unique modular nature of our CXR HALCYON 700 series test equipment provides an
easy configuration and upgrade path for testing of the specific services offered
by the various national and international service providers.

CUSTOMERS

      ELECTRONIC COMPONENTS

         We sell our electronic components primarily to original equipment
manufacturers, or OEMs, in the electronics industry, including manufacturers of
aerospace and defense systems and industrial instruments. During 2005, our top
five electronic components customers in terms of revenues were Rockwell Collins,
Inc., BAE Systems, Raytheon Systems, Advance Navigation and Positioning
Corporation and Selex Airborne Systems. Sales to Rockwell Collins, Inc.
represented approximately 10% of our total net sales during 2005. No other
customer represented 10% or more of our total net sales for that period. Sales
to BAE Systems companies represented 15% and 13% of total net sales in 2004 and
2003, respectively.

      COMMUNICATIONS EQUIPMENT

         We market our network access and transmission products, communication
timing and synchronization products and communications test instruments
primarily to public, private and corporate telecommunications service providers
and end users. Typically, communications service providers use a variety of
network equipment and software to originate, transport and terminate
communications sessions. Communications service providers rely on our products
and services as elements of the communications infrastructure and to configure
test and manage network elements and the traffic that runs across them. Also,
our products help to ensure smooth operation of the network and increase the
reliability of services to customers.


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         The major communications service providers to whom we market these
products and services include telephone companies, inter-exchange carriers,
incumbent local exchange carriers, competitive local exchange carriers, Internet
service providers, integrated communications providers, cable service providers,
international post, telephone and telegraph companies, banks, brokerage firms,
government agencies and other service providers. During 2005, our top five
communications test instruments, network access and transmission products and
communication timing and synchronization products customers in terms of our net
sales were Harris Corporation, Siemens, Thalis Avioniques, Power and Telephone
and Hitron Technology. None of our communications equipment customers
represented 10% or more of our revenues during 2005.

         Because we currently derive some of our revenues from sales to
telephone companies and other telecommunications service providers, we have
experienced and will continue to experience for the foreseeable future an effect
on our quarterly operating results due to the budgeting cycles of telephone
companies. Telephone companies generally obtain approval for their annual
budgets during the first quarter of each calendar year. If a telephone company's
annual budget is not approved early in the calendar year or is insufficient to
cover its desired purchases for the entire calendar year, we are unable to sell
products to the telephone company during the period of the delay or shortfall.

SALES, MARKETING AND CUSTOMER SUPPORT

      ELECTRONIC COMPONENTS

         We market and sell our electronic components through Digitran, XPS,
Pascall, and XCEL Japan, Ltd., a wholly-owned subsidiary of EMRISE Electronics
based in Japan. In some European countries and the Pacific Rim, these products
are sold through a combination of direct sales and through third-party
distributors.

         We sell our electronic components primarily to OEMs in the electronics
industry, including manufacturers of aerospace and military systems and
industrial instruments. Our efforts to market our electronic components
generally are limited in scope since we rely on sales to a broad base of
historical customers with whom we have long-term business dealings.

         XCEL Japan, Ltd. resells Digitran's digital and rotary switches and
keypad products and some third-party-sourced components primarily into Japan and
also into other highly industrialized Asian countries. Marketing of our
electronic components is primarily through referrals from our existing
customers, with sales either direct or via a small number of selected
independent sales representatives.

         We rely on long-term orders and repeat business from our existing
customers. We also approach our existing customers and their competitors to
discuss opportunities for us to provide them with subsystem assemblies that
typically incorporate our own products. Each of our components businesses has an
extensive installed base: Digitran's history spans over 40 years in the
electronic components industry, XPS, 50 years and RO 40 years. Major OEMs have
designed many of our switches, power supplies and RF devices into their
established product specifications. These factors have frequently resulted in
customers seeking us out to manufacture for them unique subsystem assemblies as
well as special variations of our standard digital switches.


                                       10


<PAGE>

      COMMUNICATIONS EQUIPMENT

         Our sales and marketing staff consist primarily of engineers and
technical professionals. Our staff undergo extensive training and ongoing
professional development and education. We believe that the skill level of our
sales and marketing staff has been instrumental in building long-standing
customer relationships. In addition, our frequent dialogue with our customers
provides us with valuable input on systems and features they desire in future
products. We believe that our consultative sales approach and our product and
market knowledge differentiate our sales forces from those of our competitors.

         Our local sales forces are highly knowledgeable about their respective
markets, customer operations and strategies and regulatory environments. In
addition, the familiarity of members of our sales force with local languages and
customs enables them to build close relationships with our customers.

         We provide repair and training services to enable our customers to
improve performance of their networks. We also offer on-line support services to
supplement our on-site application engineering support. Customers can also
access information regarding our products remotely through our domestic,
European and Japanese technical assistance centers.

         We sell many of our communications equipment products to large
telecommunications service providers as well as through distributors, resellers
and value added resellers. Telecommunications service providers generally commit
significant resources to an evaluation of our and our competitors' products and
require each vendor to expend substantial time, effort and money educating them
about the value of the vendor's solutions. Consequently, sales to this type of
customer generally require an extensive sales effort throughout the prospective
customer's organization and final approval by an executive officer or other
senior level employee. The result is lengthy sales and approval cycles, which
make sales forecasting difficult. In addition, even after a large
telecommunications service provider has approved our product for purchase, their
future purchases are uncertain because while we generally enter into long-term
supply agreements with those parties, these agreements do not require specific
levels of purchases.

         Delays associated with potential customers' internal approval and
contracting procedures, procurement practices, testing and acceptance processes
are common and may cause potential sales of our communications products and test
equipment to be delayed or foregone. As a result of these and related factors,
the sales cycle of new products for large customers typically ranges from six to
twelve months or more. In addition to the latter case, we also have some
distribution channels that generally are box stocking distributors with
significant independent sales forces selling our products to final customers,
integrators and other resellers on a regional and nationwide basis. We perform
product applications training for the distributor and reseller workforce and
funnel many of the leads we generate to the distribution channels for their
follow-up and closure.

COMPETITION

      ELECTRONIC COMPONENTS

         The market for our components is highly fragmented and composed of a
diverse group of OEMs, including Power One, Interpoint/Grenson, Martek and Celab
Ltd. for power supplies and Esterline (Janco), Greyhill, Inc., Omron
Electronics, Transico Inc. and C&K Components Inc. for digital and rotary
switches and Elisera, AML and American Microwave Corporation for RF and
microwave devices. We believe that the principal competitive factors affecting
our components business include:


                                       11


<PAGE>

         o        capability and quality of product offerings;

         o        status as qualified products; and

         o        compliance with government and industry standards.

         We have made substantial investments in machinery and equipment in our
digital and rotary switch and power supply operations. In addition, Digitran's
long history in the electronic components industry and the fact that major OEMs
have designed many of our digital switches into their product specifications
have acted as barriers to entry for other potential competitors and aided us in
establishing and maintaining both distribution channels and customers for our
products by making us a sole source supplier for approximately 30% to 50% of the
digital switches that we sell and have caused some customers to seek us out to
manufacture for them unique as well as our standard digital and rotary switches.

         Some of our competitors have greater sales, marketing, technological,
research and financial resources than we do. Our competitors' advantage with
regard to these resources may reduce our ability to obtain or maintain market
share for our products in cases where our competitors are better able than we
are to satisfy the above competitive factors.

      COMMUNICATIONS EQUIPMENT

         The markets for our communications equipment and services are
fragmented and intensely competitive, both inside and outside the United States,
and are subject to rapid technological change, evolving industry standards and
regulatory developments. We believe that the principal competitive factors
affecting our communications equipment business include:

         o        quality of product offerings;

         o        adaptability to evolving technologies and standards;

         o        ability to address and adapt to individual customer
                  requirements;

         o        price and financing terms;

         o        strength of distribution channels;

         o        ease of installation, integration and use of products;

         o        system reliability and performance; and

         o        compliance with government and industry standards.

         Our principal competitors for our communications equipment include
Symmetricom and Oscilloquartz, for communication timing and synchronization
products, RAD, Zhone/Paradyne and Patton Electronics Corporation, for network
access and transmission products, and TTC Corporation (a subsidiary of JDS
Uniphase), Ameritec Corporation, Fluke, Sunrise Telecom, Inc. and Electrodata,
Inc., for communications test instruments.

         The design of many of our data transmission products enables us to
offer numerous product combinations to our customers and to serve both central
site data communications needs and remote access and transmission sites on both
the enterprise-wide and single location level. We believe that this design
flexibility helps us to excel at many of the above competitive factors by
enabling us to offer quality products that meet and are adaptable to evolving
customer requirements, technologies and government and industry standards.


                                       12


<PAGE>

         We currently derive a significant portion of our revenues from sales to
telephone companies. We believe we derive a competitive advantage from efforts
we expended to establish many of our communications equipment products as
customer-approved products for telephone companies and for other key customers
in the United States and abroad. Our products' approved status facilitates the
ability of our customers to order additional products from us as their needs
arise without the long delays that might otherwise be needed to obtain the
approval of our customers' upper management or governing body prior to each
purchase.

         Some of our competitors have greater sales, marketing, technological,
research and financial resources than we do. Our competitors' advantage with
regard to these resources may reduce our ability to obtain or maintain market
share for our products in cases where our competitors are better able than we
are to satisfy the above competitive factors.

MANUFACTURING, ASSEMBLY AND QUALITY ASSURANCE

         Our network access and transmission products, communication timing and
synchronization products and communications test instruments generally are
assembled from outsourced subassemblies, with final assembly, configuration and
quality testing performed in house.

         Manufacturing of our electronic components, including injection
molding, fabrication, machining, printed circuit board manufacturing and
assembly, and quality testing is done in house due to the specialized nature and
small and varied batch sizes involved. Although many of our electronic devices
incorporate standard designs and specifications, products are nevertheless built
to customer order. This approach, which avoids the need to maintain a finished
goods inventory, is possible because long lead-times for delivery often are
available. Typically, our electronic components segment produces products in
one- to 300-piece batches, with a ten- to thirty-week lead-time. The lead-time
is predominantly to source sub-component piece parts such as electronic
components, mechanical components and services. Typical build time is six to
eight weeks from receipt of external components.

         We operate seven manufacturing and assembly facilities worldwide. All
of these facilities except the RO Associates facility, which is being submitted
for accreditation, are certified as ISO 9001- or 9002-compliant. We manufacture
our network access and transmission products at CXR-AJ's facilities in France
and at CXR Larus' facility in San Jose, California. We manufacture RF devices
and custom power supplies at Pascall's facility in Ryde, Isle of Wight, England.
We manufacture standard power supplies at RO's facility in Sunnyvale,
California. We manufacture all of our test equipment and communication timing
and synchronization products at the San Jose facility. We manufacture all of our
digital and rotary switches in our Rancho Cucamonga, California facility. We
manufacture our custom electronic power supplies in Ashford, Kent, England and
Ryde, Isle of Wight, England.

         The purchased components we use to build our products are generally
available from a number of suppliers. We rely on a number of limited-source
suppliers for specific components and parts. We do not have long-term supply
agreements with these vendors. In general, we make advance purchases of some
components to ensure an adequate supply, particularly for products that require
lead-times of up to nine months to manufacture. If we were required to locate
new suppliers or additional sources of supply, we could experience a disruption
in our operations or incur additional costs in procuring required materials.

         We intend to increase the use of outsource manufacturing for our
communications equipment products. We believe that outsourcing will lower our
manufacturing costs, in particular our components and labor costs, provide us
with more flexibility to scale our operations to meet changing demand, and allow
us to focus our engineering resources on new product development and product
enhancements.


                                       13


<PAGE>

PRODUCT DEVELOPMENT AND ENGINEERING

         We believe that our continued success depends on our ability to
anticipate and respond to changes in the electronics hardware industry and
anticipate and satisfy our customers' preferences and requirements. We
continually review and evaluate technological and regulatory changes affecting
the electronics hardware industry and seek to offer products and capabilities
that solve customers' operational challenges and improve their efficiency.

         For the years ended December 31, 2005, 2004 and 2003, our engineering
and product development costs were approximately $2,621,000, $1,521,000 and
$951,000, respectively.

         Our product development costs during the past three years were related
to development of new communications test equipment and voice, data and video
transmission equipment, communication timing and synchronization products,
development of a new line of rotary switches at our Digitran facility and the
development of RF and microwave devices at Pascall. We have continued incurring
engineering costs applicable to the development of new digital and rotary
switches since 2001. Current research expenditures in the communications
equipment segment are directed principally toward enhancements to the current
test instrument product line, the expansion of our range of network access and
transmission products and the development and expansion of our range of Network
Equipment Building System, or NEBS, qualified communication timing and
synchronization systems. These expenditures are intended to improve market share
and gross profit margins, although we cannot assure you that we will achieve
these improvements.

         We strive to take advantage of the latest computer-aided engineering
and engineering design automation workstation tools to design, simulate and test
advanced product features or product enhancements. Our use of these tools helps
us to speed product development while maintaining high standards of quality and
reliability for our products. Our use of these tools also allows us to
efficiently offer custom designs for OEM customers whose needs require the
integration of our electronic components with their own products.

INTELLECTUAL PROPERTY

         We regard our software, hardware and manufacturing processes as
proprietary and rely on a combination of patent, copyright and trademark laws,
trade secrets, confidentiality procedures and contractual provisions to protect
our proprietary rights. We have secured a U.S. and foreign patent for a rotary
switch product and we filed patent applications, and intend to file additional
patent applications in the future, for various other products with the U.S.
Patent and Trademark Office and in the European Union, Japan, Canada and Brazil.
We seek to protect our software, documentation and other written materials under
trade secret and copyright laws, which afford some limited protection. The laws
of some foreign countries do not protect our proprietary rights to the same
extent as do the laws of the United States. Our research and development and
manufacturing process typically involves the use and development of a variety of
forms of intellectual property and proprietary technology. In addition, we
incorporate technology and software that we license from third party sources
into our products. These licenses generally involve a one-time fee and no time
limit. We believe that alternative technologies for this licensed technology are
available both domestically and internationally.

         We may receive in the future notices from holders of patents that raise
issues as to possible infringement by our products. As the number of network
access, transmission and communication timing and synchronization instruments
increases and the functionality of these products further overlaps, we believe
that we may become subject to allegations of infringement given the nature of
the telecommunications and information technology industries and the high


                                       14


<PAGE>

incidence of these kinds of claims. Questions of infringement and the validity
of patents in the fields of telecommunications and information technology
involve highly technical and subjective analyses. These kinds of proceedings are
time consuming and expensive to defend or resolve, result in substantial
diversion of management resources, cause product shipment delays or could force
us to enter into royalty or license agreements rather than dispute the merits of
the proceeding initiated against us.

GOVERNMENT REGULATION AND INDUSTRY STANDARDS AND PROTOCOLS

         We design our products to comply with a significant number of industry
standards and regulations, some of which are evolving as new technologies are
deployed. In the United States, our products must comply with various
regulations defined by the United States Federal Communications Commission, or
FCC, and Underwriters Laboratories as well as industry standards such as NEBS
established by Telcordia Technologies, Inc., formerly Bellcore, and those
developed by the American National Standards Institute. Internationally, our
products must comply with standards established by the European Committee for
Electrotechnical Standardization, the European Committee for Standardization,
the European Telecommunications Standards Institute and telecommunications
authorities in various countries, as well as with recommendations of the
International Telecommunications Union. The failure of our products to comply,
or delays in compliance, with the various existing and evolving standards could
negatively affect our ability to sell our products.

         Our product lines are subject to statutes governing safety and
environmental protection. We believe that we are in substantial compliance with
these statutes and are not aware of any proposed or pending safety or
environmental rule or regulation that, if adopted, would have a material affect
on our business or financial condition.

EMPLOYEES

         As of November 30, 2006, we employed approximately 300 persons in our
various divisions and subsidiaries. None of our employees are represented by
labor unions, and there have not been any work stoppages at any of our
facilities. We believe that our relationship with our employees is good.

ITEM 1A.   RISK FACTORS.

RISK FACTORS

         THE FOLLOWING SUMMARIZES MATERIAL RISKS THAT INVESTORS SHOULD CAREFULLY
CONSIDER BEFORE DECIDING TO BUY OR MAINTAIN AN INVESTMENT IN OUR COMMON STOCK.
ANY OF THE FOLLOWING RISKS, IF THEY ACTUALLY OCCUR, WOULD LIKELY HARM OUR
BUSINESS, FINANCIAL CONDITION AND RESULTS OF OPERATIONS. AS A RESULT, THE
TRADING PRICE OF OUR COMMON STOCK COULD DECLINE, AND INVESTORS COULD LOSE THE
MONEY THEY PAID TO BUY OUR COMMON STOCK.

      OUR LACK OF LONG-TERM PURCHASE ORDERS OR COMMITMENTS MAY ADVERSELY AFFECT
OUR BUSINESS IF DEMAND IS REDUCED.

         During 2005, the sale of electronic components accounted for
approximately 62.6% of our total net sales, and the sale of communications
equipment and related services accounted for approximately 37.8% of our total
net sales. In many cases we have long-term contracts with our electronic
components and communications equipment customers that cover the general terms
and conditions of our relationships with them but that do not include long-term
purchase orders or commitments. Rather, our customers issue purchase orders
requesting the quantities of communications equipment they desire to purchase


                                       15


<PAGE>

from us, and if we are able and willing to fill those orders, then we fill them
under the terms of the contracts. Accordingly, we cannot rely on long-term
purchase orders or commitments to protect us from the negative financial effects
of reduced demand for our products that could result from a general economic
downturn, from changes in the electronic components and communications equipment
industries, including the entry of new competitors into the market, from the
introduction by others of new or improved technology, from an unanticipated
shift in the needs of our customers, or from other causes.

      THE UNPREDICTABILITY OF OUR QUARTERLY OPERATING RESULTS MAY CAUSE THE
      PRICE OF OUR COMMON STOCK TO FLUCTUATE OR DECLINE.

         Our quarterly operating results have varied significantly in the past
and will likely continue to do so in the future due to a variety of factors,
many of which are beyond our control. Our operating results from our
communications segment tend to be less stable and predictable than our operating
results from our electronic components segment.

         The cyclical nature of the telecommunications business due to the
budgetary cycle of telephone companies has had and will continue to have for the
foreseeable future an effect on our quarterly operating results. Telephone
companies generally obtain approval for their annual budgets during the first
quarter of each calendar year. If a telephone company's annual budget is not
approved early in the calendar year or is insufficient to cover its desired
purchases for the entire calendar year, we are unable to sell products to the
telephone company during the period of the delay or shortfall.

         Our electronic components sales are often made in conjunction with
military contracts. The timing of required deliveries under these contracts can
be delayed based on issues related to the overall military contract, which can
cause delays in our shipment schedules and revenue recognition.

         Quarter to quarter fluctuations may also result from the uneven pace of
technological innovation, the development of products responding to these
technological innovations by us and our competitors, our customers' acceptance
of these products and innovations, the varied degree of price, product and
technological competition and our customers' and competitors' responses to these
changes.

         Due to these factors and other factors, including changes in general
economic conditions, we believe that period-to-period comparisons of our
operating results will not necessarily be meaningful in predicting future
performance. If our operating results do not meet the expectations of investors,
our stock price may fluctuate or decline.

      MANY OF OUR COMPETITORS HAVE GREATER RESOURCES THAN US. IN ORDER TO
      COMPETE SUCCESSFULLY, WE MUST KEEP PACE WITH OUR COMPETITORS IN
      ANTICIPATING AND RESPONDING TO THE RAPID CHANGES INVOLVING THE ELECTRONIC
      COMPONENTS AND COMMUNICATIONS EQUIPMENT INDUSTRIES.

         Our future success will depend upon our ability to enhance our current
products and services and to develop and introduce new products and services
that keep pace with technological developments, respond to the growth in the
electronic components and communications equipment markets in which we compete,
encompass evolving customer requirements, provide a broad range of products and
achieve market acceptance of our products. Many of our existing and potential
competitors have larger technical staffs, more established and larger marketing
and sales organizations and significantly greater financial resources than we
do. Our lack of resources relative to our competitors may cause us to fail to
anticipate or respond adequately to technological developments and customer
requirements or to experience significant delays in developing or introducing
new products and services. These failures or delays could reduce our
competitiveness, revenues, profit margins or market share.


                                       16


<PAGE>

      WE RELY HEAVILY ON OUR MANAGEMENT, AND THE LOSS OF THEIR SERVICES COULD
      ADVERSELY AFFECT OUR BUSINESS.

         Our success is highly dependent upon the continued services of key
members of our management, including Carmine T. Oliva, our Chairman of the
Board, President, and Chief Executive Officer, Acting Chief Financial Officer
and Secretary, and Graham Jefferies, our Executive Vice President and Chief
Operating Officer. Mr. Oliva co-founded EMRISE Electronics and has developed
personal contacts and other skills that we rely upon in connection with our
financing, acquisition and general business strategies. Mr. Jefferies is a
long-time employee of EMRISE who we have relied upon in connection with our
United Kingdom acquisitions and who fulfills significant operational
responsibilities in connection with our foreign and domestic operations. The
loss of Mr. Oliva, Mr. Jefferies, or one or more other key members of management
could adversely affect us. Although we have entered into employment agreements
with each of our executive officers, those agreements are of limited duration
and are subject to early termination by the officers under some circumstances.
We maintain key-man life insurance on Mr. Oliva and Mr. Jefferies. However, we
cannot assure you that we will be able to maintain this insurance in effect or
that the coverage will be sufficient to compensate us for the loss of the
services of Mr. Oliva or Mr. Jefferies.

      IF WE ARE UNABLE TO SUCCESSFULLY IDENTIFY OR MAKE STRATEGIC ACQUISITIONS,
      OUR LONG-TERM COMPETITIVE POSITIONING MAY SUFFER.

         Our business strategy includes growth through acquisitions that we
believe will improve our competitive capabilities or provide additional market
penetration or business opportunities in areas that are consistent with our
business plan. Identifying and pursuing strategic acquisitions and integrating
acquired products and businesses requires a significant amount of management
time and skill. Acquisitions may also require us to expend a substantial amount
of cash or other resources, not only as a result of the direct expenses involved
in the acquisition transaction, but also as a result of ongoing research and
development activities that may be required to maintain or enhance the long-term
competitiveness of acquired products, particularly those products marketed to
the rapidly evolving telecommunications industry. If we are unable to make
strategic acquisitions due to our inability to identify appropriate targets, or
to manage the difficulties or costs involved in the acquisitions, our long-term
competitive positioning may suffer.

      IF WE ARE UNABLE TO FULFILL BACKLOG ORDERS DUE TO CIRCUMSTANCES INVOLVING
      US OR ONE OR MORE OF OUR SUPPLIERS OR CUSTOMERS, OUR ANTICIPATED RESULTS
      OF OPERATIONS WILL SUFFER.

         As of December 31, 2005, we had $22,150,000 in backlog orders for our
products. Backlog orders represent revenue that we anticipate recognizing in the
future, as evidenced by purchase orders and other purchase commitments received
from customers, but on which work has not yet been initiated or with respect to
which work is currently in progress. Our backlog orders are due in large part to
the long lead-times associated with our electronic components products, which
products generally are custom built to order. We cannot assure you that we will
be successful in fulfilling orders and commitments in a timely manner or that we
will ultimately recognize as revenue the amounts reflected as backlog. Factors
that could affect our ability to fulfill backlog orders include difficulty we
may experience in obtaining components from suppliers, whether due to
obsolescence, production difficulties on the part of suppliers or other causes,
or customer-induced delays and product holds. Our anticipated results of
operations will suffer to the extent we are unable to fulfill backlog orders
within the timeframes we establish, particularly if delays in fulfilling backlog
orders cause our customers to reduce or cancel their orders.


                                       17


<PAGE>

      IF OUR PRODUCTS FAIL TO COMPLY WITH EVOLVING GOVERNMENT AND INDUSTRY
      STANDARDS AND REGULATIONS, WE MAY HAVE DIFFICULTY SELLING OUR PRODUCTS.

         We design our products to comply with a significant number of industry
standards and regulations, some of which are evolving as new technologies are
deployed. In the United States, our communications equipment products must
comply with various regulations defined by the FCC and Underwriters Laboratories
as well as industry standards established by Telcordia Technologies, Inc. and
the American National Standards Institute, among others. Internationally, our
communications equipment products must comply with standards established by the
European Committee for Electrotechnical Standardization, the European Committee
for Standardization, the European Telecommunications Standards Institute,
telecommunications authorities in various countries as well as with
recommendations of the International Telecommunications Union, among others. The
failure of our products to comply, or delays in compliance, with the various
existing and evolving standards could negatively affect our ability to sell our
products.

      OUR BUSINESS COULD SUFFER IF WE ARE UNABLE TO OBTAIN COMPONENTS OF OUR
      PRODUCTS FROM OUTSIDE SUPPLIERS.

         The major components of our products include circuit boards,
microprocessors, chipsets and memory components. Most of these components are
available from multiple sources. However, we currently obtain some components
used in our products from single or limited sources. Some modem chipsets used in
our data communications equipment products have been in short supply and are
frequently on allocation by semiconductor manufacturers. We have, from time to
time, experienced difficulty in obtaining some components. We do not have
guaranteed supply arrangements with any of our suppliers, and there can be no
assurance that our suppliers will continue to meet our requirements. Further,
disruption in transportation services as a result of enhanced security measures
in response to terrorism threats or attacks may cause some increases in costs
and timing for both our receipt of components and shipment of products to our
customers. If our existing suppliers are unable to meet our requirements, we
could be required to alter product designs to use alternative components or, if
alterations are not feasible, we could be required to eliminate products from
our product line.

         Shortages of components could not only limit our product line and
production capacity but also could result in higher costs due to the higher
costs of components in short supply or the need to use higher cost substitute
components. Significant increases in the prices of components could adversely
affect our results of operations because our products compete on price and,
therefore, we may not be able to adjust product pricing to reflect the increases
in component costs. Also, an extended interruption in the supply of components
or a reduction in their quality or reliability would adversely affect our
financial condition and results of operations by impairing our ability to timely
deliver quality products to our customers. Delays in deliveries due to shortages
of components or other factors may result in cancellation by our customers of
all or part of their orders. Although customers who purchase from us products,
such as many of our digital switches and all of our custom power supplies, that
are not readily available from other sources would be less likely than other
customers of ours to cancel their orders due to production delays, we cannot
assure you that cancellations would not occur.

      FINANCIAL STATEMENTS OF OUR FOREIGN SUBSIDIARIES ARE PREPARED USING THE
      RELEVANT FOREIGN CURRENCY THAT MUST BE CONVERTED INTO UNITED STATES
      DOLLARS FOR INCLUSION IN OUR CONSOLIDATED FINANCIAL STATEMENTS. AS A
      RESULT, EXCHANGE RATE FLUCTUATIONS MAY ADVERSELY AFFECT OUR REPORTED
      RESULTS OF OPERATIONS.

         We have established and acquired international subsidiaries in the
United Kingdom, France and Japan that prepare their balance sheets in the
relevant foreign currency. In order to be included in our consolidated financial
statements, these balance sheets are converted, at the then current exchange


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<PAGE>

rate, into United States dollars, and the statements of operations are converted
using weighted average exchange rates for the applicable period. Accordingly,
fluctuations of the foreign currencies relative to the United States dollar
could affect our consolidated financial statements. Our exposure to fluctuations
in currency exchange rates has increased as a result of the growth of our
international subsidiaries. Sales of our products and services to customers
located outside of the United States accounted for approximately 49.7% of our
net sales for 2005. We use derivatives to manage foreign currency rate risk for
certain sales shipped from the United Kingdom. Our ultimate realized gain or
loss with respect to currency fluctuations will depend on the currency exchange
rates and other factors in effect as the contracts mature. Net foreign exchange
transaction gains included in other income and expense in our consolidated
statements of operations totaled $123,000 for 2005.

      BECAUSE WE BELIEVE THAT PROPRIETARY RIGHTS ARE MATERIAL TO OUR SUCCESS,
      MISAPPROPRIATION OF THESE RIGHTS COULD ADVERSELY AFFECT OUR FINANCIAL
      CONDITION.

         Our future success will be highly dependent on proprietary technology,
particularly in our communications equipment business. However, we do not hold
any patents and we currently rely on a combination of contractual rights,
copyrights, trademarks and trade secrets to protect our proprietary rights. Our
management believes that because of the rapid pace of technological change in
the industries in which we operate, the legal intellectual property protection
for our products is a less significant factor in our success than the knowledge,
abilities and experience of our employees, the frequency of our product
enhancements, the effectiveness of our marketing activities and the timeliness
and quality of our support services. Consequently, we rely to a great extent on
trade secret protection for much of our technology. However, there can be no
assurance that our means of protecting our proprietary rights will be adequate
or that our competitors or customers will not independently develop comparable
or superior technologies or obtain unauthorized access to our proprietary
technology. Our financial condition would be adversely affected if we were to
lose our competitive position due to our inability to adequately protect our
proprietary rights as our technology evolves.

      OUR COMMON STOCK PRICE HAS BEEN VOLATILE, WHICH COULD RESULT IN
      SUBSTANTIAL LOSSES FOR INVESTORS PURCHASING SHARES OF OUR COMMON STOCK AND
      IN LITIGATION AGAINST US.

         The market prices of securities of technology-based companies currently
are highly volatile. The market price of our common stock has fluctuated
significantly in the past. During 2005, the high and low closing sale prices of
a share of our common stock were $2.34 and $0.91, respectively. Between January
1, 2006 and November 30, 2006, the high and low closing sale prices of a share
of our common stock were $1.46 and $0.66, respectively. The market price of our
common stock may continue to fluctuate in response to the following factors,
many of which are beyond our control:

         o        changes in market valuations of similar companies and stock
                  market price and volume fluctuations generally;

         o        economic conditions specific to the electronic components or
                  communications equipment industries;

         o        announcements by us or our competitors of new or enhanced
                  products, technologies or services or significant contracts,
                  acquisitions, strategic relationships, joint ventures or
                  capital commitments;

         o        delays in our introduction of new products or technological
                  innovations or problems in the functioning of these new
                  products or innovations;


                                       19


<PAGE>

         o        third parties' infringement of our intellectual property
                  rights;

         o        changes in our pricing policies or the pricing policies of our
                  competitors;

         o        foreign currency translations gains or losses;

         o        regulatory developments;

         o        fluctuations in our quarterly or annual operating results;

         o        additions or departures of key personnel; and

         o        future sales of our common stock or other securities.

         The price at which you purchase shares of common stock may not be
indicative of the price of our stock that will prevail in the trading market.
You may be unable to sell your shares of common stock at or above your purchase
price, which may result in substantial losses to you. Moreover, in the past,
securities class action litigation has often been brought against a company
following periods of volatility in the market price of its securities. We may in
the future be the target of similar litigation. Securities litigation could
result in substantial costs and divert management's attention and resources.

      FUTURE SALES OF SHARES OF OUR COMMON STOCK BY OUR STOCKHOLDERS COULD CAUSE
      OUR STOCK PRICE TO DECLINE.

         We cannot predict the effect, if any, that market sales of shares of
our common stock or the availability of shares of common stock for sale will
have on the market price prevailing from time to time. As of November 30, 2006,
we had outstanding 38,081,750 shares of common stock and options and warrants to
purchase an aggregate of 6,126,633 shares of common stock. A substantial number
of these outstanding shares of common stock and shares of common stock
underlying the options and warrants are registered for issuance or public resale
under existing registration statements. Sales of shares of our common stock in
the public market, or the perception that those sales may occur, could cause the
trading price of our common stock to decrease or to be lower than it might be in
the absence of those shares or perceptions.

ITEM 1B.   UNRESOLVED STAFF COMMENTS.

         Not applicable.


                                       20


<PAGE>

ITEM 2.    PROPERTIES.

         As of November 30, 2006, we leased or owned approximately 174,000
square feet of administrative, engineering, production, storage and shipping
space. All of this space was leased other than the Abondant, France facility,
which is owned.
<TABLE>
<S>     <C>
                                                                                               FUNCTION /
             BUSINESS UNIT                              LOCATION                          LEASE EXPIRATION DATE
---------------------------------------      -----------------------------          ---------------------------------

EMRISE Corporation                           Rancho Cucamonga, California           Administration;
(corporate headquarters)                                                            Expires October 2009

EMRISE Electronics Corporation/Digitran      Rancho Cucamonga, California           Administration, Engineering and
(electronic components)                                                             Manufacturing;
                                                                                    Expires November 2007
                                             Monrovia, California                   Expires February 2009

XCEL Power Systems, Ltd. and EEL             Ashford, Kent, England                 Administration, Engineering and
 (electronic components)                                                            Manufacturing; Expires March 2013

XCEL Japan, Ltd.                             Tokyo, Japan                           Sales;
(electronic components)                                                             Expires December 2007

RO                                           Sunnyvale, California                  Administrative, Engineering,
(power supplies)                                                                    Manufacturing;
                                                                                    Expires August 2007

Pascall Electronics Limited                  Ryde, Isle of Wight, England           Administration, Engineering,
(RF devices and custom power supplies)                                              Manufacturing;
                                                                                    Expires May 2016

CXR-AJ                                       Paris, France                          Administration;
(network access and transmission products)                                          Expires April 2007

CXR-AJ                                       Abondant, France                       Administration, Engineering,
(network access and transmission products)                                          Manufacturing;
                                                                                    Facility is owned

CXR Larus                                    San Jose, California                   Administration, Engineering,
(network access and transmission products,                                          Manufacturing;
communications test instruments,                                                    Expires June 2011 and is
communication timing                                                                renewable
and synchronization products)
</TABLE>

         We believe the listed facilities are adequate for our current business
operations.

ITEM 3.    LEGAL PROCEEDINGS.

         We are not a party to any material pending legal proceedings.


                                       21


<PAGE>

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

         On December 21, 2005, we held our 2005 annual meeting of stockholders.
The total number of outstanding votable shares was 37,497,750. Our stockholders
were asked to consider and vote upon the following two proposals:

         (1) Re-election of Carmine T. Oliva as a Class III director to serve a
three-year term.

         (2) Ratification of the selection of Grant Thornton LLP as our
independent registered public accounting firm to audit our consolidated
financial statements for 2005.

         Results of the vote were as follows:
<TABLE>
      Proposal               For               Against            Abstain           Withheld          Total Voted
      --------               ---               -------            -------           --------          -----------
<S>      <C>              <C>                    <C>               <C>               <C>               <C>
         (1)              29,792,773                --                 --            107,752           29,900,525
         (2)              29,850,830             5,750             43,945                 --           29,900,525
</TABLE>

         As a result, Mr. Oliva was re-elected to serve as a Class III member of
our board of directors. Robert Runyon, who also served as a Class III member of
our board of directors, declined to stand for re-election and therefore left his
position on our board effective as of the meeting. Laurence P. Finnegan and Otis
W. Baskin continued to serve on our board of directors following the meeting.
The selection of our independent registered public accounting firm to audit our
consolidated financial statements for 2005 was ratified.


                                       22


<PAGE>

                                     PART II

ITEM 5.    MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
           AND ISSUER PURCHASES OF EQUITY SECURITIES.

         Our common stock has traded on NYSE Arca, Inc. since March 8, 2006,
under the symbol "ERI." For the period from August 10, 2005 through March 7,
2006, our common stock traded on the Archipelago Exchange(SM) (ArcaEx(R)), a
facility of the Pacific Exchange(R), under the symbol "ERI." For the period from
January 1, 2004 through August 9, 2005, our common stock traded on the OTC
Bulletin Board under the symbol "EMRI." The table below shows, for each fiscal
quarter indicated, the high and low sales prices on the Pacific Exchange and the
high and low closing bid prices on the OTC Bulletin Board, as the case may be,
for shares of our common stock. The prices shown reflect inter-dealer prices,
without retail mark-up, mark-down or commission, and may not necessarily
represent actual transactions.

                                                               High       Low
                                                             -------    -------
Year Ended December 31, 2004
   First Quarter.........................................     $1.18      $0.87
   Second Quarter........................................      1.28       0.76
   Third Quarter.........................................      0.82       0.52
   Fourth Quarter........................................      1.68       0.60

Year Ended December 31, 2005
   First Quarter.........................................     $1.82      $1.46
   Second Quarter........................................      1.51       1.08
   Third Quarter.........................................      1.98       0.91
   Fourth Quarter........................................      2.34       1.14

         As of November 30, 2006, we had outstanding 38,081,750 shares of common
stock outstanding held of record by approximately 3,000 stockholders. These
holders of record include depositories that hold shares of stock for brokerage
firms which, in turn, hold shares of stock for numerous beneficial owners. On
November 30, 2006, the closing sale price of our common stock on NYSE Arca was
$1.01 per share.

         We have not declared or paid any cash dividends on our capital stock in
the past, and we do not anticipate declaring or paying cash dividends on our
common stock in the foreseeable future.

         We will pay dividends on our common stock only if and when declared by
our board of directors. Our board of directors' ability to declare a dividend is
subject to restrictions imposed by Delaware law. In determining whether to
declare dividends, the board of directors will consider these restrictions as
well as our financial condition, results of operations, working capital
requirements, future prospects and other factors it considers relevant.

         In August 2005, we issued 35,000 shares of common stock to our former
investor relations consultant upon exercise of a warrant at a per share exercise
price of $0.39.

         In August 2005, we issued 78,042 shares of common stock to a former
employee upon net exercise of a warrant to purchase up to 120,000 shares of
common stock at a per share exercise price of $0.50.

         In November 2005, we issued 50,000 shares of common stock to a
financial advisor upon exercise of a warrant at a per share exercise price of
$0.75 and 2,500 shares upon the exercise of employee stock options at a per
share exercise price of $1.00.


                                       23


<PAGE>

         Exemption from the registration provisions of the Securities Act of
1933 for the transactions described above is claimed under Section 4(2) of the
Securities Act of 1933, among others, on the basis that such transactions did
not involve any public offering and the purchasers were accredited or
sophisticated with access to the kind of information registration would provide.
In each case, appropriate investment representations were obtained, stock
certificates were issued with restricted stock legends, and stop transfer orders
were placed with our transfer agent.

ITEM 6.    SELECTED FINANCIAL DATA.

         The selected consolidated financial data presented below for each of
the five years in the period ended December 31, 2005 have been derived from
audited financial statements which for the most recent three years appear
elsewhere herein. The data presented below should be read in conjunction with
such financial statements, including the related notes thereto and the other
information included herein. The historical results are not necessarily
indicative of results to be expected for any future periods.

<TABLE>
                                                                       YEARS ENDED DECEMBER 31,
                                                 -------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF OPERATIONS AND            2005          2004
COMPREHENSIVE INCOME DATA:                        (RESTATED)    (RESTATED)       2003          2002         2001
                                                 -----------   -----------   ------------  ------------  ----------
                                                               (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S>                                              <C>           <C>           <C>          <C>          <C>
Net sales......................................  $   41,270    $   29,637    $   25,519   $   22,664   $   27,423
Cost of sales..................................      23,714        16,089        14,835       14,147       15,456
                                                 ----------    ----------    ----------    ---------   ----------
Gross profit...................................      17,556        13,548        10,684        8,517       11,967
Selling, general and administrative expenses...      13,707        10,212         7,812        7,731       10,129
Engineering and product development expenses...       2,621         1,521           951        1,015        1,076
                                                 ----------    ----------    ----------    ---------   ----------
Income (loss) from operations..................       1,228         1,815         1,921         (229)         762
Total other expense............................         (54)         (439)         (474)        (361)        (414)
                                                 ----------    ----------    ----------    ---------   ----------
Income (loss) from continuing operations
   before income taxes.........................       1,174         1,376         1,447         (590)         348
Income tax (benefit) expense...................        (267)           49           286          (20)          77
                                                 ----------    ----------    ----------    ---------   ----------
Income (loss) from continuing operations.......       1,441         1,327         1,161         (570)         271
Discontinued operations:
   Gain from operations of
     discontinued segment......................          --            --            --           --           56
                                                 ----------    ----------    ----------    ---------   ----------
Net income (loss)..............................       1,441         1,327         1,161         (570)         327
Foreign currency translation adjustment........      (1,357)          379           705          446         (312)
                                                 ----------    ----------    ----------    ---------   ----------
Total comprehensive income (loss)..............  $       84    $    1,706    $    1,866   $     (124)  $       15
                                                 ==========    ==========    ==========   ==========   ==========
Basic earnings (loss) per share from
   continuing operations.......................  $     0.04    $     0.06    $     0.05   $    (0.03)  $     0.01
                                                 ==========    ==========    ==========   ==========   ==========
Diluted earnings (loss) per share from
   continuing operations                         $     0.04    $     0.05    $     0.05   $    (0.03)  $     0.01
                                                 ==========    ==========    ==========   ==========   ==========
Basic and diluted earnings per share from
   discontinued operations.....................  $       --    $       --    $       --   $       --   $     0.01
                                                 ==========    ==========    ==========   ==========   ==========
Basic earnings (loss) per share................  $     0.04    $     0.06    $     0.05   $    (0.03)  $     0.02
                                                 ==========    ==========    ==========   ==========   ==========
Diluted earnings (loss) per share..............  $     0.04    $     0.05    $     0.05   $    (0.03)  $     0.01
                                                 ==========    ==========    ==========   ==========   ==========
Weighted average shares outstanding, basic.....      37,253        24,063        22,567       21,208       20,594
Weighted average shares outstanding, diluted...      38,386        24,839        23,811       21,208       23,782


                                                        24


<PAGE>

                                                                    YEARS ENDED DECEMBER 31,
                                                 ----------------------------------------------------------------
                                                                  2004
                                                    2005       (RESTATED)       2003          2002        2001
                                                 ----------    ----------    ----------    ---------   ----------
BALANCE SHEET DATA:                                                      (IN THOUSANDS)
Cash and cash equivalents......................  $    4,371    $    1,057    $    1,174    $     254   $      604
Working capital................................      12,958         5,357         5,696        3,961        3,686
Total assets...................................      44,461        25,144        17,169       16,786       17,688
Long-term debt, net of current portion.........       2,492         3,208           819          927          763
Stockholders' equity...........................      27,013        10,757         7,916        5,732        5,862
Convertible redeemable preferred stock.........          --            --            --          282          270
</TABLE>

         No cash dividends on our common stock were declared during any of the
periods presented above. Various factors materially affect the comparability of
the information presented in the above table. These factors relate primarily to
the acquisition of Larus Corporation in July 2004, the acquisition of Pascall in
March 2005 and changes in foreign currency conversion rates that may affect the
consistency of the generally accepted accounting principles that we use. The
year ended December 31, 2004 includes five months of Larus Corporation activity.
The year ended December 31, 2005 includes nine and one-half months of Pascall
activity and five months of RO activity. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Overview."

ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
           RESULTS OF OPERATIONS.

         THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH OUR
CONSOLIDATED FINANCIAL STATEMENTS AND THE RELATED NOTES AND THE OTHER FINANCIAL
INFORMATION INCLUDED ELSEWHERE IN THIS REPORT. THIS REPORT AND THE FOLLOWING
DISCUSSION CONTAIN FORWARD-LOOKING STATEMENTS REGARDING THE ELECTRONIC
COMPONENTS AND COMMUNICATIONS EQUIPMENT INDUSTRIES AND OUR EXPECTATIONS
REGARDING OUR FUTURE PERFORMANCE, LIQUIDITY AND CAPITAL RESOURCES. OUR ACTUAL
RESULTS COULD DIFFER MATERIALLY FROM THOSE EXPRESSED IN THESE FORWARD-LOOKING
STATEMENTS AS A RESULT OF ANY NUMBER OF FACTORS, INCLUDING THOSE SET FORTH UNDER
"RISK FACTORS" AND UNDER OTHER CAPTIONS CONTAINED ELSEWHERE IN THIS REPORT.

OVERVIEW

      GENERAL

         Through our three wholly-owned operating subsidiaries, EMRISE
Electronics, CXR Larus and CXR-AJ, and through the divisions and subsidiaries of
those subsidiaries, we design, develop, manufacture, assemble, and market
products and services in the following two material business segments:

         o    Electronic Components

              --     digital and rotary switches

              --     electronic power supplies

              --     RF and microwave devices


                                       25


<PAGE>

         o    Communications Equipment

              --     network access and transmission products

              --     communication timing and synchronization products

              --     communications test instruments

         Sales to customers in the electronic components segment, primarily to
aerospace customers, defense contractors and industrial customers, were
approximately 62.2%, 51.5% and 63.4% of our total net sales during 2005, 2004
and 2003, respectively. Sales of communications equipment and related services,
primarily to private customer premises and public carrier customers, were
approximately 37.8%, 48.5% and 36.6% of our total net sales during 2005, 2004
and 2003, respectively.

         Sales of our electronic components segment increased $10,425,000
(68.3%) for 2005. Without the addition of the sales of $11,157,000 and
$1,925,000, respectively, by our new subsidiaries, Pascall, which we acquired
March 18, 2005 and RO, which we acquired on September 1, 2005, our electronic
components segment sales would have declined $2,657,000 (17.4%) for 2005 as
compared to 2004, primarily due to the lower shipments of our power supplies due
to delays in the shipping schedule for the Eurofighter Typhoon aircraft program
that resumed shipments in the second quarter of 2006.

         We achieved a $1,208,000 (8.4%) sales increase in our communications
equipment segment for 2005. We acquired the Larus division of CXR Larus in July
2004. Without the addition of the $2,947,000 of sales made by the Larus division
during the first half of 2005, our communications equipment segment sales would
have declined $1,739,000 (12.1%) for 2005 as compared to 2004. This was
primarily due to a low demand for our test equipment by the major United States
telecommunications companies, a delay in continued shipments on a long-term
United States government infrastructure program due to customer technical
issues, and delays in French military program orders that had been expected in
early 2005.

         We continue to reduce costs at CXR Larus by reducing its work force and
increasing our sourcing of test equipment components from offshore manufacturers
that produce components for lower prices than we previously paid to our former
suppliers. Outsourcing of manufacturing to Asia was a primary reason we were
able to increase our gross margin from approximately 34% in 2002 to
approximately 62% in 2005 in our CXR Larus test equipment business, which
resulted in an annual cost reductions of approximately $1,372,000 during 2004.
During 2005, we began working toward establishing a similar arrangement for the
manufacture of our communication timing and synchronization products by Hitachi
OMD, which we anticipate will result in further improvements in our gross
margin. We also reduced costs elsewhere in our communications equipment segment
and lowered the breakeven point both in our United States and France operations
through various cost-cutting methods, such as using offshore contract
manufacturers, reducing facility rent expense by approximately $327,000 on an
annual basis and downsizing our administrative office in Paris, France.

      LARUS CORPORATION ACQUISITION

         In July 2004, we acquired Larus Corporation. Larus Corporation was a
San Jose, California-based manufacturer and seller of telecommunications
products that had one wholly-owned subsidiary, Vista Labs, Incorporated, or
Vista, which provided engineering services to Larus Corporation. The basic
purchase terms of the acquisition are described below. We consolidated the
results of operations of Larus Corporation beginning from the date of
acquisition, July 13, 2004. CXR Larus' United States-based sales and marketing
staff, have secured relationships with two new major United States-based
distributors, Power and Tel and Graybar, during 2005. We consolidated our CXR
Larus subsidiary's operations into Larus Corporation's facility, which resulted


                                       26


<PAGE>

in annual savings in rent and facilities expense of approximately $250,000
beginning in the third quarter of 2004. Subsequent to March 31, 2005, we
implemented further administrative, engineering and sales cost savings through
staffing reductions of approximately $700,000 on an annual basis as compared to
our costs in the three months ended March 31, 2005. These staffing reductions
related to eliminating redundancies in our electronic components segment
personnel (including nine sales, marketing and administrative positions, one
engineering director and the former CXR president) that occurred as a result of
our acquisition of Larus Corporation.

         We paid $6,539,500 to acquire the outstanding common stock of Larus
Corporation. As a result, we acquired assets that included intellectual
property, cash, accounts receivable and inventories owned by each of Larus
Corporation and Vista. The purchase price for the acquisition consisted of
$1,000,000 in cash, the issuance of 1,213,592 shares of our common stock with a
fair value of $1,000,000, $887,500 in the form of two short-term, zero interest
promissory notes that were repaid in 2004, $3,000,000 in the form of two
subordinated secured promissory notes, warrants to purchase up to an aggregate
of 150,000 shares of our common stock at $1.30 per share and approximately
$580,000 of acquisition costs. The number of shares of our common stock issued
as part of the purchase price was calculated based on the $0.824 per share
average closing price of our common stock for the five trading days preceding
the transaction. The warrants to purchase 150,000 shares of common stock were
valued at $72,526 using a Black-Scholes formula that included a volatility of
107.19%, an interest rate of 3.25%, a life of three years and no assumed
dividend.

         In addition, we assumed $245,000 in accounts payable and accrued
expenses and entered into an above-market real property lease with the sellers.
This lease represents an obligation that exceeds the fair market value by
approximately $756,000 and is part of the acquisition accounting. The cash
portion of the acquisition purchase price was funded with proceeds from our
prior credit facility with Wells Fargo Bank, N.A. and cash on-hand.

         In determining the purchase price for Larus Corporation, we took into
account the historical and expected earnings and cash flow of Larus Corporation,
as well as the value of companies of a size and in an industry similar to Larus
Corporation, comparable transactions and the market for such companies
generally. The purchase price represented a significant premium over the
$1,800,000 recorded net worth of Larus Corporation's assets. In determining this
premium, we considered our potential ability to refine various Larus Corporation
products and to use our marketing resources and status as a qualified supplier
to qualify and market those products for sale to large telecommunications
companies. We believe that large telecommunications companies desired to have an
additional choice of suppliers for those products and would be willing to
purchase Larus Corporation's products following some refinements. We also
believe that if Larus Corporation had remained independent, it was unlikely that
it would have been able to qualify to sell its products to the large
telecommunications companies due to its small size and lack of history selling
to such companies. Therefore, Larus Corporation had a range of value separate
from the net worth it had recorded on its books.

      PASCALL ACQUISITION

         On March 18, 2005, our subsidiary, EMRISE Electronics Ltd. ("EEL"),
purchased all of the outstanding capital stock of PEHL, the parent holding
company of Pascall, using funds loaned to EEL by EMRISE. The purchase price for
the acquisition totaled $9,669,000, subject to adjustments as described below,
and included a $9,054,000 cash payment to PEHL's former parent and approximately
$615,000 in acquisition costs. In connection with the purchase, EEL loaned
$3,082,000 to PEHL and Pascall, as described below.


                                       27


<PAGE>

         The initial portion of the purchase price was 3,100,000 British pounds
sterling (approximately U.S. $5,972,000 based on the exchange rate in effect on
March 18, 2005). The initial portion of the purchase price was paid in cash and
was subject to adjustment on a pound for pound basis to the extent that the
value of the net assets of Pascall as of the closing date was greater or less
than 2,520,000 British pounds sterling. On May 6, 2005, we submitted to Intelek
Properties Limited (which is a subsidiary of Intelek PLC, a London Stock
Exchange public limited company, and is the former parent of PEHL), our
calculation of the value of the net assets of Pascall as of the closing date,
which we believed slightly exceeded 2,520,000 British pounds sterling.
Ultimately, the parties determined that the value of the net assets of Pascall
at the closing date was 2,650,000 British pounds sterling. As a result, we paid
to Intelek Properties Limited 130,000 British pounds sterling (approximately
U.S. $236,000 based on the exchange rate then in effect) on August 1, 2005 to
satisfy this obligation. The purchase price is also subject to downward
adjustments for any payments that may be made to EEL under indemnity, tax or
warranty provisions of the purchase agreement.

         EEL loaned to Pascall and PEHL at the closing 1,600,000 British pounds
sterling (approximately U.S. $3,082,000 based on the exchange rate in effect on
March 18, 2005). The loaned funds were used to immediately repay outstanding
intercompany debt owed by Pascall and PEHL to Intelek Properties Limited.

         We and Intelek plc have agreed to guarantee payment when due of all
amounts payable by EEL and Intelek Properties Limited, respectively, under the
PEHL purchase agreement. EMRISE and EEL have agreed to underwrite the guarantee
that Intelek Properties Limited has given to Pascall's landlord with a guaranty
from us, and EEL has agreed to indemnify Intelek Properties Limited and its
affiliates for damages they suffer as a result of any failure to obtain the
release of the guarantee of the 17-year lease that commenced in May 1999. The
leased property is a 30,000 square-foot administration, engineering and
manufacturing facility located off the south coast of England.

         Intelek Properties Limited has agreed to various restrictive covenants
that apply for various periods following the closing. The covenants include
non-competition with Pascall's business, non-interference with Pascall's
customers and suppliers, and non-solicitation of Pascall's employees. In
conjunction with the closing, Intelek Properties Limited, EEL, Intelek plc and
we entered into a Supplemental Agreement dated March 18, 2005. The Supplemental
Agreement provides, among other things, that an interest-free bridge loan of
200,000 British pounds sterling (approximately U.S. $385,400 based on the
exchange rate in effect on March 17, 2005) that was made by Intelek Properties
Limited to Pascall on March 17, 2005 would be repaid by Pascall by March 31,
2005. EEL agreed to ensure that Pascall has sufficient funds to repay the bridge
loan. The bridge loan was repaid in full by Pascall to the seller on the March
31, 2005 due date.

         We have consolidated the results of operations of Pascall beginning
from the date of acquisition, March 18, 2005. Based on recent history and sales
projections, we expect Pascall to provide a positive contribution to our
earnings per share. We expect to increase Pascall's sales to its existing
customers in the United States and to sell Pascall's products to EMRISE's
existing customers as a result of our local presence and enhanced support from
our United States-based sales and marketing staff. We have consolidated a number
of administrative functions of our two United Kingdom-based subsidiary's
operations and anticipate that we will be able to generate further future
savings as we continue to integrate the businesses.


                                       28


<PAGE>

         The following table summarizes the unaudited assets acquired and
liabilities assumed in connection with this acquisition, including $615,000 in
acquisition costs:

                                                            Dollars
                                                         in Thousands
                                                        -------------

        Current assets...............................   $      6,196
        Property, plant and equipment................          1,367
        Intangibles, including goodwill                        5,534
                                                        -------------
        Total assets acquired........................         13,097
        Current liabilities..........................         (2,863)
        Other liabilities............................            (80)
                                                        -------------
        Total liabilities assumed....................         (2,943)
                                                        -------------
        Net assets acquired..........................   $     10,154
                                                        =============

         The purchase price represented a significant premium over the recorded
net worth of Pascall's assets. In determining to pay this premium, we considered
various factors, including the opportunities that Pascall presented for us to
add RF components and RF subsystem assemblies to our product offerings, the
marketing resources of Pascall in the United States power supplies market, and
expected synergies between Pascall's business and our existing power supplies
business.

      RO ACQUISITION

         On September 2, 2005, EMRISE Electronics acquired all of the issued and
outstanding shares of common stock of RO under the terms of a stock purchase
agreement dated effective as of August 31, 2005 and amended as of September 28,
2005. Prior to the acquisition, all of the common stock of RO was owned by
Robert H. Okada as Trustee of the Robert H. Okada Trust Agreement dated February
11, 1992, and Sharon Vavro, an individual.

         RO is based in Sunnyvale, California and designs and manufactures
standard power conversion products for telecom, industrial, commercial, and
military applications. The purchase price consisted of $2,400,000 in cash paid
at closing and an additional $600,000 in cash payable in two equal installments
on October 6, 2005 and March 31, 2006. The acquisition purchase price was funded
with cash on-hand. The purchase price is subject to adjustment based on the
value of the stockholders' equity, accounts receivable, accounts payable, cash
on hand and net inventory of RO, as determined by the consolidated, unaudited
balance sheet as of August 31, 2005, prepared in accordance with accounting
principles generally accepted in the United States of America. In addition,
concurrently with the closing of the acquisition of RO, EMRISE Electronics paid
in full all then existing credit facilities of RO in the aggregate amount of
$1,602,000.

         In determining the purchase price for RO, EMRISE Electronics considered
the historical and expected earnings and cash flow of RO, as well as the value
of companies of a size and in an industry similar to RO, comparable transactions
and the market for such companies generally. The purchase price represented a
premium of approximately $2,275,000 over the $2,340,000 recorded net worth of
the assets of RO. In determining this premium, EMRISE Electronics considered the
synergistic and strategic advantages provided by having a United States-based
power conversion manufacturer and the value of the goodwill, customer
relationships and technology of RO. Goodwill associated with the RO acquisition
totaled approximately $1,376,000. EMRISE commissioned a valuation firm to
determine what portion of the purchase price should be allocated to identifiable
intangible asset. The valuation study of RO's intangibles was completed in June
2006. We initially estimated the intangibles to be valued as follows:


                                       29


<PAGE>

technology, $484,000, trademarks, $300,000 and customer relationships, $200,000.
The valuation study resulted in the following valuations: technology, $500,000,
trademarks, $350,000 and customer relationships, $350,000. The intangibles were
adjusted to the appraised values in the second quarter of 2006. The technology
and customer relationships are being amortized over 10 years on their appraise
values and the trademarks are not being amortized due to the inability to
determine an estimated life.

         In connection with the execution of the stock purchase agreement,
EMRISE Electronics executed a lease agreement with Caspian Associates for the
lease of 25,700 square feet of a 30,700 square feet building located at 246
Caspian Drive, Sunnyvale, California. The lease provided for a two-year term
commencing on September 1, 2005 and ending on August 31, 2007, at a base rent of
$9,210 per month. Additionally, the lease provided for an extension of the lease
term for an additional three years, to August 31, 2010, if RO achieves net sales
of at least $14,500,000 and cumulative gross profit of at least $3,987,500. If
RO achieves the net sales and cumulative gross profit targets, the monthly base
rent for the facility will be increased to the fair market value as of the first
day of the next calendar month. Otherwise, the rent will remain unchanged unless
and until the targets are met. The property was sold on November 1, 2006. As a
result of the sale, the lease agreement was amended to remove the financial
targets. Also, beginning on March 1, 2007, the lease coverts to a month-to-month
tenancy whereupon either party may provide the other with 30 days' notice to
terminate the lease. The current lease obligation is $12,280 per month, which is
more than the original $9,210 because a sublessor terminated its sublease.

         In connection with the stock purchase agreement, EMRISE Electronics
also executed an employment agreement with Richard Okada, effective as of
September 1, 2005, to serve as president of RO. Mr. Okada is a general partner
of Caspian Associates. Mr. Okada will receive an annual base salary of $115,000
for the two-year tern of the employment agreement. In addition, Mr. Okada is
entitled to receive an incentive bonus based upon performance criteria to be
determined in the future. In connection with Mr. Okada's employment agreement,
EMRISE granted Mr. Okada an incentive stock option under EMRISE's 2000 Stock
Option Plan to purchase up to 50,000 shares of EMRISE's common stock at an
exercise price of $1.35 per share. This option vests 50% on September 1, 2006
and 50% on September 1, 2007. The option expires on August 31, 2015.

         The following table summarizes the unaudited assets and liabilities
assumed in connection with the RO acquisition, including $65,000 in acquisition
costs:

                                                                   Dollars
                                                                in Thousands
                                                               -------------

        Current assets.....................................    $       3,213
        Property, plant and equipment......................              329
        Intangibles, including goodwill....................            2,360
        Other assets.......................................               66
                                                               -------------
        Total assets acquired..............................            5,968
        Current liabilities................................             (943)
        Other liabilities..................................             (393)
                                                               -------------
        Total liabilities assumed..........................           (1,336)
                                                               -------------
        Net assets acquired................................    $       4,632
                                                               =============

      PRO FORMA RESULTS OF OPERATIONS

         The following table summarizes, on an unaudited pro forma basis, the
combined results of operations of EMRISE, Larus Corporation, Pascall and RO, as
though the Larus Corporation, Pascall and RO acquisitions occurred as of January


                                       30


<PAGE>

1, 2004. The pro forma amounts give effect to appropriate adjustments for
interest expense and income taxes. The pro forma amounts presented are not
necessarily indicative of future operating results (in thousands, except per
share amounts).

<TABLE>
                                                                       Year Ended December 31,
                                                                    -----------------------------
                                                                       2005               2004
                                                                     (restated)        (restated)
                                                                    -----------       -----------
<S>                                                                 <C>               <C>
         Revenues.............................................      $    47,933       $    52,767
         Net income...........................................      $     1,324       $     2,072
         Basic earnings per share of common stock.............      $      0.04       $      0.06
                                                                    ===========       ===========
         Diluted earnings per share of common stock...........      $      0.03       $      0.06
                                                                    ===========       ===========
</TABLE>

CRITICAL ACCOUNTING POLICIES

         Our discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of those financial statements requires us to make
estimates and judgments that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amount of net sales and expenses for
each period. The following represents a summary of our critical accounting
policies, defined as those policies that we believe are the most important to
the portrayal of our financial condition and results of operations and that
require management's most difficult, subjective or complex judgments, often as a
result of the need to make estimates about the effects of matters that are
inherently uncertain.

      REVENUE RECOGNITION

         We derive revenues from sales of electronic components and
communications equipment products and services. Our sales are based upon written
agreements or purchase orders that identify the type and quantity of the item
being purchased and the purchase price. We recognize revenues when shipment of
products has occurred or services have been rendered, no significant obligations
remain on our part, and collectibility is reasonably assured based on our credit
and collections practices and policies.

         We recognize revenues from domestic sales of our electronic components
and communications equipment at the point of shipment of those products. Product
returns are infrequent and require prior authorization because our sales are
final and we quality test our products prior to shipment to ensure they meet the
specifications of the binding purchase orders under which they are shipped.
Normally, when a customer requests and receives authorization to return a
product, the request is accompanied by a purchase order for a replacement
product.

         Revenue recognition for products and services provided by our United
Kingdom subsidiaries depends upon the type of contract involved.
Engineering/design services contracts generally entail design and production of
a prototype over a term of up to several years, with all revenue deferred until
all services under the contracts have been completed. Production contracts
provide for a specific quantity of products to be produced over a specific
period of time. Customers issue binding purchase orders for each suborder to be
produced. At the time each suborder is shipped to the customer, we recognize
revenue relating to the products included in that suborder. Returns are
infrequent and permitted only with prior authorization because these products
are custom made to order based on binding purchase orders and are quality tested
prior to shipment. Generally, these products carry a one-year limited parts and
labor warranty. We do not offer customer discounts, rebates or price protection
on these products.


                                       31


<PAGE>

         We recognize revenues for products sold by our French subsidiary at the
point of shipment. Customer discounts are included in the product price list
provided to the customer. Returns are infrequent and permitted only with prior
authorization because these products are shipped based on binding purchase
orders and are quality tested prior to shipment. Generally, these products carry
a two-year limited parts and labor warranty.

         Generally, our electronic components, network access and transmission
products and communication timing and synchronization products carry a one-year
limited parts and labor warranty and our communications test instruments and
European network access and transmission products carry a two-year limited parts
and labor warranty. Products returned under warranty are tested and repaired or
replaced at our option. Historically, warranty repairs have not been material.
We do not offer customer discounts, rebates or price protection on these
products.

         Revenues from services such as repairs and modifications are recognized
when the service has been completed and invoiced. For repairs that involve
shipment of a repaired product, we recognize repair revenues when the product is
shipped back to the customer. Service revenues represented approximately 2.6%,
5.7% and 3.1% of net sales during 2005, 2004 and 2003, respectively.

      INVENTORY VALUATION

         Our finished goods electronic components inventories generally are
built to order. Our communications equipment inventories generally are built to
forecast, which requires us to produce a larger amount of finished goods in our
communications equipment business so that our customers can promptly be served.
Our products consist of numerous electronic and other parts, which necessitates
that we exercise detailed inventory management. We value our inventory at the
lower of the actual cost to purchase or manufacture the inventory (first-in,
first-out) or the current estimated market value of the inventory (net
realizable value). We perform physical inventories at least once a year. We
regularly review inventory quantities on hand and record a provision for excess
and obsolete inventory based primarily on our estimated forecast of product
demand and production requirements for the next twelve months. Additionally, to
determine inventory write-down provisions, we review product line inventory
levels and individual items as necessary and periodically review assumptions
about forecasted demand and market conditions. Any parts or finished goods that
we determine are obsolete, either in connection with the physical count or at
other times of observation, are reserved for and subsequently discarded and
written-off.

         In addition, the communications equipment industry is characterized by
rapid technological change, frequent new product development, and rapid product
obsolescence that could result in an increase in the amount of obsolete
inventory quantities on hand. Also, our estimates of future product demand may
prove to be inaccurate, in which case we may have understated or overstated the
provision required for excess and obsolete inventory. Although we make every
effort to ensure the accuracy of our forecasts of future product demand, any
significant unanticipated changes in demand or technological developments could
have a significant impact on the value of our inventory and our reported
operating results.

      FOREIGN CURRENCY TRANSLATION

         We have foreign subsidiaries that together accounted for approximately
61.7% of our net revenues, 47.3% of our assets and 53.1% of our total
liabilities as of and for the year ended December 31, 2005. In preparing our
consolidated financial statements, we are required to translate the financial
statements of our foreign subsidiaries from the currencies in which they keep
their accounting records into United States dollars. This process results in
exchange gains and losses which, under relevant accounting guidance, are
included either within our statement of operations or as a separate part of our
net equity under the caption "accumulated other comprehensive income (loss)."


                                       32


<PAGE>

         Under relevant accounting guidance, the treatment of these translation
gains or losses depends upon our management's determination of the functional
currency of each subsidiary. This determination involves consideration of
relevant economic facts and circumstances affecting the subsidiary. Generally,
the currency in which the subsidiary transacts a majority of its transactions,
including billings, financing, payroll and other expenditures, would be
considered the functional currency. However, management must also consider any
dependency of the subsidiary upon the parent and the nature of the subsidiary's
operations.

         If management deems any subsidiary's functional currency to be its
local currency, then any gain or loss associated with the translation of that
subsidiary's financial statements is included as a separate component of
stockholders' equity in accumulated other comprehensive income (loss). However,
if management deems the functional currency to be United States dollars, then
any gain or loss associated with the translation of these financial statements
would be included within our statement of operations.

         If we dispose of any of our subsidiaries, any cumulative translation
gains or losses would be realized into our statement of operations. If we
determine that there has been a change in the functional currency of a
subsidiary to United States dollars, then any translation gains or losses
arising after the date of the change would be included within our statement of
operations.

         Based on our assessment of the factors discussed above, we consider the
functional currency of each of our international subsidiaries as each
subsidiary's local currency. Accordingly, we had cumulative translation losses
of $870,000 and gains of $487,000 that were included as part of accumulated
other comprehensive income within our balance sheets at December 31, 2005 and
2004, respectively. During the years ended December 31, 2005 and 2004, we
included translation adjustments of losses of approximately $1,357,000 and gains
of $379,000, respectively, under accumulated other comprehensive income (loss).

         If we had determined that the functional currency of our subsidiaries
was United States dollars, these gains or losses would have decreased or
increased our gain or loss for 2005 and 2004. The magnitude of these gains or
losses depends upon movements in the exchange rates of the foreign currencies in
which we transact business as compared to the value of the United States dollar.
These currencies include the euro, the British pound sterling and the Japanese
yen. Any future translation gains or losses could be significantly higher or
lower than those we recorded for these periods.

         A $6,296,000 loan payable from EEL to EMRISE was outstanding as of
December 31, 2005. This loan is not expected to be outstanding indefinitely.
Therefore, exchange rate losses and gains on this loan are recorded in
cumulative translation gains or losses in the equity section of the balance
sheet.

      INTANGIBLES, INCLUDING GOODWILL

         We periodically evaluate our intangibles, including goodwill, for
potential impairment. Our judgments regarding the existence of impairment are
based on legal factors, market conditions and operational performance of our
acquired businesses.

         In assessing potential impairment of goodwill, we consider these
factors as well as forecasted financial performance of the acquired businesses.
If forecasts are not met, we may have to record additional impairment charges
not previously recognized. In assessing the recoverability of our goodwill and
other intangibles, we must make assumptions regarding estimated future cash
flows and other factors to determine the fair value of those respective assets.
If these estimates or their related assumptions change in the future, we may be
required to record impairment charges for these assets that were not previously
recorded. If that were the case, we would have to record an expense in order to
reduce the carrying value of our goodwill. On January 1, 2002, we adopted
Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and
Other Intangible Assets," and were required to analyze our goodwill for


                                       33


<PAGE>

impairment issues by June 30, 2002, and then at least annually after that date
or more frequently if an event occurs or circumstances change that would more
likely than not reduce the fair value of a reporting unit below its carrying
amount. At December 31, 2005, the reported goodwill totaled $12,066,000. During
2005, we did not record any impairment losses related to goodwill and other
intangible assets.

         In conjunction with our July 2004 acquisition of Larus Corporation, we
commissioned a valuation firm to determine what portion of the purchase price
should be allocated to identifiable intangible assets. The study is complete and
the intangible values are as follows: Larus trade name and trademark are valued
at $750,000 compared to our initial estimate of $2,800,000, and the technology
and customer relationships are valued at $1,350,000 as compared to our initial
estimate of $800,000. Goodwill associated with the Larus Corporation acquisition
totaled $4,043,000. The Larus trade name and trademark were determined to have
indefinite lives and therefore are not being amortized but rather are being
periodically tested for impairment. The technology and customer relationships
were both estimated to have ten-year lives and, as a result, $162,000 of
amortization expense was recorded and charged to administrative expense in 2005.

         In conjunction with our March 2005 acquisition of Pascall, we selected
a valuation firm to determine what portion of the purchase price should be
allocated to identifiable intangible assets. We considered whether the
acquisition included various types of identifiable intangible assets, including
trade names, trademarks, covenants not to compete, patents, customers,
workforce, technology and software. The Pascall trade name and trademark are
valued at $500,000 and are not amortized. The covenants not to compete that were
obtained from Pascall's former affiliates are valued at $200,000 amortizable
over three years in light of public statements made by those affiliates
indicating that they were strategically exiting the power supply business, which
we believe results in a low probability that they would return to the power
supply business absent the covenants not to compete. The backlog was valued at
$200,000 amortizable over two years. Total amortization expense of $310,000 was
charged to administrative expense in 2005. We believe that no other identifiable
intangible assets of significant value were acquired. No patents were acquired.
We did not ascribe any value to Pascall's customer base because EEL already was
selling to Pascall's key customers prior to the acquisition. Pascall's workforce
does not hold any special skills that are not readily available from other
sources. We did not identify any valuable completed technology that was
acquired, because Pascall utilizes non-proprietary technology to produce custom
power supplies pursuant to customer specifications. Pascall does not develop or
design software and does not own software of any material value.

         Accordingly, we estimated that the goodwill associated with the Pascall
acquisition totaled $4,634,000. The Pascall trade name and trademark were
determined to have indefinite lives and therefore are not being amortized but
rather are being periodically tested for impairment. The covenants not to
compete and backlog are being amortized over their respective three-year and
two-year durations.

         In conjunction with our acquisition of RO, we commissioned a valuation
firm to determine what portion of the purchase price should be allocated to
identifiable intangible assets. The valuation study of RO's intangibles was
completed in June 2006. We initially estimated the intangibles to be valued as
follows: technology, $484,000, trademarks, $300,000 and customer relationships,
$200,000. The valuation study resulted in the following valuations: technology,
$500,000, trademarks, $350,000 and customer relationships, $350,000. The
intangibles were adjusted to the appraised values in the second quarter of 2006.
The technology and customer relationships are being amortized over 10 years on
their appraise values and the trademarks are not being amortized due to the
inability to determine an estimated life.


                                       34


<PAGE>

RESULTS OF OPERATIONS

         The tables presented below, which compare our results of operations
from one period to another, present the results for each period, the change in
those results from one period to another in both dollars and percentage change,
and the results for each period as a percentage of net sales. The columns
present the following:

         o The first two data columns in each table show the absolute results
for each period presented.

         o    The columns entitled "Dollar Variance" and "Percentage Variance"
              show the change in results, both in dollars and percentages. These
              two columns show favorable changes as a positive and unfavorable
              changes as negative. For example, when our net sales increase from
              one period to the next, that change is shown as a positive number
              in both columns. Conversely, when expenses increase from one
              period to the next, that change is shown as a negative in both
              columns.

         o    The last two columns in each table show the results for each
              period as a percentage of net sales.

<TABLE>

                 YEAR ENDED DECEMBER 31, 2005 (RESTATED) COMPARED TO YEAR ENDED DECEMBER 31, 2004 (RESTATED)

                                                                                                     RESULTS AS A PERCENTAGE
                                                                                                       OF NET SALES FOR THE
                                                 YEAR ENDED                                                 YEAR ENDED
                                                 DECEMBER 31,             DOLLAR      PERCENTAGE           DECEMBER 31,
                                          --------------------------     VARIANCE      VARIANCE      ------------------------
                                             2005           2004         FAVORABLE     FAVORABLE        2005         2004
                                          (RESTATED)     (RESTATED)    (UNFAVORABLE) (UNFAVORABLE)   (RESTATED)    (RESTATED)
                                          -----------    -----------    -----------    ----------    ----------    ----------
                                                                         (DOLLARS IN THOUSANDS)
<S>                                       <C>            <C>            <C>                <C>           <C>           <C>
Net sales
   Electronic components ..............   $    25,687    $    15,262    $    10,425        68.3%         62.6%         51.5%
   Communications equipment ...........        15,583         14,375          1,208         8.4%         37.8%         48.5%
                                          -----------    -----------    -----------    ----------    ----------    ----------
Total net sales .......................        41,270         29,637         11,633        39.3%        100.0%        100.0%
                                          -----------    -----------    -----------    ----------    ----------    ----------

Cost of sales
   Electronic components ..............        15,527          9,024         (6,503)      (72.1)%        37.6%         30.4%
   Communications equipment ...........         8,187          7,065         (1,122)      (15.9)%        19.8%         23.8%
                                          -----------    -----------    -----------    ----------    ----------    ----------
   Total cost of sales ................        23,714         16,089         (7,625)      (47.4)%        57.5%         54.3%
                                          -----------    -----------    -----------    ----------    ----------    ----------

Gross profit
   Electronic components ..............        10,160          6,238          3,922        62.9%         24.6%         21.0%
   Communications equipment ...........         7,396          7,310             86         1.2%         17.9%         24.7%
                                          -----------    -----------    -----------    ----------    ----------    ----------
   Total gross profit .................        17,556         13,548          4,008        29.6%         42.5%         45.7%
                                          -----------    -----------    -----------    ----------    ----------    ----------

Selling, general and administrative
   expenses ...........................        13,707         10,212         (3,495)       34.2%         33.2%         34.6%
Engineering and product development ...         2,621          1,521         (1,100)      (72.3)%         6.4%          5.1%
Operating income ......................         1,228          1,815           (587)      (32.3)%         3.0%          6.1%
Interest expense ......................          (455)          (433)           (22)       (5.1)%        (1.1)%        (1.5)%
Interest income .......................           153             --            153          --           0.4%          0.0%
Other income and expense ..............           248             (6)           254     4,233.3%          0.6%          0.0%
Income before income tax expense ......         1,174          1,376           (202)      (14.7)%         2.8%          4.6%
Income tax expense ....................          (267)            49            316       644.9%         (0.6)%         0.2%
                                          -----------    -----------    -----------    ----------    ----------    ----------
Net income ............................   $     1,441    $     1,327    $       114         8.6%          3.5%          4.5%
                                          ===========    ===========    ===========    ==========    ==========    ==========
</TABLE>

                                       35


<PAGE>

         NET SALES. The $11,633,000 (39.3%) increase in total net sales for 2005
as compared to 2004 resulted from the combination of a $10,425,000 (68.3%)
increase in net sales of our electronic components and a $1,208,000 (8.4%)
increase in net sales of our communications equipment products and services.

         ELECTRONIC COMPONENTS. The increase in net sales of our electronic
components segment resulted primarily from the inclusion in our 2005 results of
Pascall's $11,157,000 sales of power supplies and RF components and RO's
$1,925,000 sales of power conversion products and licensing. This increase
occurred despite a $2,939,000 (32.0%) decrease in sales at XPS primarily related
to reduced sales of power supplies due to the delay of deliveries for the
Eurofighter Typhoon aircraft. Sales of switches manufactured by Digitran
increased $1,021,000 (18.5%) to $6,545,000 for 2005 from $5,524,000 for the
prior year period due to sales of new rotary switches and other new programs for
our digital switches.

         We first reported sales of RF devices during the three months ended
March 31, 2005 due to the Pascall acquisition. We acquired RO on August 31,
2005. If we excluded sales by Pascall from March 18, 2005 through December 31,
2005 and sales by RO for September through December 31, 2005, our electronic
components segment sales would have declined by $2,657,000 or (17.4%) for 2005.
We currently anticipate that our sales of electronic components will increase in
2006, based upon informal indications we have received from various customers
and based upon recent increases in our backlog, especially including orders
relating to the Eurofighter Typhoon aircraft.

         COMMUNICATIONS EQUIPMENT. The $1,208,000 increase in net sales of our
communications equipment segment resulted primarily from the inclusion in our
2005 results of the full year of $5,974,000 of net sales of communication timing
and synchronization products attributable to our acquisition of Larus
Corporation that occurred on July 13, 2004 as compared to sales of $3,424,000
for the period from July 13, 2004 to December 31, 2004. This increase occurred
despite a $869,000 (24.6%) decline in net sales of test instruments primarily
due to delays and non-receipt of expected orders from large carriers. Sales of
network access equipment produced by CXR-AJ in France decreased by $380,000
(6.2%) to $5,759,000 in 2005 as compared to $6,139,000 in 2004 due to lower
sales volume in military markets. We do not anticipate that sales of our
communications test equipment will improve in 2006. We anticipate that sales of
our network access products both in France and more importantly in the United
States will grow as new sales channels and our stronger marketing presence
becomes effective and we work to utilize our two new United States-based
distributors we established relationships with during 2005.

         GROSS PROFIT. Gross profit as a percentage of total net sales decreased
to 42.5% from 45.7% for the prior year period. In dollar terms, gross profit
increased by $4,008,000 (29.6%) to $17,556,000 for 2005 as compared to
$13,548,000 for 2004.

         ELECTRONIC COMPONENTS. The $3,922,000 (62.9%) increase in gross profit
for our electronic components segment was primarily due to the inclusion in our
results for 2005 of $3,484,000 of gross profit from Pascall and $788,000 of
gross profit from RO. Partially offsetting these increases was a $244,000
reduction in gross profit from switches primarily due to product mix and a
$399,000 decrease in gross profit on power supplies produced by XPS as a direct
result of reduced sales volume due to contract delivery delays for the
Eurofighter Typhoon aircraft. We expect overall sales of power supplies in 2006
to exceed overall sales of power supplies in 2005 based upon informal
indications we have received from various customers and increased backlog. XCEL
Japan Ltd. increased its gross profit by $346,000 (62.0%) to $904,000 from
$558,000 in the prior year due to increased sales of higher margin military
switches.

         COMMUNICATIONS EQUIPMENT. This segment had a slight $86,000 decrease in
gross profits. CXR Larus contributed $2,755,000 of gross profit for 2005
relating to net sales of network access and communication timing and
synchronization products as compared to $1,782,000 for the period from July 13,
2004 to December 31, 2004. Gross profit for test instruments decreased $805,000
(30.4%) to $1,845,000 in 2005 as compared to $2,650,000 in 2004 due to lower


                                       36


<PAGE>

volume. Due to reduced overhead costs, CXR-AJ recorded a relatively low $84,000
decrease in gross profit despite a $359,000 decline in sales, resulting in a
gross margin for CXR-AJ of 42.0% in 2005 as compared to a gross margin for
CXR-AJ of 41.0% in 2004. We plan to have our timing and other network access
products built for us under a signed contract with Hitachi OMD and thereby
expect to increase gross margins over our in-house manufacturing.

         SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Our selling, general and
administrative expenses increased in dollar terms but decreased as a percentage
of net sales to 33.2% in 2005 from 34.5% in 2004. The $3,495,000 (34.2%)
increase in selling, general and administrative expenses for 2005 as compared to
2004 resulted from:

         o        a $359,000 (54.8%) increase in sales commissions due to the
                  increase or inclusion of $85,000, $243,000 and $73,000 of
                  sales commission expenses of CXR Larus, Pascall and RO,
                  respectively, partially offset by reductions in commission
                  expenses of $22,000 for test instruments and $22,000 for our
                  French-produced network access products;

         o        a $1,505,000 (48.5%) increase in other selling and marketing
                  expenses primarily due to an increase of $694,000 and the
                  inclusion of $924,000 and $71,000 of selling expenses of our
                  Larus division, Pascall and RO, respectively, attendance at
                  tradeshows and increased advertising and marketing of our
                  electronic components. These increases were partially offset
                  by decreases in these expenses of $71,000 for test instruments
                  and $118,000 at CXR-AJ;

         o        a $1,622,000 (25.1%) increase in administrative expenses
                  primarily due to the increase or inclusion of $337,000 and
                  $775,000 of administrative costs for our Larus division and
                  Pascall, respectively;

         o        $74,000 in severance costs we recorded to administrative
                  expense to reflect a consolidation of CXR Larus' operations;

         o        a $55,000 expense we recorded for a repair provision for the
                  building in Wales that we vacated to combine our coil winding
                  business with XPS's operations in Ashford, England; and

         o        an increase of $144,000 in United States corporate legal
                  expenses and a $282,000 increase in our domestic accounting
                  and auditing expenses plus an increase of $227,000 in
                  consulting fees relating to internal control documentation in
                  response to the Sarbanes-Oxley Act of 2002.

         We anticipate that selling, general and administrative expenses for
2006 will exceed those expenses for 2005 due to costs associated with the
reaudit of our consolidated financial statements for the years ending December
31, 2003, 2004 and 2005, integrating Pascall and RO, increased sales and
marketing expenses for our new low profile rotary and digital switches,
increased activity in searching for and analyzing potential acquisitions,
expansion of our investor relations program and increased corporate governance
activities in response to the Sarbanes-Oxley Act of 2002 and rules and
regulations of the Securities and Exchange Commission ("Commission"). However we
continue to seek efficiencies and cost savings at all operations.


                                       37


<PAGE>

         ENGINEERING AND PRODUCT DEVELOPMENT EXPENSES. Engineering and product
development expenses consist primarily of new product development engineering
activities. The $1,100,000 (72.3%) increase in these expenses resulted primarily
from the increase of $443,000 of expenses attributable to our Larus division and
a $513,000 increase in engineering expenses attributable to Pascall. Also,
expenses related to development of our new low profile rotary switches increased
$58,000 (12.0%) to $540,000 for 2005 as compared to $482,000 for 2004. We expect
this higher level of expense to continue through 2006 as we continue to develop
our new family of rotary switches and pursue long term opportunities for a new
timing and synchronization product. During 2005, we eliminated one of our two
engineering directors at CXR Larus, which is helping to offset approximately
$75,000 of our increased engineering expenses on an annual basis.

         INTEREST EXPENSE AND OTHER INCOME. Interest expense increased by
$22,000 (5.1%) to $455,000 for 2005 as compared to $433,000 for 2004. In
addition, we recorded $153,000 of interest income in 2005, which we earned on
the proceeds of the January 5, 2005 private placement. We did not have interest
income during 2004. Other income of $248,000 for 2005 primarily resulted from a
$100,000 gain due to the sale of our T-Com product line and $123,000 of a net
currency exchange gain. The T-Com technology and tangible assets had no carrying
value.

         INCOME TAX EXPENSE. Income tax benefit for 2005 was $267,000, compared
to an expense of $49,000 for 2004 primarily because we reduced our tax asset
valuation allowance by $555,000 and recorded a federal tax benefit of $150,000
that was offset by our foreign tax provision of $408,000 and a state tax
provision of $30,000.

         NET INCOME. Net income for 2005 increased by $114,000 to $1,441,000 as
compared to $1,327,000 for 2004. The increase was primarily due to an increase
in gross profit in our electronic components segment resulting from our
acquisitions of Pascall and RO. We continue to closely monitor costs throughout
our operations and have reduced costs through staffing reductions in our
communications equipment operations in the United States and France as indicated
above.


                                       38


<PAGE>

<TABLE>
                      YEAR ENDED DECEMBER 31, 2004 (RESTATED) COMPARED TO YEAR ENDED DECEMBER 31, 2003

                                                                                                     RESULTS AS A PERCENTAGE
                                                                                                       OF NET SALES FOR THE
                                                 YEAR ENDED                                                 YEAR ENDED
                                                 DECEMBER 31,             DOLLAR      PERCENTAGE           DECEMBER 31,
                                          --------------------------     VARIANCE      VARIANCE      ------------------------
                                             2004                        FAVORABLE     FAVORABLE        2004
                                          (RESTATED)        2003       (UNFAVORABLE) (UNFAVORABLE)   (RESTATED)       2003
                                          -----------    -----------    -----------    ----------    ----------    ----------
                                                                         (DOLLARS IN THOUSANDS)
<S>                                       <C>            <C>            <C>                <C>           <C>           <C>
Net sales
  Electronic components ................  $    15,262    $    16,168    $      (906)       (5.6)%        51.5%         63.4%
  Communications equipment .............       14,375          9,351          5,024        53.7%         48.5%         36.6%
                                          -----------    -----------    -----------    ----------    ----------    ----------
     Total net sales ...................       29,637         25,519          4,118        16.1%        100.0%        100.0%
                                          -----------    -----------    -----------    ----------    ----------    ----------

Cost of sales
  Electronic components ................        9,024          9,530            506         5.3%         30.4%         37.3%
  Communications equipment .............        7,065          5,305         (1,760)      (33.2)%        23.8%         20.8%
                                          -----------    -----------    -----------    ----------    ----------    ----------
     Total cost of sales ...............       16,089         14,835         (1,254)       (8.5)%        54.3%         58.1%
                                          -----------    -----------    -----------    ----------    ----------    ----------

Gross profit
  Electronic components ................        6,238          6,638           (400)       (6.0)%        21.0%         26.0%
  Communications equipment .............        7,310          4,046          3,264        80.7%         24.7%         15.9%
                                          -----------    -----------    -----------    ----------    ----------    ----------
     Total gross profit ................       13,548         10,684          2,864        26.8%         45.7%         41.9%
                                          -----------    -----------    -----------    ----------    ----------    ----------

Selling, general and administrative
  expenses .............................       10,212          7,812          2,400        30.7%         34.5%         30.6%
Engineering and product development
  expenses .............................        1,521            951            570       (59.9)%         5.1%          3.7%
Operating income .......................        1,815          1,921           (106)       (5.5)%         6.1%          7.5%
Interest expense .......................         (433)          (416)           (17)       (4.1)%        (1.5)%        (1.6)%
Other expense ..........................           (6)           (58)            52        89.7%          0.0%         (0.2)%
Income before income tax expense .......        1,376          1,447            (71)       (4.9)%         4.6%          5.7%
Income tax expense .....................           49            286           (237)       82.9%          0.2%          1.1%
                                          -----------    -----------    -----------    ----------    ----------    ----------
Net income .............................  $     1,327    $     1,161    $       166        14.3%          4.5%          4.5%
                                          ===========    ===========    ===========    ==========    ==========    ==========
</TABLE>

         NET SALES. The $4,118,000 (16.1%) increase in total net sales for 2004
as compared to 2003 resulted from the combination of a $906,000 (5.6%) decrease
in net sales of our electronic components and a $5,024,000 (53.7%) increase in
net sales of our communications equipment products and services.

         ELECTRONIC COMPONENTS. The decrease in net sales of our electronic
components segment resulted from:

         o        a $2,012,000 (20.1%) decrease in net sales of power supplies
                  and subassemblies by XPS that we believe was primarily due to
                  deferral of orders for the Eurofighter Typhoon aircraft; and

         o        a $67,000 (23.1%) decrease in sales of electronic subsystem
                  assemblies produced by Digitran, which we believe was
                  primarily due to a delay in the United States government's
                  transfer of a contract from one prime contractor to another.


                                       39


<PAGE>

These decreases were only partially offset by the following:

         o        a $217,000 (4.1%) increase in net sales of switches
                  manufactured by Digitran, which was primarily a result of an
                  increase in the volume of orders for spare parts that we
                  believe was mainly due to increased military activities;

         o        an increase from $1,000 in 2003 to $28,000 in 2004 in net
                  sales of a new standard rotary switch and then patent pending
                  VLP(TM) rotary switches that were introduced by Digitran in
                  2004; and

         o        a $956,000 (164.3%) increase in net revenue from service and
                  miscellaneous other electronic component products primarily
                  due to increased service business volume at XPS.

         COMMUNICATIONS EQUIPMENT. The increase in net sales of our
communications equipment products and services resulted from:

         o        a $2,112,000 (34.4%) increase in net sales of network access
                  and transmission equipment, which primarily consisted of
                  $1,952,000 in sales made by CXR Larus as a direct result of
                  our acquisition of Larus Corporation in July 2004;

         o        $1,298,000 of net sales of communication timing and
                  synchronization products by CXR Larus from July through
                  December 2004, prior to which time we did not have a similar
                  product line; and

         o        a $1,384,000 (64.5%) increase in net sales of our CXR HALCYON
                  704 series field test equipment, which was primarily due to a
                  $1,800,000 order we received and delivered in the fourth
                  quarter of 2004 for a project that had been under development
                  since 2002.

These increases were partially offset by the curtailment during 2004 of orders
for CXR Larus test equipment by another large customer who shifted its focus to
fiber and HDSL services.

         GROSS PROFIT. The four percentage point increase in gross profit as a
percentage of total net sales and the $2,864,000 (26.8%) increase in total gross
profit in 2004 as compared to 2003 resulted from gross profit decreases in our
electronic components segment that were more than offset by gross profit
increases in our communications equipment segment.

         ELECTRONIC COMPONENTS. The $400,000 (6.0%) decrease in gross profit for
our electronic components segment was primarily due to the large reduction in
sales of power supplies described above.

         COMMUNICATIONS EQUIPMENT. The $3,264,000 (80.7%) increase in gross
profit for our communications equipment segment and the 8.8% increase in this
segment's gross profit as a percentage of total net sales were primarily the
result of the addition of Larus Corporation's $1,782,000 gross profit resulting
from net sales of communication timing and synchronization products for July
through December 2004 and a $1,423,000 increase in gross profit at CXR Larus as
a result of a large increase in high gross margin sales of CXR Halcyon
communications test equipment. Excluding the addition of Larus Corporation
sales, gross profit for network access equipment increased approximately $60,000
(2.1%).

         SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. The $2,400,000 (30.7%)
increase in selling, general and administrative expenses in 2004 as compared to
2003 resulted primarily from:

         o        $994,000 in selling, general and administrative expenses
                  generated by Larus Corporation following its acquisition in
                  July 2004;


                                       40


<PAGE>

         o        a $73,000 (12.0%) increase in sales expense at CXR Larus
                  mostly related to commissions for the large orders they
                  obtained during 2004;

         o        a $110,000 (53.9%) increase in selling expense at Digitran
                  related to support for our new line of rotary switches;

         o        a $56,000 (19.6%) increase in selling expense at XPS to
                  improve marketing of power supplies;

         o        a $99,000 (110.0%) increase in corporate legal fees and
                  $67,000 (35.9%) increase in auditing fees partially due to
                  requirements of the Sarbanes-Oxley Act of 2002;

         o        a $126,000 (91.3%) increase in deferred compensation;

         o        a $68,000 (42.5%) increase in stockholder relations and
                  investor relations expenses; and

         o        a $180,000 (18.3%) increase in corporate salaries, bonus and
                  expenses partially due to foreign currency exchange rate
                  fluctuation.

          Some of the reasons for higher administrative expenses were increased
acquisition activities, costs of changing our name to EMRISE Corporation and
complying with the requirements of the Sarbanes-Oxley Act of 2002 and related
rules, and increased investor relations activities.

         ENGINEERING AND PRODUCT DEVELOPMENT EXPENSES. Engineering and product
development expenses consist primarily of research and product development
activities. The $570,000 (59.9%) increase in these expenses resulted from:

         o        the inclusion of $200,000 of these expenses from Larus
                  Corporation;

         o        an $80,000 (65.6%) increase in these expenses at CXR Larus
                  relating to test instruments;

         o        a $53,000 (91.1%) increase in these expenses at CXR-AJ for
                  network access equipment; and

         o        a $237,000 (96.7%) increase in expenses at Digitran for the
                  new line of rotary switches.

         INTEREST EXPENSE. Although our bank interest expense declined $58,000
(13.9%) due to our new credit line with Wells Fargo Bank, N.A., this benefit was
more than offset by the $75,000 interest we paid on the notes we issued to
acquire Larus Corporation.

         INCOME TAX EXPENSE. Income tax expense for 2004 was $49,000 as compared
to $286,000 in 2003. The 2004 tax provision was composed of $177,000 net foreign
income taxes and $76,000 current federal and state taxes. These amounts were
offset with a $160,000 reduction of the valuation allowance applied against the
deferred tax asset. The release of the allowance was based on our recent and
expected U.S. based earnings and the probability that a portion of our tax net
operating loss carryforwards may be utilized.

         NET INCOME. Net income increased by $166,000 (14.3%) to $1,327,000 in
2004 from $1,161,000 in 2003. Our 2004 net income was helped by the contribution
of $628,000 of operating earnings from Larus Corporation, a $1,259,000 increase
in operating earnings by CXR Larus due to improved test instrument sales and an
improvement of $319,000 in operating earnings at CXR-AJ due to increased network
access sales. These improvements were partially offset by lower operating


                                       41


<PAGE>

earnings at our electronics components segment due to higher operating expenses
at Digitran and lower gross margin at XPS due to a lower sales volume of power
supplies. These changes resulted in our net income before taxes in 2004 of
$1,376,000, $71,000 less than 2003 net income before tax of $1,447,000. Our
income tax provision in 2004 was $49,000 as compared to $286,000 in 2003.

LIQUIDITY AND CAPITAL RESOURCES

         During 2005, we funded our operations primarily through revenue
generated from our operations and through our previous lines of credit with
Wells Fargo Bank, N.A. and various foreign banks. During 2005, we continued to
rely on our foreign credit facilities. In addition, we raised approximately
$16,060,000 in net proceeds through a private placement of equity securities in
January 2005 as described below to support our acquisition program. As of
December 31, 2005, we had working capital of $12,958,000, which represented a
$7,601,000 (141.9%) increase from working capital of $5,357,000 at December 31,
2004, primarily due to the proceeds from the private placement and the addition
of the working capital of Pascall and RO. At December 31, 2005 and 2004, we had
accumulated deficits of $15,118,000 and $16,559,000, respectively, and cash and
cash equivalents of $4,371,000 and $1,057,000, respectively.

         Accounts receivable increased $3,617,000 (62.4%) during 2005 from
$5,796,000 as of December 31, 2004 to $9,413,000 as of December 31, 2005. Sales
attributable to the Pascall and RO acquisitions contributed $11,157,000 and
$1,925,000, respectively, to accounts receivable at December 31, 2005. Without
the acquisitions of Pascall and RO, our receivables would have decreased by
$374,000 (6.5%) during 2005, primarily due to increased receivables for switches
and test instruments. Days sales outstanding, which is a measure of our average
accounts receivable collection period, increased from 61 days for 2004 to 67
days for 2005. Our customers include many Fortune 100 companies in the United
States and similarly large companies in Europe and Asia. Because of the
financial strength of our customer base, we incur few bad debts.

         Inventory balances increased $3,728,000 (56.9%) during 2005, from
$6,549,000 at December 31, 2004 to $10,277,000 at December 31, 2005. Inventory
represented 23.1% and 26.0% of our total assets as of December 31, 2005 and
December 31, 2004, respectively. Included in the December 31, 2005 amount is
$1,591,000 and $2,325,000 of inventory attributable to Pascall and RO,
respectively. Excluding the effect of this inclusion, inventory would have
increased by $469,000 (7.2%) and would have represented 22.6% of total assets
(excluding the $10,410,000 and $5,872,000 of total assets related to Pascall and
RO, respectively) at December 31, 2005. Inventory turnover, which is a ratio
that indicates how many times our inventory is sold and replaced over a
specified period, increased to 2.8 times for 2005 as compared to 2.6 times for
2004.

         We took various actions to reduce costs in 2005 and 2004. These actions
were intended to reduce the cash outlays of our communications equipment segment
to match its revenue rate, which was negatively impacted by the
telecommunications downturn of 2002 and 2003. We also have contracted with
offshore manufacturers for production of test equipment at lower prices than our
previous cost for in-house manufacturing. We have also contracted with Hitachi
to outsource the manufacture of our communication timing devices beginning
approximately in the second quarter of 2006. We merged Larus Corporation with
and into CXR Telcom Corporation at the end of 2004 and integrated their
operations.

         Cash provided by our operating activities totaled $1,140,000 for 2005
as compared to cash provided by operating activities of $3,884,000 for 2004.
This $2,744,000 decrease in operating cash flows primarily resulted from
payments made as planned reductions of accounts payable and accrued expenses.

         Cash used in our investing activities totaled $15,044,000 for 2005 as
compared to $2,208,000 for 2004. Included in the results for 2005 are net cash
of $10,154,000 and $4,623,000 used to acquire Pascall and RO, respectively. Also
we acquired $287,000 of property, plant and equipment purchases for production
equipment and computer equipment.


                                       42


<PAGE>

         Cash provided by our financing activities totaled $18,050,000 for 2005
as compared to $2,164,000 of cash used in our financing activities for 2004. The
change is primarily due to the net proceeds of $16,060,000 from the issuance of
common stock in the January 2005 private placement.

         Outstanding borrowings under our revolving lines of credit were as
follows:

<TABLE>
                                                                                            December 31,
                                                                                   -----------------------------
                                                                                        2005             2004
                                                                                   -------------    ------------
<S>                                                                                <C>              <C>
         Line of credit with a U.S. commercial lender.........................     $          --    $    118,000
         Lines of credit with foreign banks...................................         3,283,000         760,000
                                                                                   -------------    ------------
                                                                                   $   3,283,000    $    878,000
                                                                                   =============    ============
</TABLE>

         On August 25, 2005, we and two of our subsidiaries, CXR Laurus and
EMRISE Electronics, acting as guarantors, obtained a $9,000,000 revolving line
of credit facility from Wells Fargo Bank, N.A. for the our domestic operations.
As guarantors, each of CXR Larus and EMRISE Electronics was jointly and
severally liable with EMRISE for up to $9,000,000. This facility was initially
effective through September 1, 2006. The credit facility had no prepayment
penalty and was subject to an unused commitment fee equal to 0.25% per annum,
payable quarterly based on the average daily unused amount of the line of
credit.

         As of December 31, 2005, we had no outstanding balance owing under our
revolving credit line with Wells Fargo Bank, and had $2,000,000 of availability
on the non-formula based portion of the credit line. As of December 31, 2005, we
were in compliance with each of the covenants of the credit facility.

         On September 19, 2006, we entered into a Third Amendment to Credit
Agreement effective as of September 1, 2006 with Wells Fargo Bank. The amendment
provided for the waiver by Wells Fargo Bank of certain violations of financial
covenants in our existing credit facility. The amendment also provided for the
reduction in the amount of the credit facility from $9.0 million to $1.5 million
and limited borrowings to 80% of eligible accounts receivable. In connection
with the amendment, we executed a Revolving Line of Credit Note dated September
1, 2006 in the amount of $1.5 million. On October 9, 2006, we executed a letter
agreement dated effective October 1, 2006 with Wells Fargo Bank extending the
maturity date of the $1.5 million note to October 20, 2006.

         On November 13, 2006, Wells Fargo Bank issued a notice of default and
demand for payoff with respect to the $1.5 million note. All obligations under
the note were due and payable on November 20, 2006. On November 24, 2006, we
entered into a Forbearance Agreement with Wells Fargo Bank, dated effective as
of November 20, 2006, whereby Wells Fargo Bank agreed to forbear from exercising
its rights under the credit facility as described in the notice of default and
demand for payoff through December 1, 2006. On December 1, 2006, EMRISE
Corporation, EMRISE Electronics, CXR Larus, RO and Wells Fargo Bank acting
through its Wells Fargo Business Credit operating division ("WFBC") entered into
a Credit and Security Agreement providing for a revolving line of credit and
term loan. On December 5, 2006, we paid off the $1.5 million Wells Fargo Bank
credit facility in full.

         The credit facility with WFBC provides for a $5.0 million revolving
line of credit that expires on December 1, 2009. If WFBC terminates the credit
facility during a default period, or if we terminate or reduce the credit
facility prior to the maturity date, or if we prepay the term loan portion of
the facility, we will be subject to penalties as follows: if the termination or
prepayment occurs during the one year period after the initial funding date, the
penalty is equal to 3% of the maximum line amount and/or prepayment amount; if
the termination or prepayment occurs during second year after the initial


                                       43


<PAGE>

funding date, the penalty is equal to 2% of the maximum line amount and/or
prepayment amount; and if the termination or prepayment occurs at any time after
the second anniversary of the initial funding date and prior to the maturity
date, the penalty is equal to 1% of the maximum line amount and/or prepayment
amount . The credit facility is subject to an unused line fee equal to 0.25% per
annum, payable monthly based on the average daily unused amount of the line of
credit described in the following paragraph. The credit facility is also subject
to a minimum monthly interest charge of $8,500 with respect to the revolving
line of credit.

         The WFBC credit facility provides a $5,000,000 revolving line of credit
secured by accounts receivable, other rights to payment and general intangibles,
inventories and equipment. The line of credit is formula-based which generally
provides that the outstanding borrowings under the line of credit may not exceed
an aggregate of 80% of eligible accounts receivable plus 10% of the value of
eligible finished goods inventory. Interest is payable monthly. The interest
rate is variable and is adjusted monthly based on the prime rate plus 1%. The
prime rate at December 1, 2006 was 8.25%.

         The credit facility is subject to various financial covenants on a
consolidated basis as follows. The minimum debt service coverage ratio must be
greater than 1.20:1.00 on a trailing quarterly basis. "Debt service coverage
ratio" is defined as net income after taxes, plus depreciation, plus
amortization, plus or minus changes in deferred taxes, minus capital
expenditures and minus any dividends or distributions, divided by the current
maturities of long-term debt paid or scheduled to be paid plus any payments on
subordinated debt. The credit facility also requires that we maintain a minimum
book net worth, determined at the end of each calendar month, in an amount not
less than $26,900,000 for the months ended December 31, 2006, January 31, 2007
and February 28, 2007 and of not less than that amount plus 80% of our net
income for each calendar quarter ending on or after March 31, 2007 for each
calendar month ending March 31, 2007, and each calendar month thereafter. We
must not incur a net loss of greater than $1,150,000 for 2006 and for each
quarterly period occurring after December 31,2006, our net income must not be
less than $0.

         In the event of a default and continuation of a default, Wells Fargo
may accelerate the payment of the principal balance requiring us to pay the
entire indebtedness outstanding on that date. From and after the maturity date
of the credit facility, or any earlier date that all principal owing under the
credit facility becomes due and payable by acceleration or otherwise, the
outstanding principal balance will bear interest until paid in full at an
increased rate per annum equal to 3% above the rate of interest in effect from
time to time under the credit facility.

         The credit facility also provides for a term loan of $200,000 secured
by accounts receivable, other rights to payment and general intangibles,
inventories and equipment, amortizable over 36 months at a variable rate equal
to the prime rate plus 1%.

         As of December 31, 2005, our foreign subsidiaries had credit
facilities, including lines of credit and term loans, with Lloyds TSB Bank PLC
("Lloyds TSB") and Lloyds TSB Commercial Finance Limited ("Lloyds") in England,
IFN Finance, a subsidiary of ABN AMRO Holdings, N.V., Banc National de Paris,
Societe Generale in France, and Sogelease and Johnan Shinkin Bank in Japan. At
December 31, 2005, the balances outstanding under our United Kingdom, France and
Japan credit facilities were $3,006,000, $1,090,000 and $32,000, respectively.

         On July 8, 2005, XPS and Pascall obtained a 24-month credit facility
with Lloyds, which facility expires July 31, 2007. At the same time, the credit
facility of Venture Finance PLC, a subsidiary of ABN AMRO Holdings, N.V., was
terminated and paid off. The Lloyds facility provides a revolving loan secured
by receivables, with a maximum availability of 2,100,000 British pounds sterling
(approximately U.S. $3,613,000 based on the exchange rate in effect on December
31, 2005). The annual interest rate on the revolving loan is 1.5% above the
Lloyds TSB base rate. The Lloyds TSB base rate was 4.5% at December 31, 2005.


                                       44


<PAGE>

The financial covenants include a 50% cap on combined export gross sales of XPS
and Pascall and days sales outstanding of less than 65 days, and the funding
balance is capped at 125% of XPS and Pascall combined gross sales.

         On August 26, 2005, XPS entered into an agreement with Lloyds for an
unsecured cashflow loan of 300,000 British pounds sterling (approximately U.S.
$516,000 based on the exchange rate in effect on December 31, 2005 payable over
12 months). The loan is structured as an overadvance on the previously
negotiated 2,100,000 British pounds sterling revolving loan with Lloyds,
bringing the maximum aggregate commitment on the revolving loan to 2,400,000
British pounds sterling (approximately U.S. $4,129,000 based on the exchange
rate in effect on December 31, 2005).

         The unsecured cashflow loan of 300,000 British pounds sterling is
payable at a rate of 25,000 British pounds sterling per month, the first payment
falling due one month after initial drawdown on the revolving loan. The interest
rate is variable and is adjusted monthly based on the base rate of Lloyds TSB
plus 1.9%. The Lloyds TSB base rate at December 31, 2005 was 4.5%. Lloyds TSB
has sole discretion to switch the details on this overadvance account if Lloyds
determines that the Company will have difficulty in meeting the specific
reductions in the overadvance account.

         On August 26, 2005, EEL entered into an agreement with Lloyds TSB for
an unsecured term loan for 500,000 British pounds sterling (approximately U.S.
$860,000 based on the exchange rate in effect on December 31, 2005). This loan
is repayable in 36 consecutive monthly installments of principal and interest.
The interest rate is variable and is adjusted daily based on the Lloyds TSB base
rate plus 2.5%. The Lloyds TSB base rate at December 31, 2005 was 4.5%. The loan
also includes financial covenants. EEL must maintain consolidated profit before
taxation and interest paid and payable of no less than 500% of the consolidated
interest paid and payable. Additionally, EEL must maintain consolidated profit
before taxation, depreciation, amortization of goodwill and other intangibles
and interest paid and payable of no less than 300% of the consolidated principal
repayments and the consolidated interest paid and payable.

         In the event of a default, Lloyds TSB may make the loan, including any
outstanding principal and interest which has accrued, repayable on demand. If
any amount payable is not paid when due, EEL shall pay an increased interest
rate per annum equal to 3% above the rate of interest in effect from time to
time under the note.

         In April 2003, CXR-AJ obtained a credit facility from IFN Finance, a
subsidiary of ABN AMRO N.V. This credit facility is for a maximum of $1,421,000
based on the exchange rate in effect at December 31, 2005 for the conversion of
euros into United States dollars. CXR-AJ also had $34,000 of term loans with two
French banks outstanding as of December 31, 2005. The IFN Finance facility is
secured by accounts receivable and carries an annual interest rate of 1.6% above
the French "T4M" rate. At December 31, 2005, the French T4M rate was 2.26%, and
this facility had a balance of $1,056,000. This facility has no financial
performance covenants.

         XCEL Japan Ltd ("XJL"), obtained a term loan on November 29, 2002 from
Johnan Shinkin Bank. The loan is amortizable over five years, carries an annual
fixed interest rate of 3.25% and is secured by the assets of XJL. The balance of
the loan as of December 31, 2005 was $32,000 using the exchange rate in effect
at that date for conversion of Japanese yen into United States dollars. There
are no financial performance covenants applicable to this loan.

         Our backlog was $22,150,000 as of December 31, 2005 as compared to
$7,720,000 as of December 31, 2004. The increase in backlog was primarily due to
the addition of $7,183,000 of backlog for Pascall and $695,000 for RO. Without
Pascall and RO, our backlog as of December 31, 2005 would have been $14,272,000,
representing a $5,975,000 (77.4%) increase. Our backlog as of December 31, 2005


                                       45


<PAGE>

was 97.4% related to our electronic components business, which business tends to
provide us with long lead-times for our manufacturing processes due to the
custom nature of the products, and 2.6% related to our communications equipment
business, which business tends to deliver standard products from stock as orders
are received. The amount of backlog orders represents revenue that we anticipate
recognizing in the future, as evidenced by purchase orders and other purchase
commitments received from customers, but on which work has not yet been
initiated or with respect to which work is currently in progress. However, there
can be no assurance that we will be successful in fulfilling such orders and
commitments in a timely manner or that we will ultimately recognize as revenue
the amounts reflected as backlog.

         As described above under the heading "Overview," we acquired Larus
Corporation and Vista in July 2004. The $6,539,500 purchase price consisted of
$1,000,000 in cash, the issuance of 1,213,592 shares of our common stock with a
fair value of $1,000,000, $887,500 in the form of two short-term, zero interest
promissory notes that were repaid in 2004, $3,000,000 in the form of two
subordinated secured promissory notes, warrants to purchase up to an aggregate
of 150,000 shares of our common stock at $1.30 per share, and approximately
$580,000 of acquisition costs. In addition, we assumed $245,000 worth of
accounts payable and accrued expenses and entered into an above-market
seven-year real property lease with the sellers. This lease represents an
obligation that exceeds the fair market value by approximately $756,000 and is
part of the acquisition accounting. We funded the cash portion of the purchase
price using proceeds from our prior credit facility with Wells Fargo Bank and
our cash on-hand.

         On January 5, 2005, we issued to 17 accredited record holders in a
private offering an aggregate of 12,503,500 shares of common stock at a purchase
price of $1.44 per share and five-year investor warrants to purchase up to an
additional 3,125,875 shares of our common stock at an exercise price of $1.73
per share, for a total purchase price of $18,005,000. We paid cash placement
agent fees and expenses of approximately $961,000, and issued five-year
placement warrants to purchase up to an aggregate of 650,310 shares of common
stock at an exercise price of $1.73 per share in connection with the offering.
Additional costs related to the financing include registration rights-related
liquidated damages of $480,000 and legal, accounting and consulting fees that
totaled approximately $984,000 through December 31, 2005.

         We agreed to register for resale the shares of common stock issued to
investors and the shares of common stock issuable upon exercise of the investor
warrants and placement warrants. The registration obligations require, among
other things, that a registration statement be declared effective no later than
June 4, 2005. We were unable to meet this obligation and therefore paid to each
investor liquidated damages equal to 1% of the amount paid by the investor to us
in the offering, which damage payments totaled an aggregate of approximately
$180,000. We also paid to the investors liquidated damages totaling $300,000 for
the period from June 5, 2005 through June 30, 2005, the date the registration
statement was declared effective. We also will be required to pay to each
investor liquidated damages for any future periods in which we are unable to
maintain the effectiveness of the registration in accordance with the
requirements contained in the registration rights agreement we entered into with
the investors. These liquidated damages would be, and the liquidated damages
paid for the period from June 5, 2005 through June 30, 2005 were, equal to 2% of
the amount paid by each investor for the common shares still owned by the
investor on each monthly anniversary of the date of the default that occurs
prior to the cure of the default, pro rated on a daily basis for periods of
default shorter than one month. The maximum aggregate liquidated damages payable
to any investor will be equal to 10% of the aggregate amount paid by the
investor for the shares of our common stock. Accordingly, the maximum aggregate
penalty that we would be required to pay under this provision is 10% of the
$18,005,000 initial purchase price of the common stock, which would be
$1,801,000.

         On May 5, 2006, our audit committee concluded that our financial
statements for the years ended December 31, 2005 and 2004 and the interim
periods during 2005 and 2004 should no longer be relied upon. The audit
committee reached this conclusion after having discussions with our former


                                       46


<PAGE>

independent registered public accountants and management as part of an
investigation conducted by the audit committee in response to an inquiry by the
staff of the Securities and Exchange Commission's Division of Enforcement. As a
result of the audit committee's conclusion regarding our financial statements,
on May 9, 2006, the registration statement was no longer effective. This event
triggered the liquidated damages provision contained in the registration rights
agreement. During the months of June through November 2006, we paid to the
remaining investors liquidated damages equal to $44,064 per month for a total of
$220,320.

         We used a portion of the proceeds from the January 2005 private
placement to fund the acquisition of Pascall. In connection with the Pascall
acquisition, we loaned to EMRISE Electronics approximately $10,100,000 in cash
that was used to acquire Pascall and to repay Pascall's existing intercompany
debt. As described above, the Pascall purchase price is subject to upward or
downward adjustment, and accordingly we paid $237,000 to Intelek on August 1,
2005 to compensate for an upward adjustment of Pascall's net worth. We have
guaranteed obligations of EMRISE Electronics in connection with the Pascall
acquisition and have agreed to indemnify Pascall's former parent in connection
with obligations under Pascall's facilities lease.

         We used another portion of the proceeds from the January 2005 private
placement to partially fund the acquisition of RO. We used $4,002,000 of cash to
acquire RO, including paying down RO's bank debt of $1,602,000. In addition, we
agreed to make two deferred payments of $300,000 each, the first of which we
paid in October 2005, and the second of which was due on March 31, 2006.
Offsetting these amounts was $35,000 received from the former RO shareholders to
compensate for balance sheet adjustments.


                                       47


<PAGE>

         The following table outlines payments due from us or our subsidiaries
under our lines of credit and other significant contractual obligations over the
next five years, exclusive of interest. All dollars are in thousands. The symbol
"P" represents the prime rate, the symbol "B" represents the lender's base rate
and the symbol "L" represents the 30-day LIBOR.

<TABLE>
<S>       <C>
                                                       PAYMENTS DUE BY PERIOD
        CONTRACTUAL                                        (IN THOUSANDS)
       OBLIGATIONS AT
     DECEMBER 31, 2005           2006        2007        2008          2009         2010      THEREAFTER      TOTAL
-------------------------    ----------   ----------   ----------   ----------   ----------   ----------   ----------
Line of Credit (Domestic)    $       --   $       --   $       --   $       --   $       --   $       --   $       --
   Average Interest Rate       P+0.5%
Line of Credit (U.K.)        $    2,227   $       --   $       --   $       --   $       --   $       --   $    2,227
   Average Interest Rate        B+2%
Overdraft (France)           $    1,056   $       --   $       --   $       --   $       --   $       --   $    1,056
   Average Interest Rate          %
Term Loan From
Stockholders (Domestic)      $      500   $      500   $      500   $      500   $      250   $       --   $    2,250
                               P+1.5%,
   Average Interest Rate       L+5.0%
Capital Equipment Loan
   (U.S.)                    $       26   $       26   $       26   $       26   $       19   $       --   $      123
   Average Interest Rate        L+4%
Term Loans (U.S.)            $       50   $       25   $       --   $       --   $       --   $       --   $       75
   Average Interest Rate       P+1.5%
Term Loan (U.K.)             $      292   $      292   $      195   $       --   $       --   $       --   $      779
   Average Interest Rate        B+2%
Term Loans (France)          $       10   $       10   $       10   $        5   $       --   $       --   $       35
   Average Interest Rate      1.2%-5.6%
Term Loan (Japan)            $       17   $       15   $       --   $       --   $       --   $       --   $       32
   Average Interest Rate        3.25%
Capitalized Lease
  Obligations                $      116   $       56   $       25   $        6   $       --   $       --   $      203
Operating Leases             $    1,202   $    1,140   $      745   $      551   $      430   $      162   $    4,230
-------------------------    ----------   ----------   ----------   ----------   ----------   ----------   ----------
                             $    5,496   $    2,064   $    1,501   $    1,088   $      699   $      162   $   11,010
</TABLE>

         We intend to grow our business through both internal growth and further
acquisitions that we identify as being potentially both synergistic and
accretive of our earnings. Any additional acquisitions would likely be funded
through the use of cash and/or a combination of cash and notes.

         We believe that current and future available capital resources,
revenues generated from operations, and other existing sources of liquidity,
including the credit facilities we currently have and expect to have with Wells
Fargo Business Credit, will be adequate to meet our anticipated working capital
and capital expenditure requirements for at least the next twelve months. If,
however, our capital requirements or cash flow vary materially from our current
projections, if unforeseen circumstances occur, or if we require a significant
amount of cash to fund future acquisitions, we may require additional financing.
Our failure to raise capital, if needed, could restrict our growth, limit our
development of new products or hinder our ability to compete.


                                       48


<PAGE>

EFFECTS OF INFLATION

         The impact of inflation and changing prices has not been significant on
the financial condition or results of operations of either our company or our
operating subsidiaries.

IMPACTS OF NEW ACCOUNTING PRONOUNCEMENTS

         In November 2004, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 151, INVENTORY COSTS, AN AMENDMENT OF ARB NO. 43, CHAPTER 4,
SFAS No. 151 clarifies that abnormal inventory costs such as costs of idle
facilities, excess freight and handling costs, and wasted materials (spoilage)
are required to be recognized as current period costs. The provisions of SFAS
No. 151 are effective for our fiscal 2006. We are currently evaluating the
provisions of SFAS No. 151 and do not expect that adoption will have a material
effect on our financial position, results of operations or cash flows.

         On December 16, 2004, the FASB issued SFAS No. 123 (revised 2004),
SHARE-BASED PAYMENT, which is a revision of SFAS No. 123. SFAS No. 123(R)
supersedes APB Opinion No. 25, and amends SFAS No. 95, STATEMENT OF CASH FLOWS.
Generally, the approach in SFAS No. 123(R) is similar to the approach described
in SFAS 123. However, SFAS 123(R) generally requires share-based payments to
employees, including grants of employee stock options and purchases under
employee stock purchase plans, to be recognized in the statement of operations
based on their fair values. Pro forma disclosure of fair value recognition will
no longer be an alternative. SFAS No. 123(R) permits public companies to adopt
its requirements using one of two methods:

         o        MODIFIED PROSPECTIVE METHOD: Compensation cost is recognized
                  beginning with the effective date of adoption (a) based on the
                  requirements of SFAS No. 123(R) for all share-based payments
                  granted after the effective date of adoption and (b) based on
                  the requirements of SFAS No. 123 for all awards granted to
                  employees prior to the effective date of adoption that remain
                  unvested on the date of adoption.

         o        MODIFIED RETROSPECTIVE METHOD: Includes the requirements of
                  the modified prospective method described above, but also
                  permits restatement using amounts previously disclosed under
                  the pro forma provisions of SFAS No. 123 either for (a) all
                  prior periods presented or (b) prior interim periods of the
                  year of adoption.

         On April 14, 2005, the Commission announced that the SFAS No. 123(R)
effective transition date will be extended to annual periods beginning after
June 15, 2005. We adopted this new standard on January 1, 2006 using the
modified prospective method.

         SFAS No. 123(R) also requires the benefits of tax deductions in excess
of recognized compensation expense to be reported as a financing cash flow,
rather than as an operating cash flow as prescribed under current accounting
rules. This requirement will reduce net operating cash flows and increase net
financing cash flows in periods after adoption. Total cash flow will remain
unchanged from what would have been reported under prior accounting rules.
However, we estimate that we will record expenses relating to currently
outstanding stock options of $103,000 in 2006 and $30,000 in 2007.

         As permitted by SFAS No. 123, we currently account for share-based
payments to employees using APB Opinion No. 25's intrinsic value method. As a
consequence, we generally recognize no compensation cost for employee stock
options under our employee stock option plans. Although the adoption of SFAS No.
123(R)'s fair value method will have no adverse effect on our balance sheet or
total cash flows, it will affect our net income and diluted earnings per share.
The actual effects of adopting SFAS No. 123(R) will depend on numerous factors,
including the amounts of share-based payments granted in the future, the


                                       49


<PAGE>

valuation model we use to value future share-based payments to employees and
estimated forfeiture rates. See Note 1 to our condensed consolidated financial
statements for the effect on reported net income and earnings per share that
would have occurred if we had accounted for our employee stock options using the
fair value recognition provisions of SFAS No. 123.

         On December 16, 2004, the FASB issued SFAS No. 153, EXCHANGES OF
NONMONETARY ASSETS, AN AMENDMENT OF APB OPINION NO. 29, ACCOUNTING FOR
NONMONETARY TRANSACTIONS. SFAS No. 153 addresses the measurement of exchanges of
nonmonetary assets and redefines the scope of transactions that should be
measured based on the fair value of the assets exchanged. SFAS No. 153 is
effective for nonmonetary asset exchanges beginning in our second quarter of
fiscal 2006. We do not believe our adoption of SFAS No. 153 will have a material
effect on our consolidated financial position, results of operations or cash
flows.

         On June 7, 2005, the FASB issued SFAS No. 154, ACCOUNTING CHANGES AND
ERROR CORRECTIONS, a replacement of APB Opinion No. 20, ACCOUNTING CHANGES, and
SFAS No. 3, REPORTING ACCOUNTING CHANGES IN INTERIM FINANCIAL STATEMENTS. SFAS
No. 154 changes the requirements for the accounting for and reporting of a
change in accounting principle. Previously, most voluntary changes in accounting
principles required recognition of a cumulative effect adjustment within net
income of the period of the change. SFAS No. 154 requires retrospective
application to prior periods' financial statements, unless it is impracticable
to determine either the period-specific effects or the cumulative effect of the
change. SFAS No. 154 is effective for accounting changes made in fiscal years
beginning after December 15, 2005. However, SFAS No. 154 does not change the
transition provisions of any existing accounting pronouncements. We do not
believe our adoption of SFAS No. 154 will have a material effect on our
consolidated financial position, results of operations or cash flows.

         On June 29, 2005, the FASB ratified Emerging Issues Task Force Issue
No. 05-06, DETERMINING THE AMORTIZATION PERIOD FOR LEASEHOLD IMPROVEMENTS. Issue
No. 05-06 provides that the amortization period used for leasehold improvements
acquired in a business combination or purchased after the inception of a lease
shall be the shorter of (a) the useful life of the assets or (b) a term that
includes required lease periods and renewals that are reasonably assured upon
the acquisition or the purchase. The provisions of Issue No. 05-06 are effective
on a prospective basis for leasehold improvements purchased or acquired
beginning in our second quarter of fiscal 2006. We do not believe the adoption
of Issue No. 05-06 will have a material effect on our consolidated financial
position, results of operations or cash flows.

ITEM 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

         Exchange Rate Sensitivity
         -------------------------

         We have established and acquired international subsidiaries that
prepare their balance sheets in the relevant foreign currency. In order to be
included in our consolidated financial statements, these balance sheets are
converted, at the then current exchange rate, into United States dollars, and
the statements of operations are converted using weighted average exchange rates
for the applicable period. Accordingly, fluctuations of the foreign currencies
relative to the United States dollar affect our consolidated financial
statements. Our exposure to fluctuations in currency exchange rates has
increased as a result of the growth or acquisition of our international
subsidiaries. However, because historically the majority of our currency
exposure has related to financial statement translation rather than to
particular transactions, prior to 2005 we had not entered into forward currency
contracts or hedging arrangements in an effort to mitigate our currency
exposure. For further information regarding our exchange rate sensitivity, see
Item 7 of this report under the heading "Critical Accounting Policies - Foreign
Currency Translation."


                                       50


<PAGE>

         Interest Rate Sensitivity
         -------------------------

         A substantial portion of our notes payable and long-term debt have
variable interest rates based on the prime interest rate and/or the lender's
base rate, which exposes us to risk of earnings loss due to changes in such
interest rates.

         We have established and acquired international subsidiaries that
prepare their balance sheets in the relevant foreign currency. In order to be
included in our consolidated financial statements, these balance sheets are
converted, at the then current exchange rate, into United States dollars, and
the statements of operations are converted using weighted average exchange rates
for the applicable period. Accordingly, fluctuations of the foreign currencies
relative to the United States dollar could have an effect on our consolidated
financial statements. Our exposure to fluctuations in currency exchange rates
has increased as a result of the acquisition of Pascall located in England.

         SFAS No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES, as amended, establishes accounting and reporting standards requiring
that every derivative instrument be recorded in the balance sheet as either an
asset or a liability measured at its fair value. SFAS No. 133 also requires that
changes in the derivative's fair value be recognized currently in earnings
unless specific hedge accounting criteria are met, and that a company must
formally document, designate and assess the effectiveness of transactions that
receive hedge accounting. We currently use derivatives to manage foreign
currency rate risk.

         One of our United Kingdom subsidiaries conducts business in British
pounds sterling and has a program that utilizes forward currency contracts
denominated in United States dollars to offset the risk associated with the
effects of currency exposure for sales in United States dollars. Under this
program, increases or decreases in the subsidiary's foreign currency exposure
are offset by gains or losses on the forward contracts, to mitigate the
possibility of foreign currency transaction gains or losses. These forward
contracts generally have terms of 90 days or less. We do not use these forward
contracts for trading purposes. All outstanding foreign currency forward
contracts used in this program are marked to market at the end of the period
with unrealized gains and losses included in other income and expense.

         We also utilized a forward currency contract denominated in British
pounds sterling to offset the risk of intercompany loans to a United Kingdom
subsidiary. Under this program, increases or decreases in the current portion of
intercompany debt due from EEL are offset by gains or losses on the forward
contract, to mitigate the possibility of foreign currency transaction gains or
losses. The forward contract expired in September 2005. We do not use this
forward contract for trading purposes. The forward contract used in this program
was marked to market at the end of the period with unrealized gains and losses
included in other income and expense.

         Our ultimate realized gain or loss with respect to currency
fluctuations will depend on the currency exchange rates and other factors in
effect as the contracts mature. Net foreign exchange transaction gains included
in other income and expense in the accompanying consolidated statements of
operations totaled $40,000 for 2005. There was no hedging in the year ended
December 31, 2004.

         A substantial portion of our notes payable and long-term debt have
variable interest rates based on the prime interest rate and/or the lender's
base rate, which exposes us to risk of earnings loss due to changes in such
interest rates.

ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

         Reference is made to the financial statements included in this report,
which begin at page F-1.


                                       51


<PAGE>

ITEM 9.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
           FINANCIAL DISCLOSURE.

         On April 13, 2006, we notified Grant Thornton LLP ("GT"), the
independent registered public accounting firm that was engaged as our principal
accountant to audit our consolidated financial statements, that we intended to
engage new certifying accountants and thereby were terminating our relationship
with GT.

         Our decision to change accountants was approved by our audit committee
and board of directors. The reason for the change was to allow us to engage an
alternative firm that we believe has adequate resources and experience to
provide us with the auditing and tax services we require, on a more
cost-effective basis.

         The audit reports of GT on our consolidated financial statements and
consolidated financial statement schedules as of and for the years ended
December 31, 2005 and 2004 did not contain any adverse opinion or disclaimer of
opinion, nor were they qualified or modified as to uncertainty, audit scope, or
accounting principles.

         During the years ended December 31, 2005 and 2004 and the subsequent
interim period through April 13, 2006, there were no disagreements with GT on
any matter of accounting principles or practices, financial statement
disclosure, or auditing scope or procedures which disagreements, if not resolved
to GT's satisfaction, would have caused GT to make reference to the subject
matter of the disagreement in connection with its opinion.

         During the years ended December 31, 2005 and 2004 and the subsequent
interim period through April 13, 2006, there were no reportable events as
described in Item 304(a)(1)(v) of Regulation S-K under the Securities Act of
1933, as amended, except as described below.

    o    On April 5, 2005, in connection with its audit of our consolidated
         financial statements for the year ended December 31, 2004, GT advised
         our audit committee and management of two matters that GT considered to
         be "material weaknesses" as that term is defined under standards
         established by the Public Company Accounting Oversight Board (United
         States), or PCAOB. A material weakness is a control deficiency or
         combination of control deficiencies that results in more than a remote
         likelihood that a material misstatement of the annual or interim
         financial statements will not be prevented or detected. The first
         matter related to our need for additional staff with expertise in
         preparing required disclosures in the notes to the financial
         statements, and our need to develop greater internal resources for
         researching and evaluating the appropriateness of complex accounting
         principles and for evaluating the effects of new accounting
         pronouncements on us. Our growth during and since 2004 as a result of
         our acquisitions of Larus Corporation, PEHL and RO and the increased
         complexity surrounding our financing arrangements are major
         contributors to the need for additional resources in financial
         reporting. The second matter related to segregation of duties relating
         to cash disbursements. Both our assistant controller and accounts
         payable clerk had access to initiate the payment of invoices and print
         electronically signed checks. Both individuals had the ability to
         record transactions in the accounting system. The lack of segregation
         of these two functions - check-writing ability and the recording of
         disbursement transactions in our accounting system - represented a
         material weakness in the cash disbursements cycle. We considered these
         matters in connection with the preparation of the December 31, 2004
         consolidated financial statements and also determined that no prior
         period financial statements were materially affected by such matters.
         In response to the observations made by GT, on April 7, 2005, we
         engaged financial consultants who are certified public accountants with
         the requisite background and experience to prepare required disclosures
         in the notes to our financial statements and to provide greater
         internal resources for researching and evaluating the appropriateness
         of complex accounting principles and for evaluating the effects that



                                       52


<PAGE>

         new accounting pronouncements may have on us. In addition, we recognize
         that the risk of an unauthorized disbursement exists without proper
         segregation of duties between check-writing and record keeping.
         However, every month we review the listing of checks produced and
         research any check number that is missing or questionable. We believe
         this type of detective control would identify unauthorized
         disbursements. Additionally, on May 6, 2005, we limited the system
         access for those individuals performing this review such that there are
         appropriate mitigating controls over the incompatible duties with
         regard to our disbursements. We believe these steps addressed the
         matters raised by GT.

    o    On August 15, 2005, in connection with its review of our condensed
         consolidated financial statements for the quarter ended June 30, 2005,
         GT advised our management of a matter that GT considered to be a
         material weakness. GT noted that we recorded revenue in our Pascall
         division for certain items previously recorded as "bill and hold"
         inventory. We had shipped the items to the customer on June 30, 2005,
         the customer took title to the items and paid for the items. However,
         the customer requested that Pascall modify the items and returned the
         items to Pascall on July 7, 2005 under a separate contract. The return
         of the items by the customer subsequent to June 30, 2005 resulted in
         the transaction not meeting the revenue recognition criteria under
         Staff Accounting Bulletin ("SAB") No. 104. The recording of these items
         as sales in the quarter ended June 30, 2005 resulted in an adjusting
         journal entry to reduce revenue by $841,000 and to reduce net income by
         $314,000 ($0.01 per share). GT met with our audit committee on August
         18, 2005 and recommended that we review the control procedures over
         bill and hold arrangements to determine adherence to SAB No. 104. Our
         audit committee and management have undertaken an extensive review of
         SAB No. 104. We have sought and plan to continue to seek guidance from
         our financial consultants, who are certified public accountants with
         the requisite background and experience, to assist us in our future
         compliance with SAB No. 104 as it relates to control procedures over
         bill and hold matters and believe we have therefore remediated the
         material weakness.

    o    On March 28, 2006, in connection with its audit of our consolidated
         financial statements for the year ended December 31, 2005, GT advised
         our management and audit committee of two matters that GT considered to
         be material weaknesses. GT indicated that in the area of accounting and
         financial reporting, it believes we have insufficient accounting
         resources to enable us to identify and evaluate complex accounting and
         reporting matters. In addition, GT recommended that we establish
         procedures to ensure that our Chief Financial Officer can more closely
         monitor information submitted to our corporate headquarters by our
         subsidiary controllers and oversee accounting for reserves and other
         areas that involving significant judgment at all company locations. GT
         also recommended that we establish procedures to ensure that personnel
         familiar with accounting principles generally accepted in the United
         States and with Commission disclosure requirements thoroughly evaluate
         activities and transactions at all company locations in order to
         determine that we are timely making all required disclosures. To
         remediate this material weakness in the area of accounting and
         financial reporting, we intend to seek additional guidance from our
         financial consultants, who are certified public accountants with the
         requisite background and experience, and from our newly appointed
         Director of Financial Controls for Europe, to assist us in identifying
         and evaluating complex accounting and reporting matters. In addition,
         we intend to increase the frequency at which our Chief Financial
         Officer and our Director of Financial Controls for Europe visit and
         hold conference calls with accounting personnel and managers at each of
         our company locations. Also, we intend to define internal processes for
         identifying and disclosing non-routine and other transactions as
         required by Commission disclosure requirements and for researching and
         determining proper accounting treatment for those transactions. We plan
         to assign individuals with appropriate knowledge and skills to perform
         these processes and plan to provide those individuals with adequate
         technical resources to help ensure timely disclosure of the
         transactions and proper application of accounting principles generally


                                       53


<PAGE>

         accepted in the United States. We plan to develop procedures to
         document all non-routine transactions each quarter, including support
         for the final accounting treatment, and require the assigned
         individuals to review the documentation with our Chief Financial
         Officer and/or Director of Financial Controls for Europe prior to
         finalizing our quarterly and annual financial statements. GT also
         indicated that we need to improve our controls over inventory reserves.
         GT noted that some items that were in our inventory reserve earlier in
         2005 were not present in the year-end reserve, although those items
         remained in inventory at year end. Current accounting guidance would
         have required us to include in our year-end reserve all items that were
         included in the inventory reserve earlier in 2005, despite the fact
         that we no longer viewed those items as slow moving. Our failure to
         continue to include those items in the inventory reserve resulted in a
         material audit adjustment. In addition, GT determined that inventory
         reserves in our CXR-AJ location were understated at year-end, resulting
         in an additional audit adjustment. To remediate this material weakness
         with regard to our controls over inventory reserves, we will adjust the
         procedures we use to compute inventory reserves to ensure that items
         that are included in inventory reserves are not removed from inventory
         reserves until a sale or disposal of those items occurs.

         On April 17, 2006, we engaged Hein & Associates LLP ("Hein") as our new
certifying accountants. We have not consulted with Hein in the past regarding
the application of accounting principles to a specified transaction or the type
of audit opinion that might be rendered on our financial statements or as to any
disagreement or reportable event as described in Item 304(a)(1)(iv) and Item
304(a)(1)(v).

         On April 18, 2006, we provided GT with a copy of the disclosures we
planned to make in response to Item 304(a) of the Securities Act. We requested
that GT furnish us with a letter addressed to the Securities and Exchange
Commission stating whether GT agrees with the statements we made in response to
Item 304(a) and, if not, stating the respects in which it does not agree. A copy
of GT's letter is attached as Exhibit 16.1 to our Form 8-K filed with the
Commission on April 19, 2006.

ITEM 9A.   CONTROLS AND PROCEDURES.

     EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

         We conducted an evaluation, with the participation of our Chief
Executive Officer and Acting Chief Financial Officer, of the effectiveness of
the design and operation of our disclosure controls and procedures, as defined
in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended, or the Exchange Act, as of December 31, 2005, to ensure that
information required to be disclosed by us in the reports filed or submitted by
us under the Exchange Act is recorded, processed, summarized and reported,
within the time periods specified in the Securities Exchange Commission's rules
and forms, including to ensure that information required to be disclosed by us
in the reports filed or submitted by us under the Exchange Act is accumulated
and communicated to management, including our principal executive and principal
financial officers, or persons performing similar functions, as appropriate to
allow timely decisions regarding required disclosure. Based on that evaluation,
our Chief Executive Officer and Acting Chief Financial Officer has concluded
that as of December 31, 2005, our disclosure controls and procedures were not
effective at the reasonable assurance level due to the material weaknesses
described below.

         A material weakness is a control deficiency (within the meaning of the
Public Company Accounting Oversight Board ("PCAOB") Auditing Standard No. 2) or
combination of control deficiencies, that results in more than a remote
likelihood that a material misstatement of the annual or interim financial
statements will not be prevented or detected. In connection with its audit of
our consolidated financial statements for the year ended December 31, 2005, GT,
our former independent registered public accounting firm, advised management and
our audit committee of two matters that GT considered to be material weaknesses.


                                       54


<PAGE>

         GT indicated that in the area of accounting and financial reporting, it
believed that we had insufficient accounting resources to enable us to identify
and evaluate complex accounting and reporting matters. In addition, GT
recommended that we establish procedures to ensure that our Chief Financial
Officer can more closely monitor information submitted to our corporate
headquarters by our subsidiary controllers and oversee accounting for reserves
and other areas that involving significant judgment at all company locations. GT
also recommended that we establish procedures to ensure that personnel familiar
with accounting principles generally accepted in the United States and with
Commission disclosure requirements thoroughly evaluate activities and
transactions at all company locations in order to determine that we are timely
making all required disclosures.

         GT also indicated that we need to improve our controls over inventory
reserves. GT noted that some items that were in our inventory reserve earlier in
2005 were not present in the year-end reserve, although those items remained in
inventory at year end. Current accounting guidance would have required us to
include in our year-end reserve all items that were included in the inventory
reserve earlier in 2005, despite the fact that we no longer viewed those items
as slow moving. Our failure to continue to include those items in the inventory
reserve resulted in a material audit adjustment. In addition, GT determined that
inventory reserves in our CXR-AJ location were understated at year-end,
resulting in an additional audit adjustment.

         In connection with its audit of our consolidated financial statements
for the years ended December 31, 2005, 2004 and 2003, Hein, our independent
registered pubic accounting firm, advised management and our audit committee
that they concur with GT's assessment of the material weaknesses described
above. Hein also noted that our accounting department did not provide us with
the appropriate resources, adequate technical skills and supervision to
accurately account for our revenues, as evidenced by our need to restate our
2005 and 2004 financial statements.

         To initially address these material weaknesses, management performed
additional analyses and other procedures to ensure that the financial statements
included herein fairly present, in all material respects, our financial
position, results of operations and cash flows for the periods presented.

     REMEDIATION OF MATERIAL WEAKNESS

         To remediate the material weakness in our disclosure controls and
procedures identified above, we have done or intend to do the following, in the
periods specified below:

         To remediate the material weakness in the area of accounting and
financial reporting identified by GT and Hein, during the second and third
quarters of 2006 we sought, and we intend to seek in the future, additional
guidance from our financial consultants, who are certified public accountants
with the requisite background and experience to assist us in identifying and
evaluating complex accounting and reporting matters. In addition, we intend to
increase the frequency at which our Chief Financial Officer and our Director of
Financial Controls for Europe visit and hold conference calls with accounting
personnel and managers at each of our company locations. Also, we intend to
define internal processes for identifying and disclosing non-routine and other
transactions as required by Commission disclosure requirements and for
researching and determining proper accounting treatment for those transactions.
We plan to assign individuals with appropriate knowledge and skills to perform
these processes and plan to provide those individuals with adequate technical
resources to help ensure timely disclosure of the transactions and proper
application of accounting principles generally accepted in the United States.
During the second and third quarters of 2006, we developed procedures to
document all non-routine transactions on a quarterly, including support for the
final accounting treatment, and now require the assigned individuals to review
the documentation with our Chief Financial Officer and/or Director of Financial
Controls for Europe prior to finalizing our quarterly and annual financial
statements.


                                       55


<PAGE>

         In the third quarter of 2006, we developed plans to alter the current
organization of our accounting department and to hire additional personnel to
assist in our financial reporting processes. We seek to hire a Chief Financial
Officer and a Controller, each with expertise in public company financial
reporting compliance

         We believe that a new Chief Financial Officer and a new Controller,
once hired, will contribute additional expertise to our team of finance and
accounting personnel and will assist us in our financial reporting processes. We
believe that once our accounting department is strengthened through the addition
of these additional staff members, we will have in place an adequate supervisory
structure to ensure accurate accounting for and disclosure of all transactions
in a timely manner.

         Management is unsure, at the time of the filing of this report, when
the actions described above will remediate the material weakness also described
above. Although management intends to hire a new Chief Financial Officer and a
new Controller as soon as practicable, it may take an extended period of time
until suitable candidates can be located and hired. Management is, however,
optimistic that these personnel can be located and hired by the end of the first
quarter of 2007. Until we hire a new Chief Financial Officer and a new
Controller, as planned, management may hire outside consultants to assist us in
satisfying our financial reporting obligations.

         Management believes that a new Chief Financial Officer will have an
annual base salary in the range of $185,000 to $200,000 and a new Controller
will have an annual base salary in the range of $130,000 to $150,000, not
including benefits and other costs of employment. Management is unable, however,
to estimate our expenditures related to fees paid or that may be paid in the
future to financial consultants in connection with their guidance in identifying
and evaluating complex accounting and reporting matters. Management is also
unable to estimate our expenditures related to the development of new internal
processes for identifying and disclosing both routine and non-routine
transactions and for researching and determining proper accounting treatment for
those transactions. Management is also unable to estimate our expenditures
related to the hiring of other outside consultants to assist us in satisfying
our financial reporting obligations. In addition, management is unable to
estimate our expenditures related to higher fees to be paid to our independent
auditors in connection with their review of this remediation.

         To remediate the material weakness with regard to our controls over
inventory reserves, we have adjusted the procedures we use to compute inventory
reserves to ensure that items that are included in inventory reserves are not
removed from inventory reserves until a sale or disposal of those items occurs.

     CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

         The changes noted above, specifically, the changes relating to our (i)
efforts to locate suitable candidates for the positions of Chief Financial
Officer and Controller, (ii) engaging of financial consultants who are certified
public accountants to assist us in identifying and evaluating complex accounting
and reporting matters, (iii) new internal processes for identifying and
disclosing both routine and non-routine transactions and for researching and
determining proper accounting treatment for those transactions, and (iv)
assignment of individuals to perform these processes and provision to those
individuals of technical and other resources to help ensure the proper
application of accounting principles and the timely and appropriate disclosure
of routine and non-routine transactions, are the only changes during our most
recently completed fiscal quarter that have materially affected or are
reasonably likely to materially affect, our internal control over financial
reporting, as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act.

ITEM 9B.   OTHER INFORMATION.

         None.


                                       56


<PAGE>

                                    PART III

ITEM 10.   DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

DIRECTORS AND EXECUTIVE OFFICERS

         The names, ages and positions held by our directors and executive
officers as of November 30, 2006 are as follows:

<TABLE>
<S>     <C>
NAME                                         AGE                          POSITIONS HELD
----                                         ---                          --------------

Carmine T. Oliva.......................      64     Chairman of the Board, President, Chief Executive Officer,
                                                    Acting Chief Financial Officer, Secretary and Director

Graham Jefferies.......................      49     Executive Vice President, Chief Operating Officer and Managing
                                                    Director of various subsidiaries

Laurence P. Finnegan, Jr. (1)(2)(3)....      69     Director

Otis W. Baskin (1)(2)(3)...............      61     Director

Richard E. Mahmarian (2)(3)............      69     Director
</TABLE>

-----------
(1) Member of the compensation committee.
(2) Member of the nominating committee.
(3) Member of the audit committee.

         CARMINE T. OLIVA has been Chairman of the Board, President and Chief
Executive Officer and a Class III director of EMRISE since March 26, 1997 and of
our subsidiary, EMRISE Electronics, since he founded EMRISE Electronics in 1983.
Mr. Oliva has been Acting Chief Financial Officer and Secretary of EMRISE since
August 18, 2006 and served as Acting Chief Financial Officer from April to July
2005. Mr. Oliva has been Chairman of the Board of XCEL Corporation, Ltd. since
1985, and Chairman and Chief Executive Officer of CXR Larus since March 1997. In
2002, Mr. Oliva obtained a French government working permit and assumed
responsibility as President of our CXR-AJ subsidiary. From January 1999 to
January 2000, Mr. Oliva served as a director of Digital Transmission Systems
Inc. (DTSX), a publicly held company based in Norcross, Georgia. From 1980 to
1983, Mr. Oliva was Senior Vice President and General Manager, ITT Asia Pacific
Inc. Prior to holding that position, Mr. Oliva held a number of executive
positions with ITT Corporation and its subsidiaries over an eleven-year period.
Mr. Oliva attained the rank of Captain in the United States Army and is a
veteran of the Vietnam War. Mr. Oliva earned a B.A. degree in Social Studies
from Seton Hall University and an M.B.A. degree in Business from The Ohio State
University.

         GRAHAM JEFFERIES was appointed as Executive Vice President on October
21, 1999. Mr. Jefferies was also appointed as our Chief Operating Officer on
January 3, 2005, after having served as Chief Operating Officer of our
Telecommunications Group since October 21, 1999. Mr. Jefferies served as
Executive Vice President of EMRISE from April 1999 through October 1999. Mr.
Jefferies has served CXR-AJ as a director since March 1997 and as General
Manager since July 2002, has served as Managing Director of Belix Power
Conversions Ltd., Belix Wound Components Ltd. and Belix Company Ltd. since our
acquisition of those companies in April 2000, as Managing Director of XCEL Power
Systems, Ltd. since September 1996 and as Managing Director of XCEL Corporation,
Ltd. since March 1992. Prior to joining us in 1992, he was Sales and Marketing
Director of Jasmin Electronics PLC, a major United Kingdom software and systems
provider, from 1987 to 1992. Mr. Jefferies held a variety of project management
positions at GEC Marconi from 1978 to 1987. Mr. Jefferies earned a B.S. degree
in Engineering from Leicester University, and has experience in mergers and
acquisitions. Mr. Jefferies is a citizen and resident of the United Kingdom.


                                       57


<PAGE>

         LAURENCE P. FINNEGAN, JR. has served as a Class II director since March
26, 1997. In addition to being a director of EMRISE Electronics from 1985 to
March 1997, Mr. Finnegan was EMRISE Electronics' part-time Chief Financial
Officer from 1994 to 1997. Mr. Finnegan has held positions with ITT (1970-1974)
as controller of several divisions, Narco Scientific (1974-1983) as Vice
President Finance, Chief Financial Officer, Executive Vice President and Chief
Operating Officer, and Fischer & Porter (1986-1994) as Senior Vice President,
Chief Financial Officer and Treasurer. Since August 1995, he has been a
principal of GwynnAllen Partners, Bethlehem, Pennsylvania, an executive
management consulting firm. Since December 1996, Mr. Finnegan has been a
director and the President of GA Pipe, Inc., a manufacturing company based in
Langhorne, Pennsylvania. From September 1997 to January 2001, Mr. Finnegan
served as Vice President Finance and Chief Financial Officer of QuestOne
Decision Sciences, an efficiency consulting firm based in Pennsylvania. Since
August 2001, Mr. Finnegan has served as a director and the Vice President and
Chief Financial Officer of VerdaSee Solutions, Inc., a consulting and software
company based in Pennsylvania. Mr. Finnegan earned a B.S. degree in Accounting
from St. Joseph's University.

         OTIS W. BASKIN has served as a Class I director since February 6, 2004.
He has been a Professor of Management at The George L. Graziadio School of
Business and Management at Pepperdine University in Malibu, California since
June 1995 and also served as dean from 1995 to 2001. He has been a member of the
full-time faculty of the University of Houston - Clear Lake (1975-87) where he
served as Coordinator of the Management Faculty and Director of the Center for
Advanced Management Programs. He has also been Professor of Management at
Arizona State University, West Campus (1987-91) and The University of Memphis
(1991-95), in addition to serving as dean at both universities. Dr. Baskin
worked with AACSB International (Association for the Advancement of Collegiate
Schools of Business) as Special Advisor to the President and as Chief Executive
Officer from July 2002 to June 2004. He is an Associate with the Family Business
Consulting Group, where he advises family owned and closely held businesses. He
has served as an advisor to Exxon/Mobile Research and Engineering Corporation,
NASA and the United States Air Force. He earned a Ph.D. in Management, Public
Relations and Communication Theory from The University of Texas at Austin, an
M.A. degree in Speech Communication by the University of Houston, and a B.A.
degree in Religion from Oklahoma Christian University.

         RICHARD E. MAHMARIAN was appointed as a Class III director on March 1,
2006. He has served as a principal and Chairman, President and Chief Executive
Officer of Control Solutions, Inc., a company that specializes in providing
business systems including hardware, software, consumable products and services
to major U.S. corporations, since December 2003. Mr. Mahmarian also has served
as managing member and Chairman and Chief Executive Officer of REM Associates,
LLC, a private investment and consulting company, since 1997. Mr. Mahmarian also
owns R&R Palos Verdes Enterprises, Inc., a home construction company in the
south bay area of Los Angeles, California, which was started in 1997. From 1998
until 2001, Mr. Mahmarian was the owner of Alpha Microsystems, LLC, a company
that manufactured and sold mini-computer systems, personal computers and
servers, provided network services and support, and information technology
hardware and software services throughout North America through 50 field
offices. He served in the U.S. Navy and was honorably discharged. While in the
Navy, he received extensive training in advanced electronic technologies. Mr.
Mahmarian earned a B.A. degree in Accounting from Upsala College and an M.B.A.
in Marketing and Economics from Seton Hall University.

         Our business, property and affairs are managed under the direction of
our board. Directors are kept informed of our business through discussions with
our executive officers, by reviewing materials provided to them and by
participating in meetings of our board and its committees.


                                       58


<PAGE>

         Our bylaws provide that our board of directors shall consist of at
least four directors. Our board is divided into three classes of directors:
Class I, Class II and Class III. The term of office of each class of directors
is three years, with one class expiring each year at our annual meeting of
stockholders. We currently have four directors on our board, with no vacancies.
Our current board consists of one Class I director whose term expires at our
2006 annual meeting, one Class II director whose term expires at our 2007 annual
meeting, and two Class III directors whose term expires at our 2008 annual
meeting.

         Our officers are appointed by and serve at the discretion of our board
of directors. There are no family relationships among our executive officers and
directors.

SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

         Section 16(a) of the Securities Exchange Act of 1934, as amended
("Exchange Act"), requires our executive officers and directors, and persons who
beneficially own more than 10% of a registered class of our common stock, to
file initial reports of ownership and reports of changes in ownership with the
Commission. These officers, directors and stockholders are required by the
Commission regulations to furnish us with copies of all reports that they file.

         Based solely upon a review of copies of the reports furnished to us
during the year ended December 31, 2005 and thereafter, or any written
representations received by us from directors, officers and beneficial owners of
more than 10% of our common stock ("reporting persons") that no other reports
were required, we believe that, during 2005, all Section 16(a) filing
requirements applicable to our reporting persons were met.

CODE OF ETHICS

         Our board of directors has adopted an Amended and Restated Code of
Business Conduct and Ethics that applies to all of our directors, officers and
employees and an additional Code of Business Ethics that applies to our Chief
Executive Officer and senior financial officers. We filed copies of these codes
as exhibits to our annual report on Form 10-K for the year ended December 31,
2005.

         We intend to satisfy the disclosure requirement under Item 5.05 of Form
8-K relating to amendments to or waivers from provision of these codes that
relate to one or more of the items set forth in Item 406(b) of Regulation S-K,
by describing on our Internet website, located at http://www.emrise.com, within
four business days following the date of a waiver or a substantive amendment,
the date of the waiver or amendment, the nature of the amendment or waiver, and
the name of the person to whom the waiver was granted.

         Information on our Internet website is not, and shall not be deemed to
be, a part of this report or incorporated into any other filings we make with
the Commission.


                                       59


<PAGE>

ITEM 11.   EXECUTIVE COMPENSATION.

COMPENSATION OF EXECUTIVE OFFICERS

         The following table provides information concerning the annual and
long-term compensation for the years ended December 31, 2005, 2004 and 2003
earned for services in all capacities as an employee by our Chief Executive
Officer and each of our other executive officers who received an annual salary
and bonus of more than $100,000 for services rendered to us during that period
(collectively, the "named executive officers"). Mr. Foote resigned his position
on August 18, 2006.

<TABLE>
                                           SUMMARY COMPENSATION TABLE

                                                                                   LONG-TERM
                                                                              COMPENSATION AWARD
                                                        ANNUAL COMPENSATION   ------------------
                                                       ---------------------       SECURITIES          ALL OTHER
     NAME AND PRINCIPAL POSITION              YEAR      SALARY        BONUS    UNDERLYING OPTIONS    COMPENSATION
-----------------------------------------   -------    --------     --------   ------------------    ------------
<S>                                           <C>      <C>          <C>              <C>              <C>
Carmine T. Oliva ........................     2005     $350,000     $     --         50,000           $ 4,821(1)
  President, Chief Executive Officer,
  Acting Chief Financial Officer and
  Secretary
                                              2004     $309,000     $ 94,000         26,000           $ 4,821(1)
                                              2003     $271,510     $ 70,000         53,000           $ 4,821(1)
Graham Jefferies ........................     2005     $245,769     $     --         50,000           $14,037(3)
  Executive Vice President and Chief
  Operating Officer (2)
                                              2004     $237,017     $ 71,000         40,000           $10,924(3)
                                              2003     $210,295     $ 55,000         54,000           $10,320(3)
Randolph D. Foote........................     2005     $170,920     $     --         50,000           $ 2,117(4)
  Former Senior Vice President, Chief
  Financial Officer and Secretary
                                              2004     $173,867     $ 40,000         25,000           $ 1,965(4)
                                              2003     $157,230     $ 30,000         35,000           $ 1,886(4)
</TABLE>
---------------
(1)  Represents the dollar value of insurance premiums we paid with respect to a
     $1,000,000 term life insurance policy for the benefit of Mr. Oliva's
     spouse.
(2)  Mr. Jefferies is based in the United Kingdom and receives his remuneration
     in British pounds sterling. The compensation amounts listed for Mr.
     Jefferies are shown in United States dollars, converted from British pounds
     sterling using the average conversion rates in effect during the time
     periods of compensation. Mr. Jefferies served as Chief Operating Officer of
     our Telecommunications Group until he was appointed Chief Operating Officer
     of EMRISE in January 2005.
(3)  Represents company contributions to Mr. Jefferies' retirement account.
(4)  Represents company contributions to Mr. Foote's 401(k) retirement account.

                    RETIREMENT ACCOUNT MATCHING CONTRIBUTIONS

         We matched up to the lesser of $2,000 and 20% of Mr. Foote's
contributions to his 401(k) account. During 2005, 2004 and 2003, our matching
contributions amounted to $2,117, $1,965 and $1,886, respectively. This matching
arrangement was generally made available to all employees of EMRISE Corporation
and provides for the same method of allocation of benefits between management
and non-management participants.

         Also, XPS makes matching contributions of up to 6% of Mr. Jefferies'
salary to an executives' defined contribution plan. Other employees of XPS may
receive matching contributions to a defined contribution plan of up to 4% of
their salary. Amounts contributed to the defined contribution plans are intended
to used to purchase annuities upon retirement. During 2005, 2004 and 2003, Mr.
Jefferies received matching contributions of $14,037, $10,924 and $10,320,
respectively.


                                       60


<PAGE>

                        OPTION GRANTS IN LAST FISCAL YEAR

         The following table provides information regarding options granted in
the year ended December 31, 2005 to the named executive officers. We did not
grant any stock appreciation rights during 2005. This information includes
hypothetical potential gains from stock options granted in 2005. These
hypothetical gains are based entirely on assumed annual growth rates of 5% and
10% in the value of our common stock price over the ten-year life of the stock
options granted in 2005. These assumed rates of growth were selected by the
Commission for illustrative purposes only and are not intended to predict future
stock prices, which will depend upon market conditions and our future
performance and prospects.

<TABLE>
                                                                                                     POTENTIAL
                                                                                                 REALIZABLE VALUE
                                                                                                 AT ASSUMED RATES
                                      NUMBER OF     PERCENTAGE OF                                 OF STOCK PRICE
                                     SECURITIES     TOTAL OPTIONS                                APPRECIATION FOR
                                     UNDERLYING      GRANTED TO      EXERCISE                     OPTION TERM(3)
                           GRANT      OPTIONS       EMPLOYEES IN       PRICE      EXPIRATION    -------------------
     NAMED OFFICER         DATE      GRANTED(1)    FISCAL YEAR(2)    PER SHARE       DATE         5%         10%
-----------------------  --------   -----------   ---------------   -----------   ----------    -------------------
<S>                      <C>           <C>              <C>            <C>         <C>          <C>        <C>
Carmine T. Oliva.......  12/30/05      50,000           0.7%           $2.00       12/29/15     $63,000    $159,000
Graham Jefferies.......  12/30/05      50,000           0.7%           $2.00       12/29/15     $63,000    $159,000
Randolph D. Foote......  12/30/05      50,000           0.7%           $2.00       12/29/15     $63,000    $159,000

---------------
(1) Options vested on the date of grant.
(2) Based on options to purchase 725,000 shares granted to our employees during
    2005.
(3) Calculated using the potential realizable value of each grant.

                AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES

         The following table provides information regarding the value of
unexercised options held by the named executive officers as of December 31,
2005. None of the named executives officers acquired shares through the exercise
of options during 2005.

                                                       NUMBER OF
                                                 SECURITIES UNDERLYING                 VALUE ($) OF UNEXERCISED
                                                UNEXERCISED OPTIONS AT                 IN-THE-MONEY OPTIONS AT
                                                   DECEMBER 31, 2005                    DECEMBER 31, 2005 (1)
                                           ---------------------------------        -------------------------------
          NAME                             EXERCISABLE         UNEXERCISABLE        EXERCISABLE       UNEXERCISABLE
---------------------------------          -----------         -------------        -----------       -------------
Carmine T. Oliva...................          216,000              13,000              141,000             4,000
Graham Jefferies...................          214,000              20,000              135,000             7,000
Randolph D. Foote..................          147,500              12,500              96,000              4,000

---------------
(1)  Based on the last reported sale price of our common stock of $1.34 on
     December 30, 2005 (the last trading day during 2005) as reported on
     ArcaEx(R), less the exercise price of the options.
</TABLE>

                                       61


<PAGE>

EMPLOYMENT CONTRACTS AND TERMINATION OF EMPLOYMENT AND CHANGE-IN-CONTROL
ARRANGEMENTS

     CARMINE T. OLIVA

         On February 24, 2006, we executed a five-year employment agreement with
Carmine T. Oliva, our Chairman of the Board, President and Chief Executive
Officer. The agreement is effective as of January 1, 2006, and replaces his
previous employment agreement that was scheduled to automatically renew on that
date. The agreement provides for an initial base salary of $350,000 during the
first twelve months the agreement is in effect. Mr. Oliva is eligible to receive
increases and bonuses at the discretion of our compensation committee and to
participate in benefit and incentive programs we may offer.

         If we terminate Mr. Oliva's employment for due cause or due to Mr.
Oliva's breach of the agreement by refusing to continue his employment, our
obligation to pay any further compensation, severance allowance, or other
amounts payable under the agreement terminates on the date of termination, other
than benefits under retirement and benefit plans and programs that are earned
and vested by the date of termination, pro rata annual salary through the date
of termination, any stock options that have vested as of the date of
termination, and accrued vacation as required by California law. "Due cause"
includes any intentional misapplication of our funds or other material assets,
or any other act of dishonesty injurious to us, or conviction of a felony or a
crime involving moral turpitude. "Due cause" also includes abuse of controlled
substances or alcohol and breach, nonperformance or nonobservance of any of the
terms of the agreement, provided that Mr. Oliva fails to satisfactorily remedy
the performance problem following 90 days' written notice.

         We may terminate Mr. Oliva's employment immediately upon written notice
to him. Mr. Oliva may terminate the agreement at any time for good reason within
30 days after he learns of the event or condition constituting good reason.
"Good reason" includes: changes in Mr. Oliva's position, duties,
responsibilities, titles or status; a reduction in his base salary to an amount
less than the greater of $350,000 or 10% below the base salary in effect at the
time of the reduction; our failure to continue in effect benefits required under
the agreement, to obtain the assumption of the agreement by any successor or
assign, or to timely cure any material breach after Mr. Oliva gives us written
notice; a material reduction in support services, staff, office space and
accouterments which reduction is not generally effective for all officers; or if
we avail ourselves of or are subjected by any third party to any other
proceeding involving insolvency or the protection of or from creditors and the
proceeding is not discharged or terminated within 90 days.

         If Mr. Oliva's service terminates without due cause or for good reason
prior to the expiration of the agreement on January 1, 2011, Mr. Oliva will be
entitled to his salary through the end of the month in which termination occurs
plus credit for accrued vacation, a severance payment equal to three times his
then current annual salary, net of taxes, a prorated incentive bonus, if any,
for the fiscal year during which termination occurs, and all medical and life
insurance benefits to which he was entitled immediately prior to the date of
termination (or at the election of Mr. Oliva in the event of a change in
control, immediately prior to the date of the change in control) for a period of
three years or the date or dates that Mr. Oliva's continued participation in our
medical and/or life insurance plans is not possible under the plans, whichever
is earlier. If our medical and/or life insurance plans do not allow Mr. Oliva's
continued participation, then we are required to pay to Mr. Oliva, in monthly
installments, the monthly premium or premiums that had been payable by us
covering the three-year period.

         A "change in control" includes: a consolidation or merger in which we
are not the surviving corporation or pursuant to which all or substantially all
of our common stock would be converted into cash, securities or other property,
other than a merger in which the holders of our common stock immediately prior
to the merger have the same proportionate ownership of common stock of the
surviving corporation immediately after the merger; a sale, lease, exchange or
other transfer (in one transaction or a series of related transactions) of all,


                                       62


<PAGE>

or substantially all, of our assets; stockholder approval of any plan or
proposal for liquidation or dissolution; any person other than persons who were
stockholders on January 1, 2006, becomes the beneficial owner of 50% or more of
our outstanding common stock; during any period of two consecutive years,
individuals who at the beginning of such period constitute the entire board
cease to constitute a majority of the board unless the election, or the
nomination for election by our stockholders, of each new director was approved
by a vote of at least two-thirds of the directors then still in office who were
directors at the beginning of the period; or there is any change of control of a
nature required to be reported in response to Item 6 (e) of Schedule 14A under
the Exchange Act.

         If Mr. Oliva becomes mentally or physically incapable of performing the
services required under the agreement for a period of 240 consecutive days, and
the incapacity is confirmed by the written opinion of two practicing medical
doctors, we may terminate Mr. Oliva's employment under the agreement upon 30
days' prior written notice. Upon Mr. Oliva's death, the agreement will terminate
immediately. If Mr. Oliva's employment is terminated due to his incapacity or
death, Mr. Oliva or his estate or legal representative will be entitled to
receive benefits under our retirement and benefits plans and programs that are
earned and vested at the date of termination, a prorated incentive bonus for the
fiscal year in which incapacity or death occurs, and Mr. Oliva's annual salary
then in effect for one year following the date of termination, offset, however,
by any payments received by Mr. Oliva as a result of any disability insurance
maintained by us for Mr. Oliva's benefit.

         The agreement contains non-competition provisions that prohibit Mr.
Oliva from engaging or participating in a competitive business or soliciting our
customer or employees during his employment with us and for two years afterward.
The agreement also contains provisions that restrict disclosure by Mr. Oliva of
our confidential information and assign ownership to us of inventions created by
him in connection with his employment.

     RANDOLPH D. FOOTE

         On February 24, 2006, we entered into a two-year employment agreement
with Randolph D. Foote, our Senior Vice President, Chief Financial Officer and
Secretary. The agreement was effective as of January 1, 2006 and replaced his
existing employment agreement that was scheduled to expire in July 2006. The
agreement provided for an initial base salary of $175,000 during the first
twelve months the agreement is in effect. Mr. Foote was eligible to receive
increases and bonuses at the discretion of our compensation committee and to
participate in other benefit and incentive programs we may offer.

         On August 18, 2006, Mr. Foote, our then Senior Vice President, Chief
Financial Officer and Secretary, resigned from those positions, and all
positions with EMRISE's subsidiaries. In connection with his resignation, we and
Mr. Foote entered into a Resignation and Separation Agreement, which became
effective on August 25, 2006. Under the agreement, Mr. Foote resigned all of his
positions and, we and Mr. Foote jointly terminated his employment agreement
dated effective as of January 1, 2006. The agreement provides that effective as
of August 21, 2006, Mr. Foote will be assigned to temporary employment with us,
which the parties anticipate will terminate by approximately December 31, 2006
(the "Employment Separation Date"). During the time of his temporary employment,
Mr. Foote will assist us in, among other things, the preparation of our restated
financial statements and our filings with the Securities and Exchange Commission
and will continue to receive his base salary and employment benefits (other than
paid vacation benefits, bonus or incentive compensation).

         After the Employment Separation Date, Mr. Foote will continue to
provide reasonable cooperation and assistance to us on an as-needed basis during
the 12-month period following the Employment Separation Date in consideration of
the following payments: (i) a total gross amount of $182,200 during such period,
payable in equal periodic amounts on our regular pay dates, and (ii)
reimbursement of Mr. Foote's health plan benefit provisions during the 12-month
period.


                                       63


<PAGE>

     GRAHAM JEFFERIES

         On February 24, 2006, we entered into a three-year employment agreement
with Graham Jefferies, our Executive Vice President and Chief Operating Officer.
The agreement is effective as of January 1, 2006, and replaces his previous
employment agreement that was scheduled to expire in July 2006. The agreement
provides for an initial base salary of 152,800 British pounds sterling per year
(approximately U.S. $263,350 as of January 1, 2006) during the first twelve
months that the agreement is in effect, which amount is to be paid by our
subsidiary, EEL. Mr. Jefferies is eligible to receive increases and bonuses at
the discretion of our compensation committee and to participate in other benefit
and incentive programs we may offer.

         If Mr. Jefferies' employment terminates for due cause or due to Mr.
Jefferies' breach of the agreement by refusing to continue his employment, our
obligation to pay any further compensation, severance allowance, or other
amounts payable under the agreement terminates on the date of termination, other
than benefits under retirement and benefit plans and programs that are earned
and vested by the date of termination, Mr. Jefferies' pro rata annual salary
through the date of termination, any stock options that have vested as of the
date of termination, and accrued vacation as required by applicable law.

         We may terminate Mr. Jefferies' employment immediately upon written
notice. Mr. Jefferies may terminate the agreement at any time for good reason
within 30 days after Mr. Jefferies learns of the event or condition constituting
good reason. If termination without due cause by us or for good reason by Mr.
Jefferies occurs prior to the expiration of the agreement on January 1, 2009,
Mr. Jefferies will be entitled to his salary through the end of the month during
which the termination occurs plus credit for accrued vacation, a severance
payment in an amount equal to two times his then current annual salary, net of
applicable taxes, a prorated incentive bonus, if any, for the fiscal year during
which termination occurs, and all medical and life insurance benefits to which
Mr. Jefferies was entitled immediately prior to the date of termination (or at
the election of Mr. Jefferies in the event of a change in control, immediately
prior to the date of the change in control) for a period of two years or the
date or dates that Mr. Jefferies' continued participation in our medical and/or
life insurance plans is not possible under the plans, whichever is earlier. If
our medical and/or life insurance plans do not allow Mr. Jefferies' continued
participation, then we will be obligated to pay to Mr. Jefferies, in monthly
installments, the monthly premium or premiums that had been payable by us
covering the two-year period.

         If Mr. Jefferies becomes mentally or physically incapable of performing
the services required under the agreement for a period of 180 consecutive days,
the agreement will terminate; provided, however, that Mr. Jefferies will remain
an employee of EEL. and will be entitled to remuneration in an amount equal to
the amount paid under EEL's permanent health scheme, subject to the paragraph
immediately below. Upon Mr. Jefferies' death, the agreement will terminate
immediately.

         If Mr. Jefferies' employment is terminated due to his incapacity or
death, Mr. Jefferies or his estate or legal representative will be entitled to
receive benefits under retirement and benefits plans and programs that are
earned and vested at the date of termination, a prorated incentive bonus for the
fiscal year in which incapacity or death occurs, and Mr. Jefferies' annual
salary then in effect for one year following the date of termination, offset by
any payments received by Mr. Jefferies as a result of any permanent insurance
scheme maintained by us for Mr. Jefferies' benefit.

         The agreement contains non-competition provisions that prohibit Mr.
Jefferies from engaging or participating in a competitive business or soliciting
our customer or employees during his employment with us and for two years
afterward. The agreement also contains provisions that restrict disclosure by
Mr. Jefferies of our confidential information and assign ownership to us of
inventions created by Mr. Jefferies in connection with his employment.


                                       64


<PAGE>

         The terms "due cause," "good reason" and "change in control" have the
same meanings as in Mr. Oliva's employment agreement described above.

BOARD COMMITTEES

         Our board of directors currently has an audit committee, a compensation
committee and a nominating committee.

         The audit committee selects our independent auditors, reviews the
results and scope of the audit and other services provided by our independent
auditors, reviews our financial statements for each interim period and for our
year end and our internal financial and accounting controls, and recommends,
establishes and monitors our disclosure controls and procedures. From March 22,
2004 to May 24, 2005, the audit committee consisted of Messrs. Finnegan and
Baskin. From May 25, 2005 until December 21, 2005, the audit committee consisted
of Messrs. Finnegan, Baskin and Runyon. Following Mr. Runyon's departure from
our board of directors on December 21, 2005, the audit committee consisted of
Messrs. Finnegan and Baskin, with Mr. Finnegan continuing as chairman. Mr.
Mahmarian was appointed as the third member of the audit committee when he
joined our board on March 1, 2006. The audit committee held four meetings during
2005. Our board of directors has determined that Messrs. Finnegan and Mahmarian
are audit committee financial experts. The audit committee operates pursuant to
a charter approved by our board of directors and audit committee, according to
the rules and regulations of the Commission. A copy of the charter was attached
as Appendix A to our definitive proxy statement for our 2005 annual meeting of
stockholders.

         The compensation committee is responsible for establishing and
administering our policies involving the compensation of all of our executive
officers and establishing and recommending to our board of directors the terms
and conditions of all employee and consultant compensation and benefit plans.
Our entire board of directors also may perform these functions with respect to
our employee stock option plans. From January 1, 2005 until December 21, 2005,
this committee consisted of Messrs. Runyon and Finnegan. Since December 21,
2005, the committee has consisted of Messrs. Finnegan and Mr. Baskin, with Mr.
Baskin serving as chairman. The compensation committee held two meetings and
took action by written consent on one occasion during 2005. The compensation
committee operates pursuant to a charter approved by our board of directors and
compensation committee. A copy of the charter was attached as Appendix B to the
proxy statement for our 2005 annual meeting of stockholders.

         The nominating committee recommends nominees to the board of directors
and committees of the board of directors, develops and recommends to the board
of directors corporate governance principles, and oversees the evaluation of the
board of directors and management. From January 1, 2005 until December 21, 2005,
the nominating committee consisted of Mr. Runyon. Since December 21, 2005, the
nominating committee has consisted of Mr. Finnegan and Mr. Baskin, with Mr.
Finnegan serving as chairman. The nominating committee held two meetings and
took action by written consent on one occasion during 2005. The nominating
committee utilizes a variety of methods for identifying and evaluating nominees
for director, including candidates that may be referred by stockholders.

         The nominating committee will consider candidates for director
recommended by any stockholder that is the beneficial owner of shares
representing more than 1.0% of the then-outstanding shares of our common stock
and that has beneficially owned those shares for at least one year. The
nominating committee will evaluate those recommendations by applying its regular
nominee criteria and considering the additional information described in the


                                       65


<PAGE>

nominating committee's below-referenced charter. Stockholders that desire to
recommend candidates for the board for evaluation may do so by contacting EMRISE
Corporation in writing, identifying the potential candidate and providing
background and other information in the manner described in the nominating
committee's charter. Candidates may also come to the attention of the nominating
committee through current board members, professional search firms and other
persons. In evaluating potential candidates, the nominating committee will take
into account a number of factors, including, among others, the following:

         o        independence from management;

         o        depth of understanding of technology, manufacturing, sales and
                  marketing, finance and/or other elements directly relevant to
                  the technology and business of our company;

         o        education and professional background;

         o        judgment, skill, integrity and reputation;

         o        existing commitments to other businesses as a director,
                  executive or owner;

         o        personal conflicts of interest, if any; and

         o        the size and composition of the board of directors.

         In addition, prior to nominating a sitting director for re-election at
an annual meeting of stockholders, the nominating committee considers the
director's past attendance at, and participation in, meetings of the board of
directors and its committees and the director's formal and informal
contributions to their respective activities.

         The nominating committee operates pursuant to a charter approved by our
board of directors and nominating committee. A copy of the charter was attached
as Appendix C to the definitive proxy statement for our 2005 annual meeting of
stockholders.

         Our board of directors has determined that each of Messrs. Baskin,
Finnegan and Mahmarian is independent under Rule 5.3(k) of the NYSE Arca
Equities Rules because none of those directors has, or during the past three
years has had, a material relationship with us, either directly or as a partner,
stockholder or officer of an organization that has a relationship with us, and
none of those directors is disqualified from being deemed independent under any
of subparagraphs (A)-(F) of Rule 5.3(k)(1) of the NYSE Arca Equities Rules. Our
board of directors has also determined that each of member of the audit
committee is independent under Rule 10A-3(b)(1) of the Securities and Exchange
Commission.

         Under the NYSE Arca Equities Rules, the non-management members of our
board of directors must meet at regularly scheduled executive sessions without
management, with a non-management director presiding over each executive
session. A presiding director for each session is selected by the board members
in attendance at the session based upon the topics to be discussed at the
session. The non-management directors can be contacted by calling the Chairman
of the Audit Committee. Further, if the non-management directors include
directors who are not independent, then we should at least once a year schedule
an executive session including only independent directors.

         Our corporate governance guidelines, charters of the audit,
compensation and nominating committees, and our code of business conduct and
ethics is included on our website. The foregoing information is also available
in print to any stockholder who requests it.


                                       66


<PAGE>

         Under the NYSE Arca Equities Rules we must disclose if any member of
our nominating committee or compensation committee is not independent.

COMPENSATION OF DIRECTORS

         Each non-employee director is entitled to receive $1,000 per month as
compensation for his services. In addition, each board member chairing a
standing committee is entitled to receive $500 per month as compensation for his
services. We reimburse all directors for out-of-pocket expenses incurred in
connection with attendance at board and committee meetings. We may periodically
award options or warrants to our directors under our existing option and
incentive plans. On December 30, 2005, we granted to each of Messrs. Baskin and
Finnegan a fully-vested ten-year option to purchase up to 35,000 shares of our
common stock at an exercise price of $2.00 per share. On April 16, 2006, we
granted to Mr. Mahmarian an option to purchase 50,000 shares of our common stock
at an exercise price of $1.00 per share. The option vests in two equal
installments of 25,000 shares on October 17, 2006 and April 17, 2007.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

         From January 1, 2005 until December 21, 2005, the compensation
committee consisted of Messrs. Runyon and Finnegan. Since December 21, 2005, the
committee has consisted of Messrs. Finnegan and Mr. Baskin. No member of the
board of directors has a relationship that would constitute an interlocking
relationship with executive officers and directors of another entity.

ITEM 12.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
            RELATED STOCKHOLDER MATTERS.

BENEFICIAL OWNERSHIP TABLE

         Except as otherwise indicated in the related footnotes, the following
table sets forth information with respect to the beneficial ownership of our
common stock as of November 30, 2006, by:

         o        each person known by us to beneficially own more than 5% of
                  the outstanding shares of our common stock;

         o        each of our directors;

         o        each of the current executive officers named in the summary
                  compensation table contained in the "Management" section of
                  this report; and

         o        all of our directors and executive officers as a group.

         Beneficial ownership is determined in accordance with the rules of the
Commission, and includes voting or investment power with respect to the
securities. To our knowledge, except as indicated by footnote, and subject to
community property laws where applicable, the persons named in the table below
have sole voting and investment power with respect to all shares of common stock
shown as beneficially owned by them. Except as indicated in the discussion of
contractual beneficial ownership limitations below and except as indicated in
the footnotes to the principal stockholders table below, shares of common stock
underlying derivative securities, if any, that currently are exercisable or
convertible or are scheduled to become exercisable or convertible for or into
shares of common stock within 60 days after the date of the table are deemed to
be outstanding in calculating the percentage ownership of each listed person or
group but are not deemed to be outstanding as to any other person or group.
Percentage of beneficial ownership is based on 38,081,750 shares of common stock
outstanding as of the date of the table.


                                       67


<PAGE>

         The warrants described in the footnotes to the table contain provisions
limiting the exercise of the warrants to the extent necessary to insure that
following the exercise, the total number of shares of common stock then
beneficially owned by the warrant holder and its affiliates and others whose
beneficial ownership would be aggregated with the holder's for purposes of
Section 13(d) of the Exchange Act does not exceed 9.999% of the total number of
then issued and outstanding shares of our common stock (including for such
purpose the shares of common stock issuable upon such exercise or call). The
9.999% beneficial ownership limitation may not be waived. However, the
beneficial ownership limitation does not preclude a holder from exercising a
warrant and selling the shares underlying the warrant in stages over time where
each stage does not cause the holder and its affiliates to beneficially own
shares in excess of the limitation amount.

         The address of each of the following stockholders, unless otherwise
indicated in the footnotes to the table, is c/o EMRISE Corporation, 9485 Haven
Avenue, Suite 100, Rancho Cucamonga, California 91730. Messrs. Oliva, Finnegan,
Baskin, and Mahmarian are directors of EMRISE Corporation. Messrs. Oliva and
Jefferies are executive officers of EMRISE Corporation.

<TABLE>
<S>     <C>
                                                                        AMOUNT AND NATURE           PERCENT
NAME OF BENEFICIAL OWNER                                             OF BENEFICIAL OWNERSHIP       OF CLASS
-----------------------------------------------------------------    -----------------------    --------------
Carmine T. Oliva.................................................           1,398,305(1)             3.65%
Laurence P. Finnegan, Jr.........................................             260,171(2)               *
Otis W. Baskin...................................................              90,000(3)               *
Richard E. Mahmarian.............................................              35,000(4)               *
Graham Jefferies.................................................             237,276(5)               *
Austin W. Marxe and David M. Greenhouse..........................           4,153,288(6)            10.90%
Jon D. Gruber....................................................           2,387,650(7)             6.21%
All executive officers and directors as a group (5 persons)......           2,020,752(8)             5.20%
</TABLE>

-------------------
*     Less than 1.00%
(1)   Includes 81,889 shares held individually by Mr. Oliva's spouse, and
      229,000 shares underlying options.
(2)   Includes 216,000 shares underlying options.
(3)   Includes 85,000 shares underlying options.
(4)   Includes 25,000 shares underlying options.
(5)   Includes 234,000 shares underlying options.
(6)   Based on share beneficial ownership information contained in a Form 4
      filed September 29, 2006, in which Austin W. Marxe and David M.
      Greenhouse, the controlling principals of AWM Investment Company, Inc.
      ("AWM"). AWM serves as the general partner of MGP Advisers Limited
      Partnership, the general partner of and investment advisor to Special
      Situations Fund III QP, L.P. Messrs. Marxe and Greenhouse share sole
      voting and investment power over 4,153,288 shares of common stock owned by
      Special Situation Fund III QP, L.P. The address for Messrs. Marxe and
      Greenhouse is 527 Madison Avenue, Suite 2600, New York, New York 10022.
(7)   Based on share beneficial ownership information contained in a Schedule
      13G filed February 3, 2006, in which Mr. Gruber reported that he is a
      member of a group that includes Gruber and McBaine Capital Management,
      LLC, Jon D. Gruber, J. Patterson McBaine and Eric B. Swergold, each of
      whom shares voting and dispositive power over 1,764,900 outstanding shares
      and 337,500 shares underlying warrants. Also includes an additional
      285,250 shares over which Mr. Gruber reports sole voting and dispositive
      power. The address for Mr. Gruber is 50 Osgood Place, Penthouse, San
      Francisco, California 94133.
(8)   Includes 789,000 shares underlying options and 81,889 outstanding shares
      held individually by Mr. Oliva's wife.


                                       68


<PAGE>

EQUITY COMPENSATION PLAN INFORMATION

         The following table gives information about our common stock that may
be issued upon the exercise of options, warrants and rights under all of our
existing equity compensation plans as of December 31, 2005.

<TABLE>
<S>     <C>
                                                                                               NUMBER OF SECURITIES
                                                                                             REMAINING AVAILABLE FOR
                                                                                              FUTURE ISSUANCE UNDER
                                       NUMBER OF SECURITIES TO BE      WEIGHTED-AVERAGE        EQUITY COMPENSATION
                                         ISSUED UPON EXERCISE OF       EXERCISE PRICE OF         PLANS (EXCLUDING
                                          OUTSTANDING OPTIONS,       OUTSTANDING OPTIONS,    SECURITIES REFLECTED IN
Plan category                              WARRANTS AND RIGHTS        WARRANTS AND RIGHTS          COLUMN (A))
------------------------------------   --------------------------   ---------------------   ------------------------
                                                   (a)                        (b)                      (c)
Equity compensation plans approved
   by security holders.............            2,107,748(1)                 $1.05                 368,302(2)
Equity compensation plans not
   approved by security holders....            4,486,685(3)                 $1.63                      --
                                            ---------------           ---------------          ---------------
     Total.........................            6,594,433                                          368,302
</TABLE>

-----------
(1)   Represents shares of common stock underlying options that are outstanding
      under our 1993 Stock Option Plan, our Employee Stock and Stock Option
      Plan, our 1997 Stock Incentive Plan and our Amended and Restated 2000
      Stock Option Plan. The material features of these plans are described in
      note 9 to our consolidated financial statements for the years ended
      December 31, 2005, 2004 and 2003.
(2)   Represents shares of common stock available for issuance under options
      that may be issued under our Amended and Restated 2000 Stock Option Plan.
(3)   Represents shares of common stock underlying warrants that are described
      in note 9 to our consolidated financial statements for the years ended
      December 31, 2005, 2004 and 2003.

ITEM 13.   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

         We are or have been a party to employment and compensation arrangements
with related parties, as more particularly described above under the headings
"Compensation of Executive Officers," "Employment Contracts and Termination of
Employment and Change-in-Control Arrangements" and "Compensation of Directors."

         We have entered into an indemnification agreement with each of our
directors and executive officers. The indemnification agreements and our
certificate of incorporation and bylaws require us to indemnify our directors
and officers to the fullest extent permitted by Delaware law.

         On January 5, 2005, we issued to 17 accredited record holders in a
private offering an aggregate of 12,503,500 shares of our common stock at a
purchase price of $1.44 per share and five-year investor warrants to purchase up
to an additional 3,125,875 shares of our common stock at an exercise price of
$1.73 per share. Each of The Pinnacle Fund, L.P., JLF Offshore Fund, Ltd., JLF
Asset Management, LLC (which entity is investment manager of four of the
investors, including JLF Offshore Fund, Ltd.) and Jeffrey L. Feinberg (the
managing member of JLF Asset Management, LLC), became a beneficial owner of more
than 5% of our outstanding common stock at the closing of the offering.


                                       69


<PAGE>

ITEM 14.   PRINCIPAL ACCOUNTANT FEES AND SERVICES.

         We dismissed Grant Thornton LLP as our principal accountant on April
13, 2006 and retained Hein & Associates LLP as our principal accountant on April
17, 2006. We had no relationship with Hein & Associates LLP prior to their
retention as our principal accountant. On June 28, 2006, we engaged Hein &
Associates LLP to reaudit our consolidated financial statements for the years
ending December 31, 2003, 2004 and 2005. Fees related to the reaudit are
estimated to be $900,000.

         The following table sets forth the aggregate fees billed to us by Grant
Thornton LLP, our former independent registered public accounting firm, for
professional services rendered for the years ended December 31, 2005 and 2004:

        FEE CATEGORY                     2005             2004
        ------------                 ------------     ------------

         Audit Fees ............     $    642,000     $    449,000
         Audit-Related Fees ....           26,000            4,000
         Tax Fees ..............          114,000          106,000
         All Other Fees ........               --               --
                                     ------------     ------------
                  Total ........     $    782,000     $    559,000

         AUDIT FEES. Consists of fees billed for professional services rendered
for the audit of our consolidated financial statements and review of the interim
consolidated financial statements included in quarterly reports and services
that are normally provided by an independent registered public accounting firm
in connection with statutory and regulatory filings or engagements. Audit fees
increased due to the audit work required to provide assurance on the Pascall and
RO financial statements, to expand audit work required on internal controls, and
the higher value of the British pounds sterling and the euro when those expenses
are converted to United States dollars for this report in 2005 as compared to
2004.

         AUDIT-RELATED FEES. Audit-related fees during 2005 relate to due
diligence procedures in connection with the Pascall acquisition. Audit-related
fees during 2004 relate to due diligence procedures in connection with the Larus
Corporation acquisition.

         TAX FEES. Consists of fees billed for professional services for tax
compliance, tax advice and tax planning. These services include assistance
regarding federal, state and international tax compliance, tax audit defense,
customs and duties, mergers and acquisitions, and international tax planning.

         ALL OTHER FEES. Consists of fees for products and services other than
the services reported above. In 2005 and 2004, no such other fees were incurred.

         Our audit committee pre-approved all services provided by our former
independent registered public accounting firm, Grant Thornton LLP, and
pre-approves all services provided by our current registered public accounting
firm, Hein & Associates LLP.


                                       70


<PAGE>

ITEM 15.   EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.

(a)(1), (a)(2) and (c)   Financial Statements and Financial Statement Schedules
                         ------------------------------------------------------

         Reference is made to the financial statements and financial statement
schedule listed on and attached following the Index to Financial Statements and
Financial Statement Schedule contained at page F-1 of this report.

(a)(3) and (b)    Exhibits
                  --------

         Reference is made to the exhibits listed on the Index to Exhibits that
follows the financial statements and financial statement schedule.


                                       71


<PAGE>

<TABLE>
<S>     <C>
                                        EMRISE CORPORATION AND SUBSIDIARIES

                           INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE

                                                                                                               Page
                                                                                                               ----
Financial Statements
--------------------

Report of Independent Registered Public Accounting Firm.....................................................    F-2

Consolidated Balance Sheets as of December 31, 2005 and 2004................................................    F-3

Consolidated Statements of Operations for the Years Ended December 31, 2005, 2004 and 2003..................    F-4

Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2005,
    2004 and 2003...........................................................................................    F-5

Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 2005,
    2004 and 2003...........................................................................................    F-6

Consolidated Statements of Cash Flows for the Years Ended December 31, 2005, 2004
    and 2003................................................................................................    F-7

Notes to Consolidated Financial Statements for the Years Ended December 31, 2005, 2004
    and 2003................................................................................................    F-8

Financial Statement Schedule
----------------------------

Consolidated Schedule II Valuation and Qualifying Accounts for the Years Ended
    December 31, 2005, 2004 and 2003........................................................................   F-51


                                                        F-1
</TABLE>


<PAGE>

             REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM


Board of Directors
and Stockholders of EMRISE Corporation

We have audited the accompanying consolidated balance sheets of EMRISE
Corporation and subsidiaries, a Delaware corporation, as of December 31, 2005
and 2004, and the related consolidated statements of operations, comprehensive
income, stockholders' equity, and cash flows for each of the three years in the
period ended December 31, 2005. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform an audit of its internal control over
financial reporting. Our audits included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit also 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, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of EMRISE Corporation
and subsidiaries as of December 31, 2005 and 2004, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 2005 in conformity with accounting principles generally accepted in
the United States of America.

Our audits were conducted for the purpose of forming an opinion on the basic
consolidated financial statements taken as a whole. The consolidated Schedule II
for the years ended December 31, 2005, 2004 and 2003 is presented for purposes
of complying with the Securities and Exchange Commission's rules and is not a
required part of the basic consolidated financial statements. This schedule has
been subjected to the auditing procedures applied in the audits of the basic
consolidated financial statements and, in our opinion, is fairly stated in all
material respects in relation to the basic consolidated financial statements
taken as a whole.


/S/ HEIN & ASSOCIATES LLP

Irvine, California
December 13, 2006


                                      F-2


<PAGE>

<TABLE>
<S>     <C>
                                        EMRISE CORPORATION AND SUBSIDIARIES
                                            CONSOLIDATED BALANCE SHEETS
                                            DECEMBER 31, 2005 AND 2004
                                (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)


ASSETS                                                                                 2005               2004
                                                                                  (restated)(1)      (restated)(1)
                                                                                  -------------      -------------
Current assets:
   Cash and cash equivalents                                                      $       4,371      $       1,057
   Accounts receivable, net of allowance for doubtful accounts
     of $379 and $153, respectively                                                       9,413              5,796
   Inventories, net of allowances for inventory obsolescence
     of $4,053 and $2,251, respectively                                                  10,277              6,549
   Deferred income taxes                                                                  1,386                352
   Prepaid and other current assets                                                         536                417
                                                                                  -------------      -------------
Total current assets                                                                     25,983             14,171
Property, plant and equipment, net                                                        2,073                909
Goodwill                                                                                 12,066              5,881
Intangible assets other than goodwill, net of accumulated amortization of
   $350 in 2005 and $40 in 2004                                                           3,709              3,560
Other assets                                                                                630                623
                                                                                  -------------      -------------
                                                                                  $      44,461      $      25,144
                                                                                  =============      =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
   Borrowings under lines of credit                                               $       3,283      $         878
   Current portion of long-term debt                                                        504                233
   Notes payable to stockholders, current portion                                           500                509
   Accounts payable                                                                       4,949              3,621
   Income taxes payable                                                                     218                572
   Accrued expenses                                                                       3,571              3,001
                                                                                  -------------      -------------
Total current liabilities                                                                13,025              8,814
Long-term debt, less current portion                                                        742                958
Notes payable to stockholders, less current portion                                       1,750              2,250
Deferred income taxes                                                                     1,108              1,420
Other liabilities                                                                           823                945
                                                                                  -------------      -------------
Total liabilities                                                                        17,448             14,387

Commitments and contingencies (Notes 13 and 18)

Stockholders' equity:
   Preferred stock, $0.01 par value. Authorized 10,000,000 shares; zero issued
     and outstanding                                                                         --                  --
   Common stock, $0.0033 par value. Authorized 150,000,000 shares; issued and
     outstanding 37,550,000 shares and 24,777,000 shares in 2005 and 2004,
     respectively                                                                           124                 82
   Additional paid-in capital                                                            42,877             26,747
   Accumulated deficit                                                                  (15,118)           (16,559)
   Accumulated other comprehensive (loss) income                                           (870)               487
                                                                                  -------------      -------------
Total stockholders' equity                                                               27,013             10,757
                                                                                  -------------      -------------
                                                                                  $      44,461      $      25,144
                                                                                  =============      =============
--------------------
(1)      See Notes to Consolidated Financial Statements--"Note 2--Restatement of 2004 and 2005 Financial
         Statements."

                           See accompanying notes to consolidated financial statements.

                                                       F-3


<PAGE>

                             EMRISE CORPORATION AND SUBSIDIARIES
                            CONSOLIDATED STATEMENTS OF OPERATIONS
                        YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
                          (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


                                               2005              2004
                                          (restated)(1)      (restated)(1)          2003
                                           ------------      ------------       ------------

Net sales                                  $     41,270      $     29,637       $     25,519
Cost of sales                                    23,714            16,089             14,835
                                           ------------      ------------       ------------
Gross profit                                     17,556            13,548             10,684
Operating expenses:
   Selling, general and administrative           13,707            10,212              7,812
   Engineering and product development            2,621             1,521                951
                                           ------------      ------------       ------------
Income from operations                            1,228             1,815              1,921
Other income (expense):
   Interest expense                                (455)             (433)              (416)
   Interest income                                  153                --                 --
   Other income (expense), net                      248                (6)               (58)
                                           ------------      ------------       ------------
Income before income taxes                        1,174             1,376              1,447
Income tax (benefit) expense                       (267)               49                286
                                           ------------      ------------       ------------
Net income                                 $      1,441      $      1,327       $      1,161
                                           ============      ============       ============
Basic earnings per share                   $       0.04      $       0.06       $       0.05
                                           ============      ============       ============
Diluted earnings per share                 $       0.04      $       0.05       $       0.05
                                           ============      ============       ============

-------------------
(1)      See Notes to Consolidated Financial Statements--"Note 2--Restatement of 2004 and
         2005 Financial Statements."

                See accompanying notes to consolidated financial statements.

                                             F-4


<PAGE>

                                  EMRISE CORPORATION AND SUBSIDIARIES
                            CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
                             YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
                                            (IN THOUSANDS)


                                                        2005             2004
                                                   (restated)(1)     (restated)(1)           2003
                                                   -------------     --------------     --------------

Net income                                         $       1,441     $        1,327     $        1,161
Other comprehensive income (loss):
   Foreign currency translation adjustment                (1,357)               379                705
                                                   -------------     --------------     --------------
Comprehensive income                               $          84     $        1,706     $        1,866
                                                   =============     ==============     ==============

-------------------
(1)      See Notes to Consolidated Financial Statements--"Note 2--Restatement of 2004 and 2005
         Financial Statements."


                     See accompanying notes to consolidated financial statements.

                                                 F-5


<PAGE>

                                                 EMRISE CORPORATION AND SUBSIDIARIES
                                           CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                                            YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
                                                           (IN THOUSANDS)


                                                                                                            Accumulated
                                   Series B Convertible                                                       Other
                                      Preferred Stock            Common Stock       Additional             Comprehensive
                                   ---------------------     --------------------    Paid-in   Accumulated    Income
                                    Shares       Amount       Shares      Amount     Capital     Deficit       (Loss)        Total
-------------------------------    --------     --------     --------    --------    --------    --------     --------     --------

Balance at January 1, 2003               64     $    400       21,535    $     71    $ 24,900    $(19,042)    $   (597)    $  5,732
Preferred Series A conversions           --           --        1,263           4         283          --           --          287
Preferred Series B conversions          (63)        (396)         635           2         395          (1)          --           --
Foreign currency translation
adjustment                               --           --           --          --          --          --          705          705
Accretion of redeemable
preferred stock                          --           --           --          --          --          (4)          --           (4)
Warrants issued for services             --           --           --          --          19          --           --           19
Exercise of warrants and
options                                  --           --           43          --          16          --           --           16
Net income                               --           --           --          --          --       1,161           --        1,161
-------------------------------    --------     --------     --------    --------    --------    --------     --------     --------
Balance at December 31, 2003              1            4       23,476          77      25,613     (17,886)         108        7,916
Preferred Series B conversions           (1)          (3)           3          --           3          --           --           --
Preferred Series B redemption            --           (1)          --          --           1          --           --           --
Stock options exercised                  --           --           19          --           5          --           --            5
Foreign currency translation
adjustment                               --           --           --          --          --          --          379          379
Stock issued for Larus
acquisition                              --           --        1,214           4         996          --           --        1,000
Warrants exercised                       --           --           65           1          19          --           --           20
Warrants issued for services             --           --           --          --          38          --           --           38
Value of warrants issued to
acquire Larus                            --           --           --          --          72          --           --           72
Net income (restated)(1)                 --           --           --          --          --       1,327           --        1,327
-------------------------------    --------     --------     --------    --------    --------    --------     --------     --------
Balance at December 31, 2004             --           --       24,777          82      26,747     (16,559)         487       10,757
   (restated)(1)
Stock options exercised                  --           --          106          --          39          --           --           39
Warrants exercised                       --           --          163          --          50          --           --           50
Issuance of common stock and
  warrants, net of issuance
  costs                                  --           --       12,504          42      16,018          --           --       16,060
Foreign currently translation
adjustment                               --           --           --          --          --          --       (1,357)      (1,357)
Warrants issued for services             --           --           --          --          23          --           --           23
Net income (restated)(1)                 --           --           --          --          --       1,441           --        1,441
-------------------------------    --------     --------     --------    --------    --------    --------     --------     --------
Balance at December 31, 2005
   (restated)(1)                         --     $     --       37,550    $    124    $ 42,877    $(15,118)    $   (870)    $ 27,013
===============================    ========     ========     ========    ========    ========    ========     ========     ========

------------------
(1) See Notes to Consolidated Financial Statements--"Note 2--Restatement of 2004 and 2005 Financial Statements."


                                    See accompanying notes to consolidated financial statements.

                                                                 F-6


<PAGE>

                                       EMRISE CORPORATION AND SUBSIDIARIES
                                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
                                                  (IN THOUSANDS)


                                                                       2005             2004
                                                                   (restated)(1)    (restated)(1)        2003
                                                                    -----------      -----------      -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income                                                          $     1,441      $     1,327      $     1,161
   Adjustments to reconcile net income to cash provided by
     operating activities:
     Depreciation and amortization                                          964              287              249
     Deferred income taxes                                                 (873)            (206)             146
     Provision for doubtful accounts                                        151               --               61
     Provision for inventory obsolescence                                 1,403            1,116              924
     Stock and warrants issued for services                                  23               38               19
   Changes in operating assets and liabilities net of
     businesses acquired:
     Accounts receivable                                                    374              289             (106)
     Inventories                                                           (469)            (452)            (113)
     Prepaid and other assets                                               (23)              23             (486)
     Accounts payable                                                    (1,064)           1,637             (802)
     Accrued expenses and other liabilities                                (787)            (175)             (14)
                                                                    -----------      -----------      -----------
Cash provided by operating activities                                     1,140            3,884            1,039
                                                                    -----------      -----------      -----------

CASH FLOWS FROM INVESTING ACTIVITIES:
   Net purchases of property, plant and equipment                          (287)            (724)             (63)
   Cash received from sale of property, plant and equipment                  20                8               13
   Cash collected on notes receivable                                        --               --               12
   Net cash paid for the acquisition of Pascall                         (10,154)              --               --
   Net cash paid for the acquisition of RO Associates                    (4,623)              --               --
   Net cash paid for acquisition of Larus, net of cash acquired              --           (1,492)              --
                                                                    -----------      -----------      -----------
Cash used in investing activities                                       (15,044)          (2,208)             (38)
                                                                    -----------      -----------      -----------

CASH FLOWS FROM FINANCING ACTIVITIES:
   Net proceeds (repayments) of current notes payable                     2,405           (2,004)            (593)
   Repayments of long-term debt                                          (1,602)            (250)            (110)
   Proceeds from long-term debt                                           1,097               65               --
   Cash from warrant/option exercise                                         90               25               16
   Net proceeds from issuance of common stock                            16,060               --               --
                                                                    -----------      -----------      -----------
Cash provided by (used in) financing activities                          18,050           (2,164)            (687)
                                                                    -----------      -----------      -----------

Effect of exchange rate changes on cash                                    (832)             371              606
Net increase (decrease) in cash and cash equivalents                      3,314             (117)             920
Cash and cash equivalents at beginning of year                            1,057            1,174              254
                                                                    -----------      -----------      -----------
Cash and cash equivalents at end of year                            $     4,371      $     1,057      $     1,174
                                                                    ===========      ===========      ===========

--------------------
(1)      See Notes to Consolidated Financial Statements--"Note 2--Restatement of 2004 and 2005 Financial
         Statements."


                           See accompanying notes to consolidated financial statements.

                                                       F-7


<PAGE>

                                        EMRISE CORPORATION AND SUBSIDIARIES
                                 CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
                                   YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
                                                  (IN THOUSANDS)


                                                                       2005             2004
                                                                   (restated)(1)    (restated)(1)         2003
                                                                   ------------     -------------     ------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
   Cash paid during the year for:
     Interest                                                      $        439     $         367     $        382
                                                                   ============     =============     ============
     Income taxes                                                  $        341     $         428     $         81
                                                                   ============     =============     ============
SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND FINANCING
   ACTIVITIES:
   Issuance of subordinated notes for Larus acquisition            $         --     $       3,000     $         --
                                                                   ============     =============     ============
   Common stock issued upon conversion of redeemable preferred
     stock                                                         $         --     $           3     $        287
                                                                   ============     =============     ============
   Accretion of redeemable preferred stock                         $         --     $          --     $          4
                                                                   ============     =============     ============
   Common stock issued to acquire Larus                            $         --     $       1,000     $         --
                                                                   ============     =============     ============

--------------------
(1)      See Notes to Consolidated Financial Statements--"Note 2--Restatement of 2004 and 2005 Financial
         Statements."


                           See accompanying notes to consolidated financial statements.

                                                       F-8
</TABLE>


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


(1)      SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

ORGANIZATION AND BUSINESS

         EMRISE Corporation (the "Company"), operates through three wholly-owned
subsidiaries: EMRISE Electronics Corporation ("EMRISE Electronics"), CXR Larus
Corporation ("CXR Larus"), and CXR Anderson Jacobson ("CXR-AJ"). EMRISE
Electronics and its subsidiaries design, develop, manufacture and market
electronic components for defense, aerospace and industrial markets. CXR Larus
and CXR-AJ design, develop, manufacture and market network access and
transmission products and communications test equipment. CXR Larus also engages
in the manufacture and sale of communication timing and synchronization
products. The Company conducts its operations out of various facilities in the
United States, France, the United Kingdom and Japan and organizes itself in two
product line segments: electronic components and communications equipment.

BASIS OF PRESENTATION

         The consolidated financial statements have been prepared in accordance
with accounting principles generally accepted in the United States of America
and include the accounts of the Company and each of its subsidiaries. All
significant intercompany accounts and transactions have been eliminated in
consolidation.

REVENUE RECOGNITION

         The Company derives revenues from sales of electronic components and
communications equipment products and services. The Company's sales are based
upon written agreements or purchase orders that identify the type and quantity
of the item being purchased and the purchase price. The Company recognizes
revenue when shipment of products has occurred or services have been rendered,
no significant obligations remain on the Company's part, and collectibility is
reasonably assured based on the Company's credit and collections practices and
policies.

         The Company recognizes revenue from domestic sales of its electronic
components and communications equipment at the point of shipment of those
products. Product returns are infrequent and require prior authorization because
the Company's sales are final and the Company quality tests its products prior
to shipment to ensure they meet the specifications of the binding purchase
orders under which they are shipped. When a distributor requests and receives
authorization to return a product, the request must be accompanied by a purchase
order for a replacement product. When an end-user requests to return a product,
the Company either repairs or replaces the product.

         Revenue recognition for products and services provided by the Company's
United Kingdom subsidiaries, which include EMRISE Electronics Ltd. ("EEL"), XCEL
Power Systems, Ltd. ("XPS") and Pascall Electronics Ltd. ("Pascall"), depends
upon the type of contract involved. Engineering/design services contracts
generally entail design and production of a prototype over a term of up to
several years, with all revenue deferred until all services under the contracts
have been completed. Engineering/design services were not significant in 2005,
2004 and 2003. Production contracts provide for a specific quantity of products
to be produced over a specific period of time. Customers issue binding purchase
orders for each suborder to be produced. At the time each suborder is shipped to
the customer, the Company recognizes revenue relating to the products included
in that suborder. Returns are infrequent and permitted only with prior


                                      F-9


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


authorization because these products are custom made to order based on binding
purchase orders and are quality tested prior to shipment. Generally, these
products carry a one-year limited parts and labor warranty. The Company's U.K.
subsidiaries do not offer customer discounts, rebates or price protection on
these products.

         The Company recognizes revenue for products sold by its French
subsidiary at the point of shipment. Customer discounts are included in the
product price list provided to the customer. Returns are infrequent and
permitted only with prior authorization because these products are shipped based
on binding purchase orders and are quality tested prior to shipment. Generally,
these products carry a two-year limited parts and labor warranty.

         Generally, the Company's electronic components, network access and
transmission products and communication timing and synchronization products
carry a one-year limited parts and labor warranty. The Company's communications
test instruments and European network access and transmission products carry a
two-year limited parts and labor warranty. Products returned under warranty are
tested and repaired or replaced at the Company's option. Historically, warranty
repairs have not been material. The Company does not offer customer discounts,
rebates or price protection on these products.

         Revenues from services such as repairs and modifications are recognized
when the service has been completed and invoiced. For repairs that involve
shipment of a repaired product, the Company recognizes repair revenues when the
product is shipped back to the customer. Service revenues represented 2.6%, 5.7%
and 3.1% of net sales in 2005, 2004 and 2003, respectively.

         RO Associates Incorporated ("RO") generates a portion of its revenue
from royalties. Royalty income is recognized when the technology rights have
transferred to the licensee. For agreements that provide the licensees the right
to manufacture and sell our proprietary products, the Company recognizes initial
license fee revenue upon delivery of the product technology. The Company
recognizes guaranteed minimum license royalties as revenue as they become due.
Per unit royalties that exceed the guaranteed minimum are recognized as earned
when reported.

         Shipping and handling fees billed to customers totaled $261,000 for the
year ended December 31, 2005 and were charged to cost of sales. Such amounts
were not significant for the year ended December 31, 2004 and 2003. Shipping and
handling fees billed to international customers are included in net sales and
totaled less than 1.0% of net sales for the years ended December 31, 2005, 2004
and 2003. Depending on the operating division, shipping and handling costs are
included in cost of sales or selling, general and administrative expenses.
Freight is charged to cost of sales and the charge is reversed when the customer
is invoiced for the freight.

CASH AND CASH EQUIVALENTS

         Cash and cash equivalents consist of all highly liquid investments with
an original maturity of three months or less when purchased. As of December 31,
2005, 2004 and 2003, cash in foreign accounts was $2,447,000, $1,035,000 and
$535,000, respectively.


                                      F-10


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


INVENTORIES

         The Company's finished goods electronic components inventories
generally are built to order. The Company's communications equipment inventories
generally are built to forecast, which requires the Company to produce a larger
amount of finished goods in its communications equipment business so that the
Company's customers can promptly be served. The Company's products consist of
numerous electronic and other parts, which necessitates that it exercise
detailed inventory management. The Company values its inventory at the lower of
the actual cost to purchase or manufacture the inventory (first-in, first-out)
or the current estimated market value of the inventory (net realizable value).
The Company performs physical inventories at least once a year. The Company
regularly reviews inventory quantities on hand and records a provision for
excess and obsolete inventory based primarily on its estimated forecast of
product demand and production requirements for the next twelve months.
Additionally, to determine inventory write-down provisions, the Company reviews
product line inventory levels and individual items as necessary and periodically
reviews assumptions about forecasted demand and market conditions. Any parts or
finished goods that are determined to be obsolete, either in connection with the
physical count or at other times of observation, are reserved for and
subsequently discarded and written-off.

         In addition, the communications equipment industry is characterized by
rapid technological change, frequent new product development, and rapid product
obsolescence that could result in an increase in the amount of obsolete
inventory quantities on hand. Also, the Company's estimates of future product
demand may prove to be inaccurate, in which case the Company may have
understated or overstated the provision required for excess and obsolete
inventory. In the future, if the Company's inventory is determined to be
overvalued, the Company would be required to recognize such costs in its cost of
goods sold at the time of such determination. Likewise, if the Company's
inventory is determined to be undervalued, the Company may have over-reported
its costs of goods sold in previous periods and would be required to recognize
additional operating income at the time of sale. Therefore, although the Company
makes every effort to ensure the accuracy of its forecasts of future product
demand, any significant unanticipated changes in demand or technological
developments could have a significant impact on the value of the Company's
inventory and its reported operating results.

PROPERTY, PLANT AND EQUIPMENT

         Property, plant and equipment are stated at cost, less accumulated
depreciation and amortization. Depreciation and amortization are computed
principally using the straight-line method over the useful lives of the assets
(or lease term, if shorter) as follows:

        Buildings............................................     50 years
        Machinery, equipment and fixtures....................     3-7 years
        Leasehold improvements...............................     5 years

         Maintenance and repairs are expensed as incurred, while renewals and
betterments are capitalized. Research and development costs are expensed as
incurred.


                                      F-11


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


LONG-LIVED ASSETS

         The Company reviews the carrying amount of its long-lived assets for
possible impairment whenever events or changes in circumstances indicate that
the carrying amount of the assets may not be recoverable. Recoverability of
assets to be held and used is measured by a comparison of the carrying amount of
an asset to future undiscounted net cash flows expected to be generated by the
asset. If such assets are considered to be impaired, the impairment to be
recognized is measured by the amount by which the carrying amount of the assets
exceeds the fair value of the assets. Assets to be disposed of are reported at
the lower of the carrying amount or fair value less costs to sell.

PRODUCT WARRANTY LIABILITIES

         Generally, the Company's electronic components, network access and
transmission products and communication timing and synchronization products
carry a one-year limited parts and labor warranty and the Company's
communications test instruments and European network access and transmission
products carry a two-year limited parts and labor warranty. Products returned
under warranty typically are tested and repaired or replaced at the Company's
option. Historically, the Company has not experienced significant warranty costs
or returns.

         The Company records in accrued expenses a liability for estimated costs
that it expects to incur under its basic limited warranties when product revenue
is recognized. Factors affecting the Company's warranty liability include the
number of units sold, historical and anticipated rates of claim, and costs per
claim. The Company periodically assesses the adequacy of its warranty liability
accrual based on changes in these factors.

         The changes in the Company's product warranty liability during 2005 and
2004 were as follows:

                                                       Year Ended December 31,
                                                    ---------------------------
                                                        2005            2004
                                                    ------------   ------------

Liability, beginning of year..................      $     64,000   $     79,000
Expense for new warranties issued ............            86,000         64,000
Warranty claims ..............................                --        (79,000)
                                                    ------------   ------------
Liability, end of year .......................      $    150,000   $     64,000
                                                    ============   ============

INCOME TAXES

         The Company uses the liability method of accounting for income taxes in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 109,
ACCOUNTING FOR INCOME TAXES. Deferred income taxes are recognized based on the
differences between financial statement and income tax bases of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse. Valuation allowances are established, when
necessary, to reduce deferred tax assets to the amount expected to be realized.
The provision for income taxes represents the tax payable for the year and the
change during the year in deferred tax assets and liabilities.


                                      F-12


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


STOCK-BASED COMPENSATION

         The Company applies Accounting Principles Bulletin ("APB") Opinion No.
25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES and related interpretations in
accounting for its employee stock-based compensation plans. Accordingly, no
compensation cost is recognized for its employee stock option plans unless the
exercise price of options granted is less than fair market value on the date of
grant. The Company has adopted the disclosure provisions of SFAS No. 123,
ACCOUNTING FOR STOCK-BASED COMPENSATION, as amended by SFAS No. 148 ACCOUNTING
FOR STOCK-BASED COMPENSATION - PRESENTATION AND DISCLOSURE.

         The following table sets forth the net income and basic and diluted
earnings per share for the periods presented as if the Company had elected the
fair value method of accounting for stock options:

<TABLE>
                                                                         2005               2004
                                                                      (restated)         (restated)            2003
                                                                    -------------      -------------      -------------
<S>                                                               <C>                  <C>                <C>
Net income:
   As reported ................................................   $     1,441,000      $   1,327,000      $   1,161,000
   Add:  Stock-based compensation expense included in
     reported net income, net of related tax effect ...........                --                 --                 --
   Deduct:  Stock-based compensation expense determined
     under the fair value-based method, net of related tax
     effect ...................................................          (819,000)          (127,000)           (45,000)
                                                                    -------------      -------------      -------------
   Pro forma ..................................................   $       622,000      $   1,200,000      $   1,116,000
                                                                    =============      =============      =============

Basic earnings per share:
   As reported ................................................     $        0.04      $        0.06      $        0.05
   Add: Stock-based compensation expense included in
     reported net income, net of related tax effect ...........                --                 --                 --
   Deduct: Stock-based compensation expense determined ........
     under the fair value-based method, net of related tax
     effect ...................................................             (0.02)                --                 --
                                                                    -------------      -------------      -------------
   Pro forma ..................................................     $        0.02      $        0.06      $        0.05
                                                                    =============      =============      =============

Diluted earnings per share:
   As reported ................................................     $        0.04      $        0.05      $        0.05

   Add: Stock-based compensation expense included in
     reported net income, net of related tax effect ...........                --                 --                 --
   Deduct: Stock-based compensation expensed determined
     under the fair value-based method, net of related tax
     effect ...................................................             (0.02)                --                 --
                                                                    -------------      -------------      -------------
   Pro forma ..................................................     $        0.02      $        0.05      $        0.05
                                                                    =============      =============      =============
</TABLE>


                                      F-13


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         The above calculations include the effects of all grants in the periods
presented. Because options often vest over several years and additional awards
are made each year, the results shown above may not be representative of the
effects on net income or loss in future periods. The calculations were based on
a Black-Scholes pricing model with the following assumptions: no dividend yield;
expected volatility of 88% to 107%; risk-free interest rate of 3% to 4.25%;
expected lives of 7 years.

EARNINGS PER SHARE

         Earnings per share is calculated according to SFAS No. 128, EARNINGS
PER SHARE. Basic earnings per share includes no dilution and is computed by
dividing net income available to common stockholders by the weighted average
number of shares outstanding during the year. Diluted earnings per share
reflects the potential dilution of securities that could share in the earnings
of the Company.

FAIR VALUE OF FINANCIAL INSTRUMENTS

         SFAS No. 107, DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS,
requires all entities to disclose the fair value of financial instruments, both
assets and liabilities recognized and not recognized on the balance sheet, for
which it is practicable to estimate fair value. This statement defines fair
value of a financial instrument as the amount at which the instrument could be
exchanged in a current transaction between willing parties. As of December 31,
2005 and 2004, the fair value of all financial instruments approximated carrying
value.

         The carrying amount of cash and cash equivalents, accounts receivable,
accounts payable and accrued expenses are reasonable estimates of their fair
value because of the short maturity of these items. The Company believes the
carrying amounts of its notes payable and long-term debt approximate fair value
because the interest rates on these instruments are subject to change with, or
approximate, market interest rates.

USE OF ESTIMATES

         The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could materially differ
from those estimates.

CONCENTRATION OF CREDIT RISK

         Financial instruments, which potentially expose the Company to
concentration of credit risk, consist primarily of cash and accounts receivable.
The Company places its cash with high quality financial institutions. At times,
cash balances may be in excess of the amounts insured by the Federal Deposit
Insurance Corporation.

         The Company's accounts receivable result from sales to a broad customer
base. The Company extends credit to its customers based upon an evaluation of
the customer's financial condition and credit history and generally does not
require collateral. Accounts receivable are generally due within 30 days in the


                                      F-14


<PAGE>


                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


Company's U.S., France and U.K. operations and are stated net of an allowance
for doubtful accounts. Accounts outstanding for longer than the contractual
payment terms are considered past due. Provisions for uncollectible accounts are
made based on the Company's specific assessment of the collectibility of all
past due accounts. Credit losses are provided for in the financial statements
and consistently have been within management's expectations. Sales to Rockwell
Collins, Inc. represented approximately 10% of our total net sales during 2005.
No other customer represented 10% or more of our total net sales for that
period. Sales to BAE Systems companies represented 15% and 13% of total net
sales in 2004 and 2003, respectively.

FOREIGN CURRENCY TRANSLATION

         The accounts of foreign subsidiaries have been translated using the
local currency as the functional currency. Accordingly, foreign currency
denominated assets and liabilities have been translated to U.S. dollars at the
current rate of exchange on the balance sheet date and at the average for the
period reported for the statement of operations. The effects of translation are
recorded as a separate component of stockholders' equity in accumulated other
comprehensive income (loss). Exchange gains and losses arising from transactions
denominated in foreign currencies are translated at the exchange rates
applicable on the dates of the transactions and are included in operations.

(2)      RESTATEMENT OF 2004 AND 2005 FINANCIAL STATEMENTS

         In connection with an internal investigation by the Company's Audit
Committee in response to an inquiry by the staff of the Securities and Exchange
Commission's Division of Enforcement, the Company has determined that during the
quarter ended December 31, 2004, the Company prematurely recognized certain net
sales of communications test equipment units that were not actually delivered to
the customer until the first quarter of 2005 and thus did not meet all
applicable revenue recognition criteria until the first quarter of 2005. The
Company has determined the effect of this premature recognition of revenue on
its previously issued financial statements and has restated the accompanying
financial statements for the years ended December 31, 2004 and 2005 and has
restated the financial information below for the years ended December 31, 2004
and 2005.


                                      F-15


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         The effects of the restatement on net sales, cost of sales, gross
profit, operating expenses, income from operations, net income, and basic and
diluted earnings per share as of and for the year ended December 31, 2004 are as
follows:

<TABLE>
<S>     <C>
                                                     AS ORIGINALLY   RESTATEMENT
                                                       REPORTED      ADJUSTMENTS       AS RESTATED
                                                     -----------     -----------       ------------
                                                         (IN THOUSANDS, EXCEPT PER SHARE DATA)

         Net sales .............................     $    29,861     $      (224)      $    29,637
         Cost of sales .........................     $    16,146     $       (57)*     $    16,089
         Gross profit ..........................     $    13,715     $      (167)*     $    13,548
         Operating expenses ....................     $    11,747     $       (14)*     $    11,733
         Income from operations ................     $     1,968     $      (153)      $     1,815
         Net income ............................     $     1,480     $      (153)      $     1,327
            Basic earnings per share ...........     $      0.06     $        --       $      0.06
            Diluted earnings per share .........     $      0.06     $     (0.01)      $      0.05

         The effects of the restatement on net sales, cost of sales, gross
profit, operating expenses, income from operations, net income, and basic and
diluted earnings per share as of and for the year ended December 31, 2005 are as
follows:

                                                     AS ORIGINALLY   RESTATEMENT
                                                       REPORTED      ADJUSTMENTS      AS RESTATED
                                                     -----------     -----------      ------------

         Net sales .............................     $    41,046     $       224      $    41,270
         Cost of sales .........................     $    23,656     $        58*     $    23,714
         Gross profit ..........................     $    17,390     $       166*     $    17,556
         Operating expenses ....................     $    16,315     $        13*     $    16,328
         Income from operations ................     $     1,075     $       153      $     1,228
         Net income ............................     $     1,288     $       153      $     1,441
            Basic earnings per share ...........     $      0.03     $      0.01      $      0.04
            Diluted earnings per share .........     $      0.03     $      0.01      $      0.04

         -------------------
         * Differences attributable to rounding.
</TABLE>

                                      F-16


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


(3)      INVENTORIES, NET

         Inventories are summarized as follows as of December 31:

                                                      2005            2004
                                                   (restated)      (restated)
                                                  -----------     -----------

         Raw materials ......................     $ 4,668,000     $ 3,222,000
         Work-in-process ....................       2,716,000       1,280,000
         Finished goods .....................       2,893,000       2,047,000
                                                  -----------     -----------
                                                  $10,277,000     $ 6,549,000
                                                  ===========     ===========

         Included in the amounts above are allowances for inventory obsolescence
of $4,053,000 and $2,251,000 at December 31, 2005 and 2004, respectively.
Allowances for inventory obsolescence are recorded as necessary to reduce
obsolete inventory to estimated net realizable value or to specifically reserve
for obsolete inventory that the Company intends to dispose of. The inventory
items identified for disposal at each year end are generally discarded during
the following year.

(4)      PROPERTY, PLANT AND EQUIPMENT

         Property, plant and equipment consists of the following as of December
31:

<TABLE>
                                                                       2005               2004
                                                                  ---------------     -------------
<S>                                                               <C>                 <C>
         Land and buildings...................................    $       343,000     $     390,000
         Machinery, equipment and fixtures....................          4,002,000         3,999,000
         Leasehold improvements...............................            663,000           482,000
                                                                  ---------------     -------------
                                                                        5,008,000         4,871,000
         Accumulated depreciation and amortization............         (2,935,000)       (3,962,000)
                                                                  ---------------     -------------
                                                                  $     2,073,000     $     909,000
                                                                  ===============     =============
</TABLE>

(5)      GOODWILL AMORTIZATION AND IMPAIRMENT TESTING

         SFAS No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS, disallows the
amortization of goodwill and provides for impairment testing of goodwill
carrying values on an annual basis or more frequently if an event occurs or
circumstances change that would more likely than not reduce the fair value of a
reporting unit below its carrying amount. In applying SFAS No. 142, the Company
performed the transitional reassessment and impairment tests required as of
January 1, 2002. At the time of adoption, the Company had $1,084,000 of
accumulated amortization of goodwill. The Company performed its annual required
tests of impairment as of December 31, 2005, 2004 and 2003 for goodwill in the
electronic components segment and the communications equipment segment reporting
units. No events or changes in circumstances occurred between annual tests that
would have required an interim goodwill impairment test.


                                      F-17


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


(6)      LINES OF CREDIT

         Outstanding borrowings under the Company's revolving lines of credit
were as follows as of December 31:

                                                       2005             2004
                                                    -----------     -----------
Line of credit with a U.S. commercial lender.....   $        --     $   118,000
Lines of credit with foreign banks...............     3,283,000         760,000
                                                    -----------     -----------
                                                    $ 3,283,000     $   878,000
                                                    ===========     ===========

(7)      CREDIT FACILITIES

         On August 25, 2005, the Company, together with two subsidiaries, CXR
Laurus and EMRISE Electronics, acting as guarantors, obtained a credit facility
from Wells Fargo Bank, N.A. for the Company's U.S. operations. As guarantors,
each of CXR Telcom Corporation and EMRISE Electronics is jointly and severally
liable with the Company for up to $9,000,000. This facility is effective through
September 1, 2006. The credit facility has no prepayment penalty and is subject
to an unused commitment fee equal to 0.25% per annum, payable quarterly based on
the average daily unused amount of the line of credit described in the following
paragraph.

         The credit facility provides for a $9,000,000 revolving line of credit
secured by accounts receivable, other rights to payment and general intangibles,
inventories and equipment. Borrowings do not need to be supported by specific
receivables or inventory balances unless aggregate borrowings under the line of
credit exceed $2,000,000 at any time (a "conversion event"). If a conversion
event occurs, the line of credit will convert into a formula-based line of
credit until the borrowings are equal to or less than $2,000,000. The formula
generally provides that the outstanding borrowings under the line of credit can
not exceed an aggregate of 80% of eligible accounts receivable plus 30% of the
value of eligible finished goods inventory. Interest is payable monthly. The
interest rate is variable and is adjusted monthly based on the prime rate. The
prime rate at December 31, 2005 was 7.25%.

         The credit facility is subject to various financial covenants on a
consolidated basis, which were updated on November 17, 2005.

         As of December 31, 2005, the Company had no outstanding balance owing
under the revolving credit line, and the Company had $2,000,000 of availability
on the non-formula based portion of the credit line. As of December 31, 2005,
the Company was in compliance with each of the covenants of the credit facility.

         In the event of a default and continuation of a default, Wells Fargo
may accelerate the payment of the principal balance requiring the Company to pay
the entire indebtedness outstanding on that date. From and after the maturity
date of the note, or any earlier date that all principal owing under the note
becomes due and payable by acceleration or otherwise, the outstanding principal
balance will bear interest until paid in full at an increased rate per annum
equal to 4% above the rate of interest in effect from time to time under the
note.


                                      F-18


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         The credit facility also provides for a term loan of $150,000 secured
by equipment, amortizable over 36 months at a variable rate equal to the prime
rate plus 1.5%. The term loan portion of the facility had a balance of $75,000
at December 31, 2005.

         Wells Fargo Bank, N.A. has also provided the Company with credit for
the purchase of new capital equipment when needed of which a balance of $123,000
was outstanding at December 31, 2005. The interest rate is equal to the 90-day
London InterBank Offered Rate ("LIBOR") (4.54% at December 31, 2005) plus 3.75%
per annum. Amounts borrowed under this arrangements are amortized over 60 months
from the respective dates of borrowing and are secured by the purchased
equipment.

         As of December 31, 2005, the Company's foreign subsidiaries had credit
facilities, including lines of credit and term loans, with Lloyds TSB Bank PLC
("Lloyds TSB") and Lloyds TSB Commercial Finance Limited ("Lloyds") in England,
IFN Finance, a subsidiary of ABN AMRO Holdings, N.V., Banc National de Paris,
Societe Generale in France, and Sogelease and Johnan Shinkin Bank in Japan. At
December 31, 2005, the balances outstanding under the Company's United Kingdom,
France and Japan credit facilities were $3,006,000, $1,090,000 and $32,000,
respectively.

         On July 8, 2005, XPS and Pascall obtained a credit facility with
Lloyds. At the same time, the credit facility of Venture Finance PLC, a
subsidiary of ABN AMRO Holdings, N.V., was terminated, and all debt to Venture
Finance PLC was paid off. The Lloyds facility provides a revolving loan secured
by receivables, with a maximum availability of 2,100,000 British pounds sterling
(approximately U.S. $3,613,000 based on the exchange rate in effect on December
31, 2005). The annual interest rate on the revolving loan is 1.5% above the
Lloyds TSB base rate. The Lloyds TSB base rate was 4.5% at December 31, 2005.
This credit facility covers a period of 24 months, expiring on July 31, 2007.
The financial covenants include a 50% cap on combined export gross sales of XPS
and Pascall and days sales outstanding of less than 65 days, and the funding
balance is capped at 125% of XPS and Pascall combined gross sales.

         On August 26, 2005, XPS entered into an agreement with Lloyds for an
unsecured cashflow loan of 300,000 British pounds sterling (approximately U.S.
$516,000 based on the exchange rate in effect on December 31, 2005), payable
over 12 months. The loan is structured as an overadvance on the previously
negotiated 2,100,000 British pounds sterling revolving loan with Lloyds,
bringing the maximum aggregate commitment on the revolving loan to 2,400,000
British pounds sterling (approximately U.S. $4,129,000 based on the exchange
rate in effect on December 31, 2005).

         The unsecured cashflow loan of 300,000 British pounds sterling is
payable at a rate of 25,000 British pounds sterling per month, the first payment
falling due one month after initial drawdown on the revolving loan. The interest
rate is variable and is adjusted monthly based on the base rate of Lloyds TSB
plus 1.9%. The Lloyds TSB base rate at December 31, 2005 was 4.5%. Lloyds TSB
has sole discretion to switch the details on this overadvance account if Lloyds
determines that we will have difficulty in meeting the specific reductions in
the overadvance account.

         On August 26, 2005, EEL, a United Kingdom-based subsidiary of the
Company, entered into an agreement with Lloyds TSB for an unsecured term loan
for 500,000 British pounds sterling (approximately U.S. $860,000 based on the
exchange rate in effect on December 31, 2005). This loan is repayable in 36
consecutive monthly installments, representing principal and interest. The
interest rate is variable and is adjusted daily based on the Lloyds TSB base
rate plus 2.5%. The Lloyds TSB base rate at December 31, 2005 was 4.5%. The loan


                                      F-19


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


also includes financial covenants. EEL must maintain consolidated profit before
taxation and interest paid and payable of no less than 500% of the consolidated
interest paid and payable. The Company failed to comply with this covenant and
received a waiver. The Company and the bank are reviewing the covenants for
possible amendment. Additionally, EEL must maintain consolidated profit before
taxation, depreciation, amortization of goodwill and other intangibles and
interest paid and payable of no less than 300% of the consolidated principal
repayments and the consolidated interest paid and payable.

         In the event of a default, Lloyds may make the loan, including any
outstanding principal and interest which has accrued, repayable on demand. If
any amount payable is not paid when due, EEL must pay an increased interest rate
per annum equal to 3% above the rate of interest in effect from time to time
under the note.

         In April 2003, CXR-AJ obtained a credit facility from IFN Finance, a
subsidiary of ABN AMRO N.V. This credit facility is for a maximum of $1,421,000
based on the exchange rate in effect at December 31, 2005 for the conversion of
euros into United States dollars. CXR-AJ also had $34,000 of term loans with two
French banks outstanding as of September 30,2005. The IFN Finance facility is
secured by accounts receivable and carries an annual interest rate of 1.6% above
the French "T4M" rate. At December 31, 2005, the French T4M rate was 2.26%, and
this facility had a balance of $1,056,000. This facility has no financial
performance covenants.

         XCEL Japan Ltd., or XJL, obtained a term loan on November 29, 2002 from
Johnan Shinkin Bank. The loan is amortized over five years, carries an annual
fixed interest rate of 3.25% and is secured by the assets of XJL. The balances
of the loan as of December 31, 2005 and 2004 were $32,000 and $73,000,
respectively, using the exchange rates in effect at those dates for conversion
of Japanese yen into United States dollars. There are no financial performance
covenants applicable to this loan.

(8)      LONG-TERM DEBT

         A summary of long-term debt follows as of December 31:

<TABLE>
                                                                                        2005              2004
                                                                                  --------------    -------------
<S>                                                                               <C>               <C>
         Term notes payable to U.S. commercial lender (a).....................    $       75,000    $     233,000
         Term notes payable to foreign banks (b)..............................           844,000          784,000
         Capitalized lease and equipment loan obligations (c).................           327,000          174,000
                                                                                  --------------    -------------
                                                                                       1,246,000        1,191,000
         Current portion......................................................          (504,000)        (233,000)
                                                                                  --------------    -------------
                                                                                  $      742,000    $     958,000
                                                                                  ==============    =============
</TABLE>
------------------

(a)    The Company's domestic credit facility with Wells Fargo Bank, N.A.
       provides for a term loan of $150,000 secured by equipment, amortizable
       over 36 months at a variable rate equal to the prime rate plus 1.5%. The
       term loan portion of the facility had balances of $75,000 and $126,000 at
       December 31, 2005 and 2004, respectively.


                                      F-20


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


(b)    The Company has agreements with several foreign banks that include term
       borrowings that mature at various dates through 2008. Interest rates on
       the borrowings bear interest at rates ranging from 3.25% to 7% and are
       payable in monthly installments. The balances by country of origination
       at December 31, 2005 were: United Kingdom - $778,000; France - $34,000;
       and Japan - $32,000. At December 31, 2004, the balances by country of
       origination were: United Kingdom - $715,000; France - $62,000; and Japan
       - $56,000.

       The unsecured United Kingdom term loan in the original principal amount
       of $860,000 is payable over 36 months commencing in September 2005 at
       $24,000 per month and interest is the base rate plus 2.5%.

       The term loans in France had aggregate balances of $34,000 and $62,000 at
       December 31, 2005 and 2004, respectively, and is payable over 60 months
       and secured by the assets of the local subsidiary, bears an annual
       interest rate of 4% and is not subject to financial performance
       covenants.

       The term loan in Japan is a five-year amortizable loan that commenced in
       November 2002 and had balances of $32,000 and $56,000 as of December 31,
       2005 and 2004, respectively, carries an annual fixed interest rate of
       3.25%, is secured by the Japanese subsidiary's assets and is not subject
       to financial performance covenants.

(c)    Capitalized lease obligations are calculated using interest rates
       appropriate at the inception of the lease and range from 6% to 18%.
       Leases are amortized over the lease term using the effective interest
       method. The leases all contain bargain purchase options and expire at
       various dates through December 31, 2017. Wells Fargo Bank, N.A. has
       provided capital equipment loans with balances at December 31, 2005 of
       $123,000. The capital equipment loans are amortized over five years and
       bear interest at the bank's 30-day LIBOR plus 4%.

         Principal maturities related to long-term debt, including loans from
stockholders (Note 18), as of December 31, 2005 were as follows:

                           Year Ending December 31,                  Amount
                           ------------------------              -------------

                                    2006                         $   1,004,000
                                    2007                               923,000
                                    2008                               756,000
                                    2009                               538,000
                                    2010                               275,000
                                                                 -------------
                                    Total                        $   3,496,000
                                                                 =============


                                      F-21


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


(9)      ACCRUED EXPENSES

         Accrued expenses as of December 31 consisted of the following:

                                                        2005           2004
                                                     (restated)     (restated)
                                                     ----------     ----------

         Accrued salaries ......................     $  675,000     $  805,000
         Accrued payroll taxes and benefits ....        735,000        491,000
         Advance payments from customers .......        219,000         77,000
         Other accrued expenses ................      1,942,000      1,628,000
                                                     ----------     ----------
         Total accrued expenses ................     $3,571,000     $3,001,000
                                                     ==========     ==========

         No other individual item represented more than 5% of total current
liabilities.

(10)     STOCKHOLDERS' EQUITY

STOCK OPTIONS AND WARRANTS

         The Company has four stock option plans:

         o        Employee Stock and Stock Option Plan, effective July 1, 1994,
                  providing for non-qualified stock options as well as
                  restricted and non-restricted stock awards to both employees
                  and outside consultants. Up to 520,000 shares were authorized
                  for issuance under this plan. Terms of related grants under
                  the plan are at the discretion of the board of directors. The
                  board of directors does not intend to issue any additional
                  options or make any additional stock grants under this plan.

         o        1993 Stock Option Plan, providing for the grant of up to
                  300,000 incentive and non-qualified stock options to purchase
                  stock at not less than the current market value on the date of
                  grant. Options granted under this plan vest ratably over three
                  years and expire 10 years after date of grant. The board of
                  directors does not intend to issue any additional options
                  under this plan.

         o        The 1997 Stock Incentive Plan (the "1997 Plan") provides that
                  options granted may be either qualified or nonqualified stock
                  options and are required to be granted at fair market value on
                  the date of grant. Subject to termination of employment,
                  options may expire up to ten years from the date of grant and
                  are nontransferable other than in the event of death,
                  disability or certain other transfers that the committee of
                  the board of directors administering the 1997 Plan may permit.
                  Up to 1,600,000 stock options were authorized to be granted
                  under the 1997 Plan. All outstanding options of former
                  optionholders under the XET 1987 Employee Stock Option Plan
                  were converted to options under the 1997 Plan as of the date
                  of the merger between the Company and EMRISE Electronics at
                  the exchange rate of 1.451478. The board of directors does not
                  intend to issue any additional options under this plan.


                                      F-22


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         o        The 2000 Stock Option Plan was adopted by the board of
                  directors in November 2000 and approved by the stockholders on
                  January 16, 2001. The board of directors adopted the Amended
                  and Restated 2000 Stock Option Plan (the "2000 Plan")
                  effective as of August 3, 2001. Under the 2000 Plan, options
                  granted may be either incentive or nonqualified options.
                  Incentive options must have an exercise price of not less than
                  the fair market value of a share of common stock on the date
                  of grant. Nonqualified options must have an exercise price of
                  not less than 85% of the fair market value of a share of
                  common stock on the date of grant. Up to 2,000,000 options may
                  be granted under the 2000 Plan. No option may be exercised
                  more than ten years after the date of grant.

         The Company accounts for stock-based compensation under the "intrinsic
value" method. Under this method, no compensation expense is recorded for these
plans and arrangements for current employees whose grants provide for exercise
prices at or above the market price on the date of grant. Compensation or other
expense is recorded based on intrinsic value (excess of market price over
exercise price on date of grant) for employees, and fair value of the option
awards for others.

         The following table shows activity in the outstanding options for the
years ended December 31, 2005, 2004 and 2003:

<TABLE>
<S>     <C>
                                              2005                      2004                    2003
                                     ----------------------   ----------------------   ----------------------
                                                   Weighted                 Weighted                 Weighted
                                                   Average                  Average                  Average
                                                   Exercise                 Exercise                 Exercise
                                        Shares       Price       Shares       Price        Shares      Price
                                     -----------   --------   ----------    --------   -----------    -------
Outstanding at beginning of year       2,133,000    $  0.97    1,729,000     $  0.96     1,432,000      $1.11
Granted                                  725,000    $  1.92      424,000     $  0.96       344,000      $0.35
Exercised                               (106,000)   $  0.38      (19,000)    $  0.33       (28,000)     $0.24
Forfeited                               (644,000)   $  1.88       (1,000)    $  3.44       (19,000)     $2.21
--------------------------------     -----------   --------   ----------    --------   -----------    -------
Outstanding at end of year             2,108,000    $  1.05    2,133,000     $  0.97     1,729,000      $0.96
                                     ===========   ========   ==========    ========   ===========    ========

         The following table summarizes information with respect to stock
options at December 31, 2005:

                                  Options                                         Options Exercisable
                       ------------------------------------                   --------------------------
                           Number         Weighted Average      Weighted        Number          Weighted
      Range of          Outstanding          Remaining          Average       Exercisable        Average
      Exercise          December 31,      Contractual Life      Exercise      December 31,      Exercise
       Price                2005               (Years)            Price           2005            Price
----------------        ------------      -----------------    -----------    ------------    ------------
$0.20 to $1.00            1,317,000             6.08             $  0.54        1,217,000        $  0.46
$1.01 to $2.00              780,000             9.38                1.87          680,000           1.93
$3.01 to $4.00               11,000             0.62                3.13           11,000           3.13
                        ------------      -----------------    -----------    ------------    ------------
                          2,108,000             7.27             $  1.05        1,908,000        $  1.00
                        ============      =================    ===========    ============    ============
</TABLE>

         The fair value of options granted during 2005 was $738,000 at a
weighted average value of $1.02. The fair value of options granted during 2004
was $337,000, at a weighted average value of $0.79 per share. The fair value of
options granted during 2003 was $42,000, at a weighted average value of $0.12
per share.


                                      F-23


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         If the Company had instead elected the fair value method of accounting
for stock-based compensation, compensation cost would be accrued at the
estimated fair value of all stock option grants over the service period,
regardless of later changes in stock prices and price volatility. The fair value
at date of grant for options granted in 2005, 2004 and 2003 has been estimated
based on a Black-Scholes pricing model with the following assumptions: no
dividend yield; expected volatility of 88% to 92% in 2005, 92% to 107% in 2004
and 92% in 2003; risk-free interest rate of 3.0% to 4.25%; and average expected
lives of seven years.

         The board of directors has also authorized the issuance of common stock
purchase warrants to certain officers, directors, stockholders, key employees
and other parties as follows:

<TABLE>
<S>       <C>
                                                                                            Exercise Price
                                                                     Number        ----------------------------------
                                                                    of Shares        Per Share          Total
                                                                 ----------------- ---------------- -----------------
Balance outstanding at January 1, 2003                                404,000      $0.25 to $2.50     $   273,000
Warrants issued                                                       401,000       0.75 to 1.00          325,000
Warrants expired/forfeited                                           (138,000)          0.66              (91,000)
Warrants exercised                                                    (14,000)          0.66               (9,000)
                                                                 ----------------- ---------------- -----------------
Balance outstanding at December 31, 2003                              653,000      $0.25 to $2.50     $   498,000
                                                                 ----------------- ---------------- -----------------
Warrants issued                                                       250,000       0.85 to 1.30          299,000
Warrants expired/forfeited                                            (32,000)          2.50              (80,000)
Warrants exercised                                                    (65,000)      0.25 to 0.31          (17,000)
                                                                 ----------------- ---------------- -----------------
Balance outstanding at December 31, 2004                              806,000      $0.31 to $1.30     $   700,000
                                                                 ----------------- ---------------- -----------------
Warrants issued                                                     3,886,000       1.73 to 2.00        6,741,000
Warrants exercised                                                   (205,000)      0.39 to 0.75         (111,000)
                                                                 ----------------- ---------------- -----------------
Balance outstanding at December 31, 2005                            4,487,000      $0.75 to $2.00      $7,330,000
                                                                 ================= ================ =================
</TABLE>

         During 2005, the Company issued warrants to purchase up to 3,886,000
shares of common stock at exercise prices ranging from of $1.73 to $2.00
(3,776,000 in conjunction with the Company's January 2005 stock offering and
110,000 as compensation for services rendered). The estimated value of the
warrants issued during 2005 for services rendered was $23,000 and was calculated
using the Black-Scholes pricing model with the following assumptions: risk-free
interest rate of 3%, expected life of 3 years, no dividend yield, and an
expected volatility of 107.19%.

         During 2004, the Company issued warrants to purchase up to 250,000
shares of common stock at exercise prices ranging from of $0.85 to $1.30 per
share in consideration for services rendered or to be rendered and in connection
with the acquisition of Larus Corporation. The estimated value of the warrants
issued during 2004 for services rendered was $38,000 and was calculated using
the Black-Scholes pricing model with the following assumptions: risk-free
interest rate of 2.5% to 3.25%, expected life of 3 years, no dividend yield, and
an expected volatility of 107%. The estimated value of the warrants issued in
connection with the acquisition of Larus Corporation was $72,526 and was
calculated using the Black-Scholes pricing model with the following assumptions:
risk-free interest rate of 3.25%, expected life of three years, no dividend
yield, and an expected volatility of 107.19%.

         During 2003, the Company issued warrants to purchase up to 300,000
shares of common stock at the exercise price of $0.75 and 101,000 shares at the
exercise price of $1.00. The Company issued the warrants for services rendered
or to be rendered. The estimated value of the warrants was $19,000 and was
calculated using the Black-Scholes pricing model with the following assumptions:
risk-free interest rate of 1.6%, expected lives of 3 years, no dividend yield
and an expected volatility of 84.8%.


                                      F-24


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         As of December 31, 2005, the Company was authorized to issue
150,000,000 shares of common stock. As of that date, the Company had 37,550,250
shares of common stock outstanding and 6,594,443 shares of common stock that
could become issuable pursuant to the exercise of outstanding stock options and
warrants.

         As described in Note 19, the Company issued shares of common stock and
warrants to purchase shares of common stock in a private offering on January 5,
2005.

DIVIDENDS

         No dividends on the Company's common stock have been paid to date. The
Company currently intends to retain future earnings to fund the development and
growth of its business and, therefore, does not anticipate paying cash dividends
on its common stock within the foreseeable future. Any future payment of
dividends on the Company's common stock will be determined by the Company's
board of directors and will depend on the Company's financial condition, results
of operations, contractual obligations and other factors deemed relevant by the
Company's board of directors.

(11)     INCOME TAXES

         The Company files a consolidated U.S. federal income tax return. This
return includes all domestic companies 80% or more owned by the Company. State
tax returns are filed on a consolidated, combined or separate basis depending on
the applicable laws relating to the Company and its domestic subsidiaries.

         Income before income taxes was taxed under the following jurisdictions
for the years ended December 31:

<TABLE>
                                                             2005                 2004                  2003
                                                          (restated)           (restated)
                                                     ----------------      ----------------     ---------------
<S>                                                  <C>                   <C>                  <C>
        Domestic.................................    $         25,000      $        762,000     $       369,000
        Foreign..................................           1,149,000               614,000           1,078,000
                                                     ----------------      ----------------     ---------------
        Total....................................    $      1,174,000      $      1,376,000     $     1,447,000
                                                     ================      ================     ===============

         Income tax expense (benefit) consisted of the following for the years
ended December 31:

                                                           2005                 2004                  2003
                                                        (restated)           (restated)
                                                     ----------------      ----------------     ---------------

        Current
           Federal...............................    $             --      $         34,000     $        26,000
           State.................................                  --                52,000              55,000
           Foreign...............................             535,000               242,000             351,000
                                                     ----------------      ----------------     ---------------
        Total current............................    $        535,000      $        328,000     $       432,000
                                                     ================      ================     ===============


                                                        F-25


<PAGE>

        Deferred
           Federal...............................    $       (705,000)     $       (204,000)    $      (132,000)
           State.................................              30,000               (11,000)            (14,000)
           Foreign...............................            (127,000)              (64,000)                 --
                                                     ----------------      ----------------     ---------------
        Total deferred...........................    $       (802,000)     $       (279,000)    $      (146,000)
                                                     ================      ================     ===============

        Total
           Federal...............................    $       (705,000)     $       (170,000)    $      (106,000)
           State.................................              30,000                41,000              41,000
           Foreign...............................             408,000               178,000             351,000
                                                     ----------------      ----------------     ---------------
        Total....................................    $       (267,000)     $         49,000     $       286,000
                                                     ================      ================     ===============

         Income tax expense (benefit) differed from the amount obtained by
applying the statutory federal income tax rate of 34% to income before income
taxes as follows for the years ended December 31:

                                                           2005                 2004                  2003
                                                        (restated)           (restated)
                                                     ----------------      ----------------     ---------------
Tax at U.S. federal statutory rate................   $        399,000      $        468,000     $       492,000
State taxes, net of federal income tax benefit....             30,000                41,000              43,000
Foreign income taxes..............................            (42,000)              248,000             (63,000)
Change in valuation allowances....................           (607,000)             (179,000)           (182,000)
Permanent differences.............................            (47,000)               (6,000)             12,000
Utilization of net operating losses...............                 --              (523,000)                 --
Other.............................................                 --                    --             (16,000)
                                                     ----------------      ----------------     ---------------
                                                     $       (267,000)     $         49,000     $       286,000
                                                     ================      ================     ===============
</TABLE>

                                                         F-26


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. Significant
components of the Company's deferred tax assets and liabilities were as follows
as of December 31:

<TABLE>
                                                                               2005                2004
                                                                            (restated)          (restated)
                                                                         --------------      --------------
<S>                                                                     <C>                  <C>
        Deferred tax assets:
            Fixed assets depreciation...............................    $            --      $      282,000
            Allowance for doubtful accounts ........................             44,000              12,000
            Inventory reserves and uniform capitalization ..........            770,000             393,000
            Other accrued liabilities ..............................            361,000             179,000
            Deferred compensation..................................            118,000             122,000
            Alternative minimum tax credit carryforwards ...........            142,000             142,000
            Capital loss carryforwards..............................            136,000             136,000
            Net operating loss carryforwards .......................          4,661,000           4,880,000
                                                                         --------------      --------------
        Total deferred tax assets ..................................          6,232,000           6,146,000
        Valuation allowance for deferred tax assets ................         (4,846,000)         (5,794,000)
                                                                         --------------      --------------
        Deferred tax assets (current)...............................          1,386,000             352,000
                                                                         --------------      --------------

        Deferred tax liabilities:
            Depreciation............................................            (51,000)                 --
            Intangible assets other than goodwill...................         (1,057,000)         (1,400,000)
                                                                         --------------      --------------
        Deferred tax liabilities (long-term)........................         (1,108,000)         (1,400,000)
                                                                         --------------      --------------
        Net deferred tax assets (liabilities).......................     $      278,000      $   (1,048,000)
                                                                         ==============      ==============
</TABLE>

         As of December 31, 2005, the Company had recorded $1,386,000 of net
deferred tax assets and $1,108,000 of deferred tax liabilities. The Company had
federal and state net operating loss carryforwards of approximately $14,187,000
and $14,121,000 as of December 31, 2005 and 2004, respectively, that expire at
various dates through 2023. As of December 31, 2005 and 2004, the Company
recorded a valuation allowance on the deferred tax asset. Management believes
sufficient uncertainty exists regarding the realizability of the deferred tax
asset items and that a valuation allowance is required. Management considers
projected future taxable income and tax planning strategies in making this
assessment. For the years ended December 31, 2005 and 2004, management recorded
reduction in its valuation allowances of $607,000 and $179,000, respectively,
based on the domestic book income in 2005 and 2004 and projections for future
taxable income over periods that the deferred assets are deductible. Management
believes that it is more likely than not that the Company will realize the
benefits of its net deferred tax asset. The amount of the deferred tax assets
considered realizable, however, could materially change in the near future if
estimates of future taxable income during the carryforward period are changed.

         As a result of the merger in 1997 of the privately held EMRISE
Electronics with a wholly-owned, newly formed subsidiary of the Company, with
EMRISE Electronics as the surviving subsidiary, the Company experienced a more
than 50% ownership change for federal income tax purposes. As a result, an
annual limitation will be placed upon the Company's ability to realize the
benefit of a significant portion of its federal net operating loss and credit
carryforwards. The Company currently has $9,606,000 of net operating losses not
subject to annual limitation, as these losses were generated subsequent to the
50% change in ownership. The remaining net operating loss of $4,581,000
generated before the change in ownership is subject to the annual limitation. Of
the $4,581,000 net operating loss carryforward subject to limitation,
approximately $276,000 per year is available to offset future federal taxable
income.


                                      F-27


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


(12)     EARNINGS PER SHARE

         The following table illustrates the computation of basic and diluted
earnings per share:

<TABLE>
                                                                           2005             2004
                                                                        (restated)       (restated)          2003
                                                                       ------------     ------------     ------------
<S>                                                                    <C>              <C>              <C>
NUMERATOR:
Net income .......................................................     $  1,441,000     $  1,327,000     $  1,161,000
    Less: accretion of the excess of the redemption value over
    the carrying value of redeemable preferred stock .............               --               --           (4,000)
                                                                       ------------     ------------     ------------
Income attributable to common stockholders .......................     $  1,441,000     $  1,327,000     $  1,157,000
                                                                       ============     ============     ============
DENOMINATOR:
Weighted average number of common shares outstanding during the
   period - basic ................................................       37,253,000       24,063,000       22,567,000
Incremental shares from assumed conversions of warrants,
   options and preferred stock ...................................        1,195,000          776,000        1,244,000
                                                                       ------------     ------------     ------------
Adjusted weighted average shares - diluted .......................       38,448,000       24,839,000       23,811,000
Basic earnings per share .........................................     $       0.04     $       0.06     $       0.05
                                                                       ============     ============     ============
Diluted earnings per share .......................................     $       0.04     $       0.05     $       0.05
                                                                       ============     ============     ============

         The following table shows the common stock equivalents that were
outstanding as of December 31, 2005 and 2004 but were not included in the
computation of diluted earnings per share because the options' or warrants'
exercise price was greater than the average market price of the common shares
and, therefore, the effect would be anti-dilutive:

                                                              Number        Exercise Price
                                                            of Shares         Per Share
                                                            ---------         ---------
  Anti-dilutive common stock options:
      As of December 31, 2005.......................          686,000           $2.00
      As of December 31, 2004.......................        1,027,000       $1.00 to $3.44

  Anti-dilutive common stock warrants:
      As of December 31, 2005.......................        3,886,000       $1.73 to $2.00
      As of December 31, 2004.......................          326,000       $1.00 to $1.30

(13)     COMMITMENTS AND CONTINGENCIES
</TABLE>


                                      F-28


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


LEASES

         The Company conducts most of its operations from leased facilities
under operating leases that expire at various dates through 2013. The leases
generally require the Company to pay all maintenance, insurance and property tax
costs and contain provisions for rent increases. Total rent expense, net of
sublease income, for 2005, 2004 and 2003 was approximately $885,000, $1,070,000
and $909,000, respectively.

         The future minimum rental payments required under operating leases that
have initial or remaining noncancelable lease terms in excess of one year
(including the related party lease discussed in Note 16) are as follows:

                        Year Ending December 31,           Amount
                        -----------------------         ------------

                                  2006                  $  1,202,000

                                  2007                     1,140,000
                                  2008                       745,000
                                   2009                      551,000
                                  2010                       430,000
                           2011 and thereafter               162,000
                                                        ------------
                                  Total                 $  4,230,000
                                                        ============

LITIGATION

         The Company is not currently a party to any material legal proceedings.
However, the Company and its subsidiaries are, from time to time, involved in
legal proceedings, claims and litigation arising in the ordinary course of
business. While the amounts claimed may be substantial, the ultimate liability
cannot presently be determined because of considerable uncertainties that exist.
Therefore, it is possible the outcome of such legal proceedings, claims and
litigation could have a material effect on quarterly or annual operating results
or cash flows when resolved in a future period. However, based on facts
currently available, management believes such matters will not have a material
adverse effect on the Company's consolidated financial position, results of
operations or cash flows.

EMPLOYEE BENEFIT PLANS

         Effective October 1, 1998, the Company instituted a defined
contribution plan ("401(k) Plan") covering the majority of its U.S. domestic
employees. Participants may make voluntary pretax contributions to such plans up
to the limit as permitted by law. Company contributions to the 401(k) plan are
discretionary. The Company made contributions of $36,000, $25,000 and $20,000 to
the 401(k) Plan for the years ended December 31, 2005, 2004 and 2003,
respectively.


                                      F-29


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         The Company's subsidiary in France has a defined benefit pension plan.
The plan is an unfunded plan. As of the December 31, 2005 and 2004 measurement
dates, the status of the defined benefit pension plan was as follows:

                                                           2005           2004
                                                        ----------    ----------
        Projected benefit obligation.................   $  163,000    $  178,000
        Fair value of plan assets....................   $       --    $   12,000
        Unfunded accumulated benefit.................   $  155,000    $  166,000
        Accumulated benefit obligation...............   $  163,000    $  122,000
        Employer contributions.......................   $       --    $   19,000
        Participant contributions....................   $       --    $       --
        Benefits paid................................   $   18,000    $   19,000

         Contributions to be paid to the plan during the year ended December 31,
2006 are estimated to be none.

         Weighted average assumptions used to determine pension benefit
obligations at December 31, 2005 and 2004 were as follows:

                                                           2005           2004
                                                        ----------    ----------
        Discount rate.................................     4.5%           4.5%
        Expected return on plan assets................     4.0%            --
        Rate of compensation increase.................      --            4.5%

         The components of the net periodic pension costs for the years ended
December 31, 2005 and 2004 were as follows:

                                                             2005         2004
                                                          ---------    ---------
        Service cost....................................  $  11,000    $  11,000
        Interest cost...................................      7,000        7,000
        Expected return on plan assets..................         --           --
        Amortization of transition asset, prior
         service cost and actuarial loss................         --           --
                                                          ---------    ---------
        Net periodic benefit cost.......................  $  18,000    $  18,000
                                                          =========    =========


                                      F-30


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         The following table sets forth the changes in benefit obligation for
the years ended December 31, 2005 and 2004:
                                                           2005          2004
                                                       ----------    ----------
        Change in benefit obligations:
        Benefit obligation at beginning of year......  $  122,000    $   96,000
        Service cost.................................      11,000        11,000
        Interest cost................................       7,000         7,000
        Benefits paid................................      18,000       (19,000)
        Contributions................................          --        19,000
        Effect of foreign currency translation.......       5,000         8,000
                                                       ----------    ----------
        Benefit obligation at end of year............  $  163,000    $  122,000
                                                       ==========    ==========

EXECUTIVE MANAGEMENT

         Effective January 1, 2001, the Company and Carmine T. Oliva, its Chief
Executive Officer, entered into an employment agreement that provided for an
annual base salary of $250,000, with annual merit increases, an initial term of
five years, two renewal periods of two years each, and severance pay of at least
three years' salary during the initial period or at least two years' salary
during a renewal period. On February 24, 2006, the Company and Mr. Oliva entered
into a new five-year employment agreement effective as of January 1, 2006. The
new employment agreement provides for an annual base salary of $350,000 and
severance of three times his annual base salary, net of taxes, under certain
circumstances.

         Effective July 2, 2001, the Company and Randolph D. Foote, its Senior
Vice President, Chief Financial Officer and Secretary, entered into an
employment agreement that provides for an initial annual salary of $130,000, an
initial term of three years, two renewal periods of one year each, and severance
pay of at least one years' salary. On February 24, 2006, the Company and Mr.
Foote entered into a new two-year employment agreement effective as of January
1, 2006. The new employment agreement provided for an annual base salary of
$175,000 and severance of one and one-half times his annual base salary, net of
taxes, under certain circumstances.

         Effective July 2, 2001, the Company and Graham Jefferies, Managing
Director of EEL and Executive Vice President and Chief Operating Officer of the
Company, entered into an employment agreement that provides for an initial
annual salary of 100,000 British pounds sterling (approximately $141,000 at the
then current exchange rates), an initial term of three years, two renewal
periods of one year each, and severance pay of at least one years' salary. On
February 24, 2006, the Company and Mr. Jefferies entered into a new three-year
employment agreement effective as of January 1, 2006. The new employment
agreement provides for an annual base salary of 152,800 British pounds sterling
per year (approximately U.S. $263,350 as of January 1, 2006) and severance of
twice his annual base salary, net of taxes, under certain circumstances.

(14)     SEGMENT AND MAJOR CUSTOMER INFORMATION

         The Company has two reportable segments: electronic components and
communications equipment. The electronic components segment operates in the
U.S., European and Asian markets and designs, manufactures and markets digital
switches and power supplies. The communications equipment segment operates
principally in the U.S. and European markets and designs, manufactures and
distributes voice and data transmission and networking equipment and
communications test instruments.


                                      F-31


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         The accounting policies of the segments are the same as those described
in the summary of significant accounting policies. The Company evaluates
performance based upon profit or loss from operations before income taxes
exclusive of nonrecurring gains and losses. The Company accounts for
intersegment sales at prices negotiated between the individual segments.

         The Company's reportable segments are comprised of operating entities
offering the same or similar products to similar customers. Each segment is
managed separately because each business has different customers and different
design and manufacturing and marketing strategies.

         Each segment has business units or components as described in paragraph
30 of SFAS No. 142. Each component has discrete financial information and a
management structure. Following is a description of the Company's segment and
component structure as of December 31, 2005:

         Reporting Units Within Electronic Components Segment:
         ----------------------------------------------------

         o        EMRISE Electronics - Rancho Cucamonga, California: Digitran
                  Division- digital and rotary switches, and electronic
                  subsystem assemblies for defense and aerospace applications
                  and keypads

         o        EMRISE Electronics - Monrovia, California: XCEL Circuits
                  Division - printed circuit boards mostly for intercompany
                  sales

         o        RO - Sunnyvale, California manufacturer of standard power
                  supplies using proprietary technology.

         o        XCEL Japan Ltd. - Tokyo, Japan: Reseller of Digitran switches
                  and other third party electronic components

         o        EEL - Ashford, Kent, England: Power supplies and conversion
                  for defense and aerospace applications; this reporting unit
                  also includes XPS and Pascall.

         Reporting Units Within Communications Equipment Segment:
         -------------------------------------------------------

         o        CXR Telcom division of CXR Larus Corporation - San Jose,
                  California: Telecommunications test equipment for the field
                  and central office applications

         o        Larus division of CXR Larus Corporation - San Jose,
                  California: Telecommunications synchronous timing devices and
                  network access equipment

         o        CXR-Anderson Jacobson - Abondant, France: network access and
                  modem equipment

         As described in Note 17, the Company acquired PEHL and Pascall in March
2005. These two entities are being included in EEL reporting unit of the
electronic components segment.


                                      F-32


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
       YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         Selected financial data for each of the Company's operating segments is
shown below.

                                           2005           2004
                                        (restated)     (restated)       2003
                                       -----------    -----------    -----------
Sales to external customers
---------------------------
     Electronic components .......     $25,687,000    $15,262,000    $16,168,000
     Communications equipment ....      15,583,000     14,375,000      9,351,000
                                       -----------    -----------    -----------
     Total .......................     $41,270,000    $29,637,000    $25,519,000
                                       ===========    ===========    ===========

Interest expense
----------------
     Electronic components .......     $   181,000    $   180,000    $   247,000
     Communications equipment ....         274,000        250,000        162,000
                                       -----------    -----------    -----------
     Total .......................     $   455,000    $   430,000    $   409,000
                                       ===========    ===========    ===========

Depreciation and amortization
-----------------------------
     Electronic components .......     $   674,000    $    91,000    $    72,000
     Communications equipment ....         241,000        126,000         65,000
                                       -----------    -----------    -----------
     Total .......................     $   915,000    $   217,000    $   137,000
                                       ===========    ===========    ===========

Segment profits
---------------
     Electronic components .......     $ 3,191,000    $ 2,612,000    $ 3,590,000
     Communications equipment ....         697,000      1,580,000         74,000
                                       -----------    -----------    -----------
     Total .......................     $ 3,888,000    $ 4,192,000    $ 3,664,000
                                       ===========    ===========    ===========

Segment assets
--------------
     Electronic components .......     $25,144,000    $ 8,435,000    $ 9,466,000
     Communications equipment.....      16,358,000     16,371,000      6,969,000
                                       -----------    -----------    -----------
     Total .......................     $41,502,000    $24,806,000    $16,435,000
                                       ===========    ===========    ===========


                                      F-33


<PAGE>
<TABLE>

                                                 EMRISE CORPORATION AND SUBSIDIARIES

                                             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


GOODWILL AND OTHER INTANGIBLE ASSETS BY SEGMENT AS OF DECEMBER 31, 2005

                                                              Technology       Customer    Covenant Not
                                               Trademarks     Acquired --    Relationships  to Compete    Backlog --      Patents in
                               Goodwill --     and Trade       10-Year       -- 10-Year      -- 3-Year      2-Year         Progress
                                   Not        Names -- Not       Life           Life           Life          Life           -- Not
                               Amortizable     Amortizable    Amortizable    Amortizable    Amortizable   Amortizable    Amortizable
                               -----------------------------------------------------------------------------------------------------
<S>                            <C>            <C>            <C>            <C>            <C>            <C>            <C>
Gross cost
----------
Electronic components ......   $ 6,702,000    $   813,000    $   484,000    $   200,000    $   200,000    $   200,000    $    52,000
Communications equipment ...     6,428,000        750,000      1,150,000        200,000             --             --
                               -----------------------------------------------------------------------------------------------------
Total ......................   $13,130,000    $ 1,563,000    $ 1,634,000    $   400,000    $   200,000    $   200,000    $    52,000
                               =====================================================================================================

Accumulated amortization
------------------------
Electronic components ......   $   192,000    $        --    $    16,000    $     7,000    $    50,000    $    75,000    $        --
Communications equipment ...       872,000             --        172,000         30,000             --             --             --
                               -----------------------------------------------------------------------------------------------------
Total ......................   $ 1,064,000    $        --    $   188,000    $    37,000    $    50,000    $    75,000    $        --
                               =====================================================================================================

Carrying value
--------------
Electronic components ......   $ 6,510,000    $   813,000    $   468,000    $   193,000    $   150,000    $   125,000    $    52,000
Communications equipment ...     5,556,000        750,000        978,000        170,000             --             --             --
                               -----------------------------------------------------------------------------------------------------
Total ......................   $12,066,000    $ 1,563,000    $ 1,446,000    $   363,000    $   150,000    $   125,000    $    52,000
                               =====================================================================================================


                                                                F-34


<PAGE>

                                     EMRISE CORPORATION AND SUBSIDIARIES

                                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                      YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


GOODWILL AND OTHER INTANGIBLE ASSETS BY SEGMENT AS OF DECEMBER 31, 2004

                                                                           Technology          Customer
                                                       Trademarks         Acquired --       Relationships --
                                  Goodwill --      and Trade Names --     10-Year Life       10-Year Life
Gross cost                      Not Amortizable      Not Amortizable       Amortizable        Amortizable
----------                      ----------------    ----------------    ----------------    ----------------
Electronic components ......    $      1,297,000    $             --    $             --    $             --
Communications equipment ...           5,668,000           2,800,000             500,000             300,000
                                ----------------    ----------------    ----------------    ----------------
Total ......................    $      6,965,000    $      2,800,000    $        500,000    $        300,000
                                ================    ================    ================    ================

Accumulated amortization
------------------------
Electronic components ......    $        212,000    $             --    $             --    $             --
Communications equipment ...             872,000                  --              25,000              15,000
                                ----------------    ----------------    ----------------    ----------------
Total ......................    $      1,084,000    $             --    $         25,000    $         15,000
                                ================    ================    ================    ================

Carrying value
--------------
Electronic components ......    $      1,085,000    $             --    $             --    $             --
Communications equipment ...           4,796,000           2,800,000             475,000             285,000
                                ----------------    ----------------    ----------------    ----------------
Total ......................    $      5,881,000    $      2,800,000    $        475,000    $        285,000
                                ================    ================    ================    ================


                                                     F-35


<PAGE>

                                     EMRISE CORPORATION AND SUBSIDIARIES

                                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                      YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


CHANGES IN GOODWILL BY SEGMENT
                                                                Electronic     Communications
                                                                Components        Equipment        Total
                                                               ------------     ------------    ------------
Balance at January 1, 2003 ................................    $    914,000     $  1,432,000    $  2,346,000
Goodwill acquired .........................................              --               --              --
Impairment ................................................              --               --              --
Foreign currency translation ..............................         101,000               --         101,000
                                                               ------------     ------------    ------------
Balance December 31, 2003 .................................    $  1,015,000     $  1,432,000    $  2,447,000
                                                               ============     ============    ============

Balance at January 1, 2004 ................................    $  1,015,000     $  1,432,000    $  2,447,000
Goodwill acquired .........................................              --        3,363,000       3,363,000
Impairment ................................................              --               --              --
Foreign currency translation ..............................          70,000            1,000          71,000
                                                               ------------     ------------    ------------
Balance December 31, 2004 (restated) ......................    $  1,085,000     $  4,796,000    $  5,881,000
                                                               ============     ============    ============

Balance at January 1, 2005 ................................    $  1,085,000     $  4,796,000    $  5,881,000
Goodwill acquired or reclassed from other intangibles......       5,930,000          760,000       6,690,000
Impairment ................................................              --               --              --
Foreign currency translation ..............................        (505,000)              --        (505,000)
                                                               ------------     ------------    ------------
Balance December 31, 2005 (restated) ......................    $  6,510,000     $  5,556,000    $ 12,066,000
                                                               ============     ============    ============


                                                    F-36


<PAGE>

                                     EMRISE CORPORATION AND SUBSIDIARIES

                                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                      YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


         The following is a reconciliation of the reportable segment revenues,
profit or loss and assets to the Company's consolidated totals.


                                                                2005             2004
                                                             (restated)        (restated)           2003
                                                            ------------      ------------      ------------
Net sales
---------
   Total sales for reportable segments ................     $ 41,270,000      $ 29,637,000      $ 25,519,000
   Elimination of intersegment sales ..................               --                --                --
                                                            ------------      ------------      ------------
Total consolidated net sales ..........................     $ 41,270,000      $ 29,637,000      $ 25,519,000
                                                            ============      ============      ============

Income before income taxes
--------------------------
     Total income for reportable segments .............     $  3,888,000      $  4,192,000      $  3,656,000
     Unallocated amounts:
       General corporate expenses .....................       (2,714,000)       (2,816,000)       (2,209,000)
                                                            ------------      ------------      ------------
Consolidated income before income taxes ...............     $  1,174,000      $  1,376,000      $  1,447,000
                                                            ============      ============      ============

Assets
------
   Total assets for reportable segments ...............     $ 41,502,000      $ 24,806,000      $ 16,435,000
   Other assets .......................................        2,959,000           338,000           734,000
                                                            ------------      ------------      ------------
Total consolidated assets .............................     $ 44,461,000      $ 25,144,000      $ 17,169,000
                                                            ============      ============      ============

Interest expense
----------------
   Interest expense for reportable segments ...........     $    455,000      $    430,000      $    409,000
   Other interest expense .............................               --             3,000             7,000
                                                            ------------      ------------      ------------
Total interest expense ................................     $    455,000      $    433,000      $    416,000
                                                            ============      ============      ============

Depreciation and amortization
-----------------------------
Depreciation and amortization expense
   for reportable segments ............................     $    915,000      $    217,000      $    185,000
   Other depreciation and amortization expense.........           49,000            70,000            64,000
                                                            ------------      ------------      ------------
Total depreciation and amortization ...................     $    964,000      $    287,000      $    249,000
                                                            ============      ============      ============
</TABLE>


                                                    F-37


<PAGE>

         A summary of the Company's net sales and identifiable assets by
geographical area follows:

                                      2005         2004
                                   (restated)    (restated)          2003
                                  -----------    -----------     -----------
Net sales:
----------
    United States .............   $15,957,000    $12,521,000     $ 7,971,000
    Japan .....................     1,271,000        935,000         838,000
    France ....................     6,657,000      7,016,000       6,627,000
    United Kingdom ............    17,385,000      9,165,000      10,083,000
                                  -----------    -----------     -----------
                                  $41,270,000    $29,637,000     $25,519,000
                                  ===========    ===========     ===========
Long-lived assets:
------------------
    United States .............   $   734,000    $   440,000     $   117,000
    Japan .....................         7,000         11,000          16,000
    France ....................       101,000        142,000         107,000
    United Kingdom ............     1,231,000        316,000          82,000
                                  -----------    -----------     -----------
                                  $ 2,073,000    $   909,000     $   322,000
                                  ===========    ===========     ===========

         Sales and purchases between geographic areas have been accounted for on
the basis of prices set between the geographic areas, generally at cost plus
40%. Identifiable assets by geographic area are those assets that are used in
the Company's operations in each location. Net sales by geographic area have
been determined based upon the country from which the product was shipped.

         One customer in the electronic components segment accounted for 10% or
more of net sales during 2005, 2004 and 2003.

(15)     NEW ACCOUNTING PRONOUNCEMENTS

         In November 2004, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 151, INVENTORY COSTS, AN AMENDMENT OF ARB NO. 43, CHAPTER 4.
SFAS No. 151 clarifies that abnormal inventory costs such as costs of idle
facilities, excess freight and handling costs, and wasted materials (spoilage)
are required to be recognized as current period costs. The provisions of SFAS
No. 151 are effective for our fiscal 2006. The Company is currently evaluating
the provisions of SFAS No. 151 and does not expect that adoption will have a
material effect on its financial position, results of operations or cash flows.

         On December 16, 2004, the FASB issued SFAS No. 123 (revised 2004),
SHARE-BASED PAYMENT, which is a revision of SFAS No. 123. SFAS No. 123(R)
supersedes APB Opinion No. 25, and amends SFAS No. 95, STATEMENT OF CASH FLOWS.
Generally, the approach in SFAS No. 123(R) is similar to the approach described
in SFAS 123. However, SFAS 123(R) generally requires share-based payments to
employees, including grants of employee stock options and purchases under
employee stock purchase plans, to be recognized in the statement of operations
based on their fair values. Pro forma disclosure of fair value recognition will
no longer be an alternative. SFAS No. 123(R) permits public companies to adopt
its requirements using one of two methods:


                                      F-38


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         o        Modified prospective method: Compensation cost is recognized
                  beginning with the effective date of adoption (a) based on the
                  requirements of SFAS No. 123(R) for all share-based payments
                  granted after the effective date of adoption and (b) based on
                  the requirements of SFAS No. 123 for all awards granted to
                  employees prior to the effective date of adoption that remain
                  unvested on the date of adoption.

         o        Modified retrospective method: Includes the requirements of
                  the modified prospective method described above, but also
                  permits restatement using amounts previously disclosed under
                  the pro forma provisions of SFAS No. 123 either for (a) all
                  prior periods presented or (b) prior interim periods of the
                  year of adoption.

         On April 14, 2005, the Commission announced that the SFAS No. 123(R)
effective transition date will be extended to annual periods beginning after
June 15, 2005. The Company is required to adopt this new standard on January 1,
2006, with early adoption permitted.

         SFAS No. 123(R) also requires the benefits of tax deductions in excess
of recognized compensation expense to be reported as a financing cash flow,
rather than as an operating cash flow as prescribed under current accounting
rules. This requirement will reduce net operating cash flows and increase net
financing cash flows in periods after adoption. Total cash flow will remain
unchanged from what would have been reported under prior accounting rules. The
Company expects its expense for options outstanding as of December 31, 2005 will
be approximately $103,000 in 2006 and $29,000 in 2007 with the application of
SFAS 123(R).

         As permitted by SFAS No. 123, the Company currently accounts for
share-based payments to employees using APB Opinion No. 25's intrinsic value
method. Consequently, the Company generally recognizes no compensation cost for
employee stock options under its employee stock option plans. Although the
adoption of SFAS No. 123(R)'s fair value method will have no adverse effect on
the Company's balance sheet or total cash flows, the adoption will affect the
Company's net income and diluted earnings per share. The actual effects of
adopting SFAS No. 123(R) will depend on numerous factors, including the amounts
of share-based payments granted in the future, the valuation model the Company
uses to value future share-based payments to employees and estimated forfeiture
rates. See Note 1 for the effect on reported net income and earnings per share
that would have occurred if the Company had accounted for its employee stock
options using the fair value recognition provisions of SFAS No. 123.

         On December 16, 2004, the FASB issued SFAS No. 153, EXCHANGES OF
NONMONETARY ASSETS, AN AMENDMENT OF APB OPINION NO. 29, ACCOUNTING FOR
NONMONETARY TRANSACTIONS. SFAS No. 153 addresses the measurement of exchanges of
nonmonetary assets and redefines the scope of transactions that should be
measured based on the fair value of the assets exchanged. SFAS No. 153 is
effective for nonmonetary asset exchanges beginning in our second quarter of
fiscal 2006. The Company does not believe its adoption of SPAS No. 153 will have
a material effect on its consolidated financial position, results of operations
or cash flows.

         On June 7, 2005, the FASB issued SFAS No. 154, ACCOUNTING CHANGES AND
ERROR CORRECTIONS, a replacement of APB Opinion No. 20, ACCOUNTING CHANGES, and
SFAS No. 3, REPORTING ACCOUNTING CHANGES IN INTERIM FINANCIAL STATEMENTS. SFAS
No. 154 changes the requirements for the accounting for and reporting of a
change in accounting principle. Previously, most voluntary changes in accounting
principles required recognition of a cumulative effect adjustment within net
income of the period of the change. SFAS No. 154 requires retrospective
application to prior periods' financial statements, unless it is impracticable
to determine either the period-specific effects or the cumulative effect of the
change. SFAS No. 154 is effective for accounting changes made in fiscal years
beginning after December 15, 2005. However, SFAS No. 154 does not change the
transition provisions of any existing accounting pronouncements. The Company
does not believe our adoption of SFAS No. 154 will have a material effect on its
consolidated financial position, results of operations or cash flows.


                                      F-39


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         On June 29, 2005, the FASB ratified Emerging Issues Task Force Issue
No. 05-06, DETERMINING THE AMORTIZATION PERIOD FOR LEASEHOLD IMPROVEMENTS. Issue
No. 05-06 provides that the amortization period used for leasehold improvements
acquired in a business combination or purchased after the inception of a lease
shall be the shorter of (a) the useful life of the assets or (b) a term that
includes required lease periods and renewals that are reasonably assured upon
the acquisition or the purchase. The provisions of Issue No. 05-06 are effective
on a prospective basis for leasehold improvements purchased or acquired
beginning in the Company's second quarter of fiscal 2005. The Company does not
believe the adoption of Issue No. 05-06 will have a material effect on its
consolidated financial position, results of operations or cash flows.

(16)     QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

         The following is a summary of the quarterly operations for the years
ended December 31, 2005 and 2004 (in thousands, except for per share data).

<TABLE>
                                                                                2005
                                                     ---------------------------------------------------------
                                                        Mar. 31
                                                      (restated)       June 30       Sept. 30        Dec. 31
                                                     ------------   ------------  -------------  -------------
<S>                                                  <C>            <C>            <C>            <C>
Net sales.......................................     $      7,523   $       9,962  $      11,177  $      12,608
Gross profit....................................     $      3,278   $       3,963  $       4,866  $       5,449
Net income (loss)...............................     $       (197)  $          21  $         816  $         801
Income available to common stockholders.........     $       (197)  $          21  $         816  $         801
Earnings (loss) per share:
     Basic .....................................     $     (0.01)   $        0.02  $        0.02  $        0.02
                                                     ===========    =============  =============  =============
     Diluted....................................     $     (0.01)   $        0.00  $        0.02  $        0.02
                                                     ===========    =============  =============  =============

                                                                                2004
                                                     ---------------------------------------------------------
                                                                                                    Dec. 31
                                                        Mar. 31       June 30       Sept. 30       (restated)
                                                     ------------   ------------  -------------  -------------
Net sales.......................................     $      6,192   $      6,432  $       7,469  $       9,544
Gross profit....................................     $      2,747   $      2,899  $       3,230  $       4,672
Net income......................................     $         70   $        369  $         158  $         730
Income available to common stockholders.........     $         70   $        369  $         158  $         730
Earnings per share:
     Basic .....................................     $       0.00   $       0.02  $        0.01  $        0.03
                                                     ============   ============  =============  =============
     Diluted....................................     $       0.00   $       0.02  $        0.01  $        0.03
                                                     ============   ============  =============  =============


                                                  F-40


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


QUARTERLY RESULTS OF OPERATIONS--RESTATEMENT ADJUSTMENTS
--------------------------------------------------------

         In connection with an internal investigation by the Company's Audit
Committee in response to an inquiry by the staff of the Securities and Exchange
Commission's Division of Enforcement, the Company has determined that during the
quarter ended December 31, 2004, the Company prematurely recognized certain net
sales of communications test equipment units that were not actually delivered to
the customer until the first quarter of 2005 and thus did not meet all
applicable revenue recognition criteria until the first quarter of 2005. The
Company has determined the effect of this premature recognition of revenues on
its previously issued financial statements and has restated the unaudited
quarterly financial information below, reconciling the restatement adjustments
on a quarterly basis, for the first quarterly period in the year ended December
31, 2005 and the fourth quarterly period of the year ended December 31, 2004.
The Company did not restate its quarterly financial information for any other
quarterly periods for the years ended December 31, 2004 and 2005.


                                            AS ORIGINALLY        RESTATEMENT
FIRST QUARTER ENDED MARCH 31, 2005             REPORTED          ADJUSTMENTS       AS RESTATED
----------------------------------          -------------        -----------       -----------
                                                   (IN THOUSANDS, EXCEPT PER SHARE DATA)

Net sales ............................      $       7,299       $        224       $       7,523
Cost of sales ........................              4,187                 58               4,245
Gross profit .........................              3,112                166               3,278
Operating expenses ...................              3,363                 13               3,376
Loss from operations .................               (251)              (153)                (98)
Net loss .............................      $        (350)      $        153       $        (197)
Basic and diluted loss per share .....      $       (0.01)      $         --       $       (0.01)




                                            AS ORIGINALLY        RESTATEMENT
FOURTH QUARTER ENDED DECEMBER 31, 2004         REPORTED          ADJUSTMENTS       AS RESTATED
--------------------------------------      -------------        -----------       -----------
                                                   (IN THOUSANDS, EXCEPT PER SHARE DATA)

Net sales................................   $       9,768        $      (224)      $     9,544
Cost of sales............................           4,929                (57)            4,872
Gross profit ............................           4,839               (167)            4,672
Operating expenses.......................           3,965                (14)            3,951
Income from operations...................             874               (153)              721
Net income...............................   $         883        $      (153)      $       730
Basic and diluted earnings per share ....   $        0.03        $        --       $      0.03
</TABLE>


                                      F-41


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


(17)     ACQUISITIONS

LARUS CORPORATION ACQUISITION

         Pursuant to the terms of a Stock Purchase Agreement executed on July
13, 2004, the Company acquired all of the issued and outstanding common stock of
Larus Corporation. Larus Corporation was based in San Jose, California and
engaged in the manufacturing and sale of telecommunications products. Larus
Corporation had one wholly-owned subsidiary, Vista Labs, Incorporated ("Vista"),
which provided engineering services to Larus Corporation. Assets held by Larus
Corporation included intellectual property, cash, accounts receivable and
inventories owned by each of Larus Corporation and Vista.

         The purchase price for the acquisition totaled $6,539,500 and consisted
of $1,000,000 in cash, the issuance of 1,213,592 shares of the Company's common
stock with a fair value of $1,000,000, $887,500 in the form of two short-term,
zero interest promissory notes that were repaid in 2004, $3,000,000 in the form
of two subordinated secured promissory notes, warrants to purchase up to an
aggregate of 150,000 shares of the Company's common stock at $1.30 per share,
and approximately $580,000 of acquisition costs. The number of shares of the
Company's common stock issued as part of the purchase price was calculated based
on the $0.824 per share average closing price of the Company's common stock for
the five trading days preceding the transaction. The warrants to purchase
150,000 shares of common stock were valued at $72,000 using a Black-Scholes
formula that included a volatility of 107.19%, an interest rate of 3.25%, a life
of three years and no assumed dividend.

         In addition, the Company assumed $245,000 in accounts payable and
accrued expenses and entered into an above-market real property lease with the
sellers. This lease represents an obligation that exceeds the fair market value
by approximately $756,000 and is part of the acquisition accounting. The cash
portion of the acquisition purchase price was funded with proceeds from the
Company's prior credit facility with Wells Fargo Bank, N.A. and cash on-hand.

         In determining the purchase price for Larus Corporation , the Company
took into account the historical and expected earnings and cash flow of Larus
Corporation, as well as the value of companies of a size and in an industry
similar to Larus Corporation, comparable transactions and the market for such
companies generally. The purchase price represented a significant premium over
the $1,800,000 recorded net worth of Larus Corporation's assets. In determining
this premium, the Company considered the Company's potential ability to refine
various Larus Corporation products and to use the Company's marketing resources
and status as a qualified supplier to qualify and market those products for sale
to large telecommunications companies. The Company believes that large
telecommunications companies desired to have an additional choice of suppliers
for those products and would be willing to purchase Larus Corporation's products
following some refinements. The Company also believes that if Larus Corporation
had remained independent, it was unlikely that it would have been able to
qualify to sell its products to the large telecommunications companies due to
its small size and lack of history selling to such companies. Therefore, Larus
Corporation had a range of value separate from the net worth it had recorded on
its books.

         In conjunction with the Company's July 2004 acquisition of Larus
Corporation, the Company commissioned a valuation firm to determine what portion
of the purchase price should be allocated to identifiable intangible assets. The
study is complete and the intangible values are as follows: Larus trade name and
trademark are valued at $750,000 compared to the Company's initial estimate of
$2,800,000, and the technology and customer relationships are valued at
$1,350,000 as compared to the Company's initial estimate of $800,000. Goodwill
associated with the Larus Corporation acquisition totaled $4,043,000. The Larus
trade name and trademark were determined to have indefinite lives and therefore
are not being amortized but rather are being periodically tested for impairment.
The technology and customer relationships were both estimated to have ten-year
lives and, as a result, $162,000 of amortization expense was recorded and
charged to administrative expense in 2005.


                                      F-42


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         The following table summarizes the unaudited assets acquired and
liabilities assumed in connection with this acquisition:

                                                            Amount
                                                         in Thousands
                                                         ------------

         Current assets...............................   $      2,460
         Property, plant and equipment................             90
         Intangible assets other than goodwill........          2,100
         Goodwill.....................................          4,043
                                                         ------------
         Total assets acquired........................          8,693
         Current liabilities..........................           (450)
         Deferred income taxes........................           (815)
         Unfavorable lease obligation and other
           liabilities................................           (888)
                                                         ------------
         Total liabilities assumed....................         (2,153)
                                                         ------------
         Net assets acquired..........................   $      6,540
                                                         ============

         The intangible assets other than goodwill consist of non-amortizable
trade names with a carrying value of $750,000, and technology and customer
relationships with carrying values of $1,150,000 and $200,000, respectively,
that are amortizable over ten years.

         Amortization for the intangibles subject to amortization as of December
31, 2005 is anticipated to be approximately $135,000 per year for each of the
next five years.

         The following table summarizes, on an unaudited pro forma basis, the
combined results of operations of the Company and Larus Corporation, as though
the acquisition occurred as of January 1, 2003. The pro forma amounts give
effect to appropriate adjustments for interest expense and income taxes. The pro
forma amounts presented are not necessarily indicative of future operating
results (in thousands, except per share amounts):

                                                     Year Ended December 31,
                                                     -----------------------
                                                        2004
                                                     (restated)        2003
                                                     ----------    ----------
         Revenues..................................  $   32,262    $   31,376
         Net income................................  $    1,611    $    1,264
         Earnings per share of common stock:
              Basic................................  $     0.07    $     0.06
                                                     ==========    ==========
              Diluted..............................  $     0.06    $     0.05
                                                     ==========    ==========


                                      F-43


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


PASCALL ACQUISITION

         On March 1, 2005, the Company and EEL, a second-tier wholly-owned
subsidiary of the Company, entered into an agreement ("Purchase Agreement") for
EMRISE Electronics to acquire all of the issued and outstanding capital stock of
Pascall Electronic (Holdings) Limited ("PEHL"). The closing of the purchase
occurred on March 18, 2005. The Company loaned to EEL the funds that EEL used to
purchase PEHL. PEHL has one wholly-owned subsidiary, Pascall Electronics Limited
("Pascall"), which produces, designs, develops, manufactures and sells power
supplies and RF products for a broad range of applications, including in-flight
entertainment systems and military programs.

         Under the Purchase Agreement, EEL purchased all of the outstanding
capital stock of PEHL, using funds loaned to EEL by the Company. The purchase
price for the acquisition initially totaled $9,669,000, subject to adjustments
as described below, and included a $5,972,000 cash payment to PEHL's former
parent, a $3,082,000 loan to PEHL and Pascall and approximately $615,000 in
acquisition costs, as described below.

         The initial portion of the purchase price was 3,100,000 British pounds
sterling (approximately U.S. $5,972,000 based on the exchange rate in effect on
March 18, 2005). The initial portion of the purchase price was paid in cash at
the closing and was subject to upward or downward adjustment on a pound for
pound basis to the extent that the value of the net assets of Pascall as of the
closing date was greater or less than 2,520,000 British pounds sterling.

         On May 6, 2005, the Company submitted to Intelek Properties Limited
(which is a subsidiary of Intelek PLC, a London Stock Exchange public limited
company, and is the former parent of PEHL), the Company's calculation of the
value of the net assets of Pascall as of the closing date, which the Company
believed slightly exceeded 2,520,000 British pounds sterling. Ultimately, the
parties determined that the value of the net assets of Pascall at the closing
date was 2,650,000 British pounds sterling. As a result, the Company paid to
Intelek Properties Limited 130,000 British pounds sterling (approximately U.S.
$236,000 based on the exchange rate in effect at June 30, 2005) on August 1,
2005 to satisfy this obligation. The purchase price is also subject to downward
adjustments for any payments that may be made to EEL under indemnity, tax or
warranty provisions of the Purchase Agreement. EEL loaned to PEHL and Pascall at
the closing 1,600,000 British pounds sterling (approximately U.S. $3,082,000
based on the exchange rate in effect on March 18, 2005) in accordance with the
terms of a Loan Agreement entered into by those entities at the closing. The
loaned funds were used to immediately repay outstanding intercompany debt owed
by PEHL and Pascall to the seller.

         The Company and Intelek PLC have agreed to guarantee payment when due
of all amounts payable by EEL and Intelek Properties Limited, respectively,
under the Purchase Agreement. The Company and EEL agreed to underwrite the
guaranty that Intelek Properties Limited has given to Pascall's landlord with a
guaranty by the Company, and EEL has agreed to indemnify Intelek Properties
Limited and its affiliates for damages they suffer as a result of any failure to
obtain the release of the guarantee of the 17-year lease that commenced in May
1999. The leased property is a 30,000 square foot administration, engineering
and manufacturing facility located off the south coast of England.


                                      F-44


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         Intelek Properties Limited has agreed to various restrictive covenants
that apply for various periods following the closing. The covenants include
non-competition with Pascall's business, noninterference with Pascall's
customers and suppliers, and non-solicitation of Pascall's employees. In
conjunction with the closing, Intelek Properties Limited, Intelek PLC, EEL, and
the Company entered into a Supplemental Agreement dated March 18, 2005. The
Supplemental Agreement provides, among other things, that an interest-free
bridge loan of 200,000 British pounds sterling (approximately U.S. $385,000
based on the exchange rate in effect on March 17, 2005) that was made by the
seller to Pascall on March 17, 2005 would be repaid by Pascall by March 31,
2005. EEL agreed to ensure that Pascall had sufficient funds to repay the bridge
loan. The bridge loan was repaid in full by Pascall on the March 31, 2005 due
date.

         The following table summarizes the unaudited assets acquired and
liabilities assumed in connection with this acquisition, including $615,000 in
acquisition costs:

                                                                  Dollars
                                                               in Thousands
                                                               ------------

        Current assets.....................................    $      6,196
        Property, plant and equipment......................           1,367
        Intangibles, including goodwill....................           5,534
                                                               ------------
        Total assets acquired..............................          13,097
        Current liabilities................................          (2,863)
        Other liabilities..................................             (80)
                                                               ------------
        Total liabilities assumed..........................          (2,943)
                                                               ------------
        Net assets acquired................................    $     10,154
                                                               ============

         The purchase price represented a significant premium over the recorded
net worth of Pascall's assets. In determining to pay this premium, the Company
considered various factors, including the opportunities that Pascall presented
for the Company to add RF components and RF subsystem assemblies to the
Company's product offerings, the marketing resources of Pascall in the United
States power supplies market, and expected synergies between Pascall's business
and the Company's existing power supply business.

         In conjunction with the acquisition of Pascall, the Company
commissioned a valuation firm to determine what portion of the purchase price
should be allocated to identifiable intangible assets. The Company considered
whether the acquisition included various types of identifiable intangible
assets, including trade names, trademarks, patents, covenants not to compete,
customers, workforce, technology and software. The Company has recorded the
value of the trade name and trademark at $500,000, covenants not to compete that
were obtained from Pascall's former affiliates at $200,000, amortizable over
three years and backlog at $200,000 amortizable over two years. The Company
believes that no other identifiable intangible assets of value were acquired. No
patents were acquired. The Company has not ascribed any value to Pascall's
customer base because the Company's United Kingdom subsidiary, XPS already was
selling to Pascall's key customers. Pascall's workforce does not hold any
special skills that are not readily available from other sources. The Company
did not identify any valuable completed technology that was acquired, because
Pascall utilizes non-proprietary technology to produce custom power supplies
pursuant to customer specifications. Pascall does not develop or design software
and does not own software of any material value.


                                      F-45


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         In accordance with the valuation study and taking into consideration
post-closing adjustments, the Company has recorded goodwill associated with the
Pascall acquisition of $4,634,000 compared to the initial goodwill recorded of
$4,571,000.

RO ACQUISITION

         On September 2, 2005, the Company's wholly-owned subsidiary, EMRISE
Electronics, entered into a stock purchase agreement dated effective as of
August 31, 2005 to acquire RO, a California corporation. Effective September 28,
2005, EMRISE Electronics entered into an amendment to the stock purchase
agreement.

         Pursuant to the terms of the stock purchase agreement, as amended,
EMRISE Electronics acquired all of the issued and outstanding shares of common
stock of RO. Prior to the acquisition, all of the common stock of RO was owned
by Robert H. Okada as Trustee of the Robert H. Okada Trust Agreement dated
February 11, 1992, and Sharon Vavro.

         RO is based in Sunnyvale, California and designs and manufactures power
conversion products for telecom, industrial, commercial, and military
applications. As a result of the acquisition, EMRISE Electronics acquired all of
the assets and liabilities of RO, including the intellectual property, cash,
accounts receivable and inventories owned by RO. EMRISE Electronics intends to
use these acquired assets for the same purpose for which they were used by RO.

         The purchase price consisted of $2,400,000 in cash paid at closing and
an additional $600,000 in cash payable in two equal installments on October 6,
2005 and March 31, 2006. The acquisition purchase price was funded with cash
on-hand. The purchase price is subject to adjustment based on the value of the
stockholders' equity, accounts receivable, accounts payable, cash on hand and
net inventory of RO, as determined by the consolidated, unaudited balance sheet
as of August 31, 2005, prepared in accordance with accounting principles
generally accepted in the United States of America. In addition, concurrently
with the closing of the acquisition of RO, EMRISE Electronics paid in full all
then existing credit facilities of RO in the aggregate amount of $1,602,000.

         In determining the purchase price for RO, EMRISE Electronics considered
the historical and expected earnings and cash flow of RO, as well as the value
of companies of a size and in an industry similar to RO, comparable transactions
and the market for such companies generally. The purchase price represented a
premium of approximately $2,275,000 over the $2,340,000 recorded net worth of
the assets of RO. In determining this premium, EMRISE Electronics considered the
synergistic and strategic advantages provided by having a United States-based
power conversion manufacturer and the value of the goodwill, customer
relationships and technology of RO. Goodwill associated with the RO acquisition
totaled approximately $1,376,000. The Company commissioned a valuation firm to
determine what portion of the purchase price should be allocated to identifiable
intangible assets. The valuation study of RO's intangible was completed in June
2006. The Company initially estimated the intangibles to be valued as follows:
technology, $484,000, trademarks, $300,000 and customer relationships, $200,000.
The valuation study resulted in the following valuations: technology, $500,000,
trademarks, $350,000 and customer relationships, $350,000. The intangibles were
adjusted to the appraised values in the second quarter of 2006. The technology
and customer relationships are being amortized over 10 years on their appraise
values and the trademarks are not being amortized due to the inability to
determine an estimated life.


                                      F-46


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         In connection with the execution of the stock purchase agreement,
EMRISE Electronics executed a lease agreement with Caspian Associates for the
lease of 25,700 square feet of a 30,700 square feet building located at 246
Caspian Drive, Sunnyvale, California. The lease provides for a two-year term
commencing on September 1, 2005 and ending on August 31, 2007, at a base rent of
$9,210 per month. Additionally, the lease provides for an extension of the lease
term for an additional three years, to August 31, 2010, if RO achieves net sales
of at least $14,500,000 and cumulative gross profit of at least $3,987,500. If
RO achieves the net sales and cumulative gross profit targets, the monthly base
rent for the facility will be increased to the fair market value as of the first
day of the next calendar month. The facility will continue to be used for the
design, manufacture and sale of power conversion products.

         In connection with the stock purchase agreement, EMRISE Electronics
also executed an employment agreement with Richard Okada, effective as of
September 1, 2005, to serve as president of RO. Mr. Okada will receive an annual
base salary of $115,000 for the two-year tern of the employment agreement. In
addition, Mr. Okada is entitled to receive an incentive bonus based upon
performance criteria to be determined in the future. In connection with Mr.
Okada's employment agreement, EMRISE granted Mr. Okada an incentive stock option
under EMRISE's 2000 Stock Option Plan to purchase up to 50,000 shares of
EMRISE's common stock at an exercise price of $1.35 per share. This option vests
50% on September 1, 2006 and 50% on September 1, 2007. The option expires on
August 31, 2015.

         The following table summarizes the unaudited assets and liabilities
assumed in connection with this acquisition, including $65,000 in acquisition
costs:

                                                                  Dollars
                                                               in Thousands
                                                               ------------
        Current assets.....................................    $      3,213
        Property, plant and equipment......................             329
        Intangibles, including goodwill....................           2,360
        Other assets.......................................              66
                                                               ------------
        Total assets acquired..............................           5,968
        Current liabilities................................            (943)
        Other liabilities..................................            (393)
                                                               ------------
        Total liabilities assumed..........................          (1,336)
                                                               ------------
        Net assets acquired................................    $      4,632
                                                               ============


                                      F-47


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


PRO FORMA RESULTS OF OPERATIONS

         The following table summarizes, on an unaudited pro forma basis, the
combined results of operations of the Company, Larus Corporation, Pascall and
RO, as though the Larus Corporation, Pascall and RO acquisitions occurred as of
January 1, 2004. The pro forma amounts give effect to appropriate adjustments
for interest expense and income taxes. The pro forma amounts presented are not
necessarily indicative of future operating results (in thousands, except per
share amounts).

                                                             Year Ended
                                                             December 31,
                                                      -------------------------
                                                         2005           2004
                                                      (restated)     (restated)
                                                      ----------     ----------
         Revenues...................................  $   47,933     $   52,767
         Net income.................................  $    1,324     $    2,072
         Earnings per share of common stock:
              Basic.................................  $     0.04     $     0.06
                                                      ==========     ==========
              Diluted...............................  $     0.03     $     0.06
                                                      ==========     ==========

(18)     RELATED PARTY TRANSACTIONS

         On July 13, 2004, the Company issued two promissory notes to the former
stockholders of Larus Corporation totaling $3,000,000 in addition to paying cash
and issuing shares of common stock and two zero interest short-term notes
totaling $887,500 that were repaid in 2004, in exchange for 100% of the common
stock of Larus Corporation (see Note 17). These notes are subordinated to the
Company's bank debt and are payable in 72 equal monthly payments of principal
totaling $41,667 per month plus interest at the 30-day LIBOR plus 5% with a
maximum interest rate of 7% during the first two years of the term of the notes,
8% during the third and fourth years, and 9% thereafter. At December 31, 2005,
the 30-day LIBOR was 4.54%.

         Future maturities of notes payable to stockholders are as follows:

              Year Ending
              December 31,
              ------------
                  2006          $    500,000
                  2007               500,000
                  2008               500,000
                  2009               500,000
                  2010               250,000
                                ------------
                                $  2,250,000
                                ============

         Interest paid on these notes in 2005 and 2004 was $179,000 and $75,000,
respectively.


                                      F-48


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         The Company entered into an above-market real property lease with the
sellers. This lease represents an obligation that exceeds the fair market value
by approximately $756,000. The lease term is for 7 years and expires on June 30,
2011. It is renewable for a 5-year term priced under market conditions. The base
rent is based on a minimum rent of $.90 per square foot per month, which is
$27,000 monthly or $324,000 per year, subject to monthly adjustments of the
interest rate based on the Federal Reserve Discount Rate that match the lessor's
variable interest rate mortgage payments on the building. The maximum increase
in any year is 1.5%, with a cumulative maximum increase of 8% over the life of
the lease. The increases apply to that portion of the rent that corresponds to
the interest portion of the lessor's mortgage. Lease payments paid to the
related parties during 2005 and 2004 totaled $378,000 and $171,000,
respectively. Future minimum lease payments under the operating lease payable to
the stockholders are included in Note 12.

         The Company entered into a lease for the RO building commencing
September 1, 2005 through August 31, 2007 with Caspian Associates ("Caspian"), a
California general partnership. Richard Okada, who was President of RO prior to
the Company's acquisition and is currently the President of RO, is a general
partner of Caspian. The acquisition agreement provides for an increase from the
current favorable terms of the lease agreement based on certain financial
performance of RO over the period of the lease. If the financial performance is
met, the lease automatically extends to August 31, 2010 and is adjusted to the
market value at that time, otherwise it will terminate on August 31, 2007 and
convert to a month-to-month lease. The Company paid $37,000 on this lease in
2005. Future commitments on this lease are $147,360 in 2006 and $98,240 in 2007.

         There are no guarantees by officers or fees paid to officers or loans
to or from officers.

(19)     STOCK ISSUANCE

         On January 5, 2005, the Company issued to 17 accredited record holders
in a private offering an aggregate of 12,503,500 shares of common stock at a
purchase price of $1.44 per share and five-year investor warrants to purchase up
to an additional 3,125,875 shares of our common stock at an exercise price of
$1.73 per share, for total proceeds of approximately $18,005,000. The Company
paid cash placement agent fees and expenses of approximately $961,000, and
issued five-year placement warrants to purchase up to an aggregate of 650,310
shares of common stock at an exercise price of $1.73 per share in connection
with the offering. The total warrants issued, representing 3,776,185 shares of
the Company's common stock, have an estimated value of $4,400,000. Additional
costs related to the financing include legal, accounting and consulting fees
that totaled approximately $984,000 through December 31, 2005 including
liquidated damages of $480,000 charged directly to equity as a return of capital
against the gross proceeds of the financing. The Company used a portion of the
proceeds from this financing to fund the acquisition of Pascall described in
Note 16. The Company used the remaining proceeds from this financing for
additional acquisitions and for investments in new products and enhancements to
existing products.

         The Company agreed to register for resale the shares of common stock
issued to investors and the shares of common stock issuable upon exercise of the
investor warrants and placement warrants. The registration obligations require,
among other things, that a registration statement be declared effective no later
than June 4, 2005. The Company was unable to timely meet this obligation and
therefore paid to each investor liquidated damages equal to 1% of the amount
paid by the investor to the Company in the offering, which damage payments
totaled an aggregate of approximately $180,000. The Company also paid to the
investors liquidated damages totaling $300,000 for the period from June 5, 2005
through June 30, 2005, the date the registration statement was declared
effective. The Company also will be required to pay to each investor liquidated
damages for any future periods in which the Company is unable to maintain the
effectiveness of the registration in accordance with the requirements contained
in the registration rights agreement the Company entered into with the
investors. The liquidated damages would be, and the liquidated damages paid for
the period from June 5, 2005 through June 30, 2005 were, equal to 2% of the
amount paid by each investor for the common shares still owned by the investor
on each monthly anniversary of the date of the default that occurs prior to the
cure of the default, prorated on a daily basis for periods of default shorter
than one month. The maximum aggregate liquidated damages payable to any investor
will be equal to 10% of the aggregate amount paid by the investor for the shares
of the Company's common stock. Accordingly, the maximum aggregate penalty that
the Company would be required to pay under this provision is 10% of the
$18,005,000 initial purchase price of the common stock, which would be
approximately $1,801,000. Although the Company anticipates that it will be able
to meet its future registration obligations, it also anticipates that it will
have sufficient cash available to pay the maximum penalties if required.


                                      F-49


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


(20)     SUBSEQUENT EVENTS

STOCK ISSUANCE

         In May 2006, the Company determined that its recent periodic filings
could not be relied upon and underwent an audit for the years 2003, 2004 and
2005 that had been audited previously. This matter caused the Company's S-3
filing to become no longer effective and caused the obligation of the Company
under the Registration Rights Agreement to pay 1% liquidated damages to the
remaining shareholders from their remaining shares still owned of the private
offering. Such payments were made in the amounts of $44,064 for the months of
June through November 2006, for a total of $220,320. These payments were charged
to administrative expenses.

EXECUTIVE MANAGEMENT

         On August 18, 2006, Mr. Foote resigned from all positions with the
Company and its subsidiaries, entered into a Resignation and Separation
Agreement with the Company, which became effective on August 25, 2006. Under the
agreement, Mr. Foote resigned all of his positions with the Company and, the
Company and Mr. Foote jointly terminated his employment agreement dated
effective as of January 1, 2006. The agreement provides that effective as of
August 21, 2006, Mr. Foote will be assigned to temporary employment with the
Company, which the parties anticipate will terminate by approximately December
31, 2006. During the time of his temporary employment, Mr. Foote will assist the
Company in, among other things, the preparation of the Company's restated
financial statements and its filings with the Securities and Exchange Commission
and will continue to receive his base salary and employment benefits (other than
paid vacation benefits, bonus or incentive compensation).

CREDIT FACILITIES

         On September 19, 2006, the Company entered into a Third Amendment to
Credit Agreement effective as of September 1, 2006 with Wells Fargo Bank. The
amendment provided for the waiver by Wells Fargo Bank of certain violations of
financial covenants in the Company's existing credit facility. The amendment
also provided for the reduction in the amount of the credit facility from $9.0
million to $1.5 million and limited borrowings to 80% of eligible accounts
receivable. In connection with the amendment, the Company executed a Revolving
Line of Credit Note dated September 1, 2006 in the amount of $1.5 million. On
October 9, 2006, the Company executed a letter agreement dated effective October
1, 2006 with Wells Fargo Bank extending the maturity date of the $1.5 million
note to October 20, 2006.


                                      F-50


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         On November 13, 2006, Wells Fargo Bank issued a notice of default and
demand for payoff with respect to the $1.5 million note. All obligations under
the note were due and payable on November 20, 2006. On November 24, 2006, the
Company entered into a Forbearance Agreement with Wells Fargo Bank, dated
effective as of November 20, 2006, whereby Wells Fargo Bank agreed to forbear
from exercising its rights under the credit facility as described in the notice
of default and demand for payoff through December 1, 2006. On December 1, 2006,
EMRISE Corporation, EMRISE Electronics, CXR Larus, RO and Wells Fargo Bank
acting through its Wells Fargo Business Credit operating division ("WFBC")
entered into a Credit and Security Agreement providing for a revolving line of
credit and term loan. On December 5, 2006, the Company paid off the $1.5 million
Wells Fargo Bank credit facility in full.

         The credit facility with WFBC provides for a $5.0 million revolving
line of credit that expires on December 1, 2009. If WFBC terminates the credit
facility during a default period, or if the Company terminates or reduces the
credit facility prior to the maturity date, or if the Company prepays the term
loan portion of the facility, the Company will be subject to penalties as
follows: if the termination or prepayment occurs during the one year period
after the initial funding date, the penalty is equal to 3% of the maximum line
amount and/or prepayment amount; if the termination or prepayment occurs during
second year after the initial funding date, the penalty is equal to 2% of the
maximum line amount and/or prepayment amount; and if the termination or
prepayment occurs at any time after the second anniversary of the initial
funding date and prior to the maturity date, the penalty is equal to 1% of the
maximum line amount and/or prepayment amount . The credit facility is subject to
an unused line fee equal to 0.25% per annum, payable monthly based on the
average daily unused amount of the line of credit described in the following
paragraph. The credit facility is also subject to a minimum monthly interest
charge of $8,500 with respect to the revolving line of credit.

         The WFBC credit facility provides a $5,000,000 revolving line of credit
secured by accounts receivable, other rights to payment and general intangibles,
inventories and equipment. The line of credit is formula-based which generally
provides that the outstanding borrowings under the line of credit may not exceed
an aggregate of 80% of eligible accounts receivable plus 10% of the value of
eligible finished goods inventory. Interest is payable monthly. The interest
rate is variable and is adjusted monthly based on the prime rate plus 1%. The
prime rate at December 1, 2006 was 8.25%.

         The credit facility is subject to various financial covenants on a
consolidated basis as follows. The minimum debt service coverage ratio must be
greater than 1.20:1.00 on a trailing quarterly basis. "Debt service coverage
ratio" is defined as net income after taxes, plus depreciation, plus
amortization, plus or minus changes in deferred taxes, minus capital
expenditures and minus any dividends or distributions, divided by the current
maturities of long-term debt paid or scheduled to be paid plus any payments on
subordinated debt. The credit facility also requires that the Company maintain a
minimum book net worth, determined at the end of each calendar month, in an
amount not less than $26,900,000 for the months ended December 31, 2006, January
31, 2007 and February 28, 2007 and of not less than that amount plus 80% of the
Company's net income for each calendar quarter ending on or after March 31, 2007
for each calendar month ending March 31, 2007, and each calendar month
thereafter. The Company must not incur a net loss of greater than $1,150,000 for
2006 and for each quarterly period occurring after December 31,2006, the
Company's net income must not be less than $0.


                                      F-51


<PAGE>

                       EMRISE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003 (CONTINUED)


         In the event of a default and continuation of a default, Wells Fargo
may accelerate the payment of the principal balance requiring the Company to pay
the entire indebtedness outstanding on that date. From and after the maturity
date of the credit facility, or any earlier date that all principal owing under
the credit facility becomes due and payable by acceleration or otherwise, the
outstanding principal balance will bear interest until paid in full at an
increased rate per annum equal to 3% above the rate of interest in effect from
time to time under the credit facility.

         The credit facility also provides for a term loan of $200,000 secured
by accounts receivable, other rights to payment and general intangibles,
inventories and equipment, amortizable over 36 months at a variable rate equal
to the prime rate plus 1%.


                                      F-52



<PAGE>

<TABLE>
<S>     <C>
                                     EMRISE CORPORATION AND SUBSIDIARIES
                                          CONSOLIDATED SCHEDULE II
                                      VALUATION AND QUALIFYING ACCOUNTS
                     YEARS ENDED DECEMBER 31, 2005 (RESTATED), 2004 (RESTATED) AND 2003


                                                       Additions                     Reserve
                                         Balance at    Charged to    Deductions     Acquired
                                        Beginning of   Costs and    Write-offs of     with       Balance at
             Description                    Year        Expenses      Accounts     Acquisition   End of Year
             -----------                -----------   -----------   -----------    -----------   -----------

Allowance for doubtful accounts:
     Year ended December 31, 2005       $   153,000   $   151,000   $   (33,000)   $   108,000   $   379,000
     Year ended December 31, 2004       $   161,000   $        --   $   (32,000)   $    24,000   $   153,000
     Year ended December 31, 2003       $   130,000   $    61,000   $   (30,000)   $        --   $   161,000

Allowance for inventory obsolescence:
     Year ended December 31, 2005       $ 2,251,000   $ 1,403,000   $(1,150,000)   $ 1,549,000   $ 4,053,000
     Year ended December 31, 2004       $ 1,692,000   $ 1,116,000   $  (557,000)   $        --   $ 2,251,000
     Year ended December 31, 2003       $ 1,497,000   $   924,000   $  (729,000)   $        --   $ 1,692,000


                                                    F-53
</TABLE>


<PAGE>

                                INDEX TO EXHIBITS

EXHIBIT                             DESCRIPTION
NUMBER                              -----------
------

 2.1        Stock Purchase Agreement dated July 13, 2004 between MicroTel
            International Inc.; Noel C. McDermott; Warren P. Yost; Noel C.
            McDermott, as Trustee of the Noel C. McDermott Revocable Living
            Trust dated December 19, 1995; and Warren P. Yost and Gail A. Yost,
            as Co-Trustees Under Declaration of Trust dated March 9, 1988 (1)

 2.2        Agreement dated March 1, 2005 among Intelek Properties Limited, XCEL
            Corporation Limited, Intelek PLC and EMRISE Corporation relating to
            the sale and purchase of the outstanding capital shares of Pascall
            Electronic (Holdings) Limited (13)

 2.3        Supplemental Agreement dated March 18, 2005 among Intelek Properties
            Limited, XCEL Corporation Limited, Intelek PLC and EMRISE
            Corporation (13)

 2.4        Loan Agreement dated March 18, 2005 among XCEL Corporation Limited,
            Pascall Electronics Limited and Pascall Electronic (Holdings)
            Limited (13)

 2.5        Stock Purchase Agreement dated September 2, 2005 between EMRISE
            Electronics Corporation, a New Jersey corporation, Robert H. Okada,
            as Trustee of the Robert H. Okada Trust Agreement dated February 11,
            1992, and Sharon Vavro, an individual (16)

 2.6        Amendment No. 1 dated effective as of September 28, 2005 to Stock
            Purchase Agreement dated September 2, 2005 between EMRISE
            Electronics Corporation, a New Jersey corporation, Robert H. Okada,
            as Trustee of the Robert H. Okada Trust Agreement dated February 11,
            1992, and Sharon Vavro, an individual (17)

 3.1        Amended and Restated Certificate of Incorporation of EMRISE
            Corporation filed with the Secretary of State of Delaware on May 9,
            2005 (14)

 3.2        Amended and Restated Bylaws adopted by the Board of Directors of the
            Corporation on September 1, 2004 (3)

 10.1       1993 Stock Option Plan (#) (5)

 10.2       Employee Stock and Stock Option Plan (#) (6)

 10.3       1997 Stock Incentive Plan (#) (7)

 10.4       Amended and Restated 2000 Stock Option Plan (#) (9)

 10.5       Form of Executive Officer and Director Indemnification Agreement
            entered into between the Registrant and each of Carmine T. Oliva,
            Robert B. Runyon, Laurence P. Finnegan, Jr., Otis W. Baskin, Richard
            E. Mahmarian, Randolph D. Foote and Graham Jefferies (2)

 10.6       Description of Retirement Account Matching Contributions (#) (20)

 10.7       Credit Facility Letter Agreement dated June 1, 2004 between Wells
            Fargo Bank, N.A., XET Corporation and CXR Telcom Corporation (10)

 10.8       Revolving Line of Credit Note dated June 1, 2004 in the principal
            amount of up to $3,000,000 made by XET Corporation and CXR Telcom
            Corporation in favor of Wells Fargo Bank, N.A. (10)

 10.9       Term Note dated June 1, 2004 in the principal amount of $150,000
            made by XET Corporation and CXR Telcom Corporation in favor of Wells
            Fargo Bank, N.A. (10)

 10.10      Continuing Guaranty made by XET Corporation and CXR Telcom
            Corporation in favor of Wells Fargo Bank, N.A. (10)


                                       72


<PAGE>

EXHIBIT                             DESCRIPTION
NUMBER                              -----------
------

 10.11      Security Agreement Equipment made by XET Corporation in favor of
            Wells Fargo Bank, N.A. (10)

 10.12      Security Agreement Equipment made by CXR Telcom Corporation in favor
            of Wells Fargo Bank, N.A. (10)

 10.13      Continuing Security Agreement Rights to Payment and Inventory made
            by XET Corporation in favor of Wells Fargo Bank, N.A. (10)

 10.14      Continuing Security Agreement Rights to Payment and Inventory made
            by CXR Telcom Corporation in favor of Wells Fargo Bank, N.A. (10)

 10.15      Deed of Guarantee and Indemnity dated November 12, 2002 made by
            MicroTel International Inc., XCEL Corporation Limited, Belix Power
            Conversion Limited and Belix Wound Components Limited in favor of
            Venture Finance PLC (11)

 10.16      Advantage Facility dated November 12, 2002 between XCEL Power
            Systems, Ltd. and Venture Finance PLC (11)

 10.17      Cashflow Loan Agreement dated November 12, 2002 between XCEL Power
            Systems, Ltd. and Venture Finance PLC (11)

 10.18      Term Loan Agreement dated November 12, 2002 between XCEL Power
            Systems, Ltd. and Venture Finance PLC (11)

 10.19      Deed of Subordination dated November 12, 2002 between Venture
            Finance PLC, MicroTel International Inc. and XCEL Corporation
            Limited (11)

 10.20      Agreement for the Purchase of Debts dated November 12, 2002 between
            XCEL Power Systems, Ltd. and Venture Finance PLC (11)

 10.21      Letter Agreement dated October 23, 2002 between XCEL Power Systems,
            Ltd. and Venture Finance PLC regarding Amendments to Agreement for
            the Purchase of Debts (11)

 10.22      Credit Facility Agreement dated April 8, 2003, between IFN Finance
            and CXR, S.A.S. (11)

 10.23      English Summary of Credit Facility Agreement dated April 8, 2003
            between IFN Finance and CXR, S.A.S. (12)

 10.24      Subordinated Secured Promissory Note dated July 13, 2004 in the
            principal amount of $1,681,318.68 made by MicroTel International
            Inc. in favor of Noel C. McDermott Revocable Living Trust dated
            December 19, 1995 (10)

 10.25      Subordinated Secured Promissory Note dated July 13, 2004 in the
            principal amount of $1,318,681.32 made by MicroTel International
            Inc. in favor of Warren P. Yost and Gail A. Yost, as Co-Trustees
            Under Declaration of Trust dated March 9, 1988 (10)

 10.26      Pledge and Security Agreement dated July 13, 2004 between MicroTel
            International Inc.; Noel C. McDermott, as Collateral Agent; Noel C.
            McDermott, as Trustee of the Noel C. McDermott Revocable Living
            Trust dated December 19, 1995; and Warren P. Yost and Gail A. Yost,
            as Co-Trustees Under Declaration of Trust dated March 9, 1988 (10)

 10.27      Intercreditor Agreement dated July 13, 2004 between MicroTel
            International Inc.; Noel C. McDermott, as Trustee of the Noel C.
            McDermott Revocable Living Trust dated December 19, 1995; and Warren
            P. Yost and Gail A. Yost, as Co-Trustees Under Declaration of Trust
            dated March 9, 1988 (10)


                                       73


<PAGE>

EXHIBIT                             DESCRIPTION
NUMBER                              -----------
------

 10.28      Continuing Guarantee dated July 13, 2004 made by Larus Corporation
            in favor of Noel C. McDermott, as Trustee of the Noel C. McDermott
            Revocable Living Trust dated December 19, 1995, and Warren P. Yost
            and Gail A. Yost, as Co-Trustees Under Declaration of Trust dated
            March 9, 1988 (10)

 10.29      Continuing Guarantee dated July 13, 2004 made by Vista Labs
            Incorporated in favor of Noel C. McDermott, as Trustee of the Noel
            C. McDermott Revocable Living Trust dated December 19, 1995, and
            Warren P. Yost and Gail A. Yost, as Co-Trustees Under Declaration of
            Trust dated March 9, 1988 (10)

 10.30      Continuing Guarantee dated July 13, 2004 made by CXR Telcom in favor
            of Noel C. McDermott, as Trustee of the Noel C. McDermott Revocable
            Living Trust dated December 19, 1995, and Warren P. Yost and Gail A.
            Yost, as Co-Trustees Under Declaration of Trust dated March 9, 1988
            (10)

 10.31      Security Agreement dated July 13, 2004 made by Larus Corporation in
            favor of Noel C. McDermott, as Trustee of the Noel C. McDermott
            Revocable Living Trust dated December 19, 1995, and Warren P. Yost
            and Gail A. Yost, as Co-Trustees Under Declaration of Trust dated
            March 9, 1988 (10)

 10.32      Security Agreement dated July 13, 2004 made by Vista Labs
            Incorporated in favor of Noel C. McDermott, as Trustee of the Noel
            C. McDermott Revocable Living Trust dated December 19, 1995, and
            Warren P. Yost and Gail A. Yost, as Co-Trustees Under Declaration of
            Trust dated March 9, 1988 (10)

 10.33      Security Agreement dated July 13, 2004 made by CXR Telcom in favor
            of Noel C. McDermott, as Trustee of the Noel C. McDermott Revocable
            Living Trust dated December 19, 1995, and Warren P. Yost and Gail A.
            Yost, as Co-Trustees Under Declaration of Trust dated March 9, 1988
            (10)

 10.34      Lease agreement between the Registrant and Property Reserve Inc.
            dated September 16, 1999 (8)

 10.35      Lease agreement between XET, Inc. and Rancho Cucamonga Development
            dated August 30, 1999 (8)

 10.36      Commercial Lease dated July 13, 2004 between the Registrant, as
            Tenant, and Noel C. McDermott and Warren P. Yost, as Landlord, for
            the premises located at 894 Faulstich Court, San Jose, California
            (10)

 10.37      Executive Employment Agreement dated February 24, 2006 by and
            between the Registrant and Carmine T. Oliva (#) (19)

 10.38      Executive Employment Agreement dated February 24, 2006 by and
            between the Registrant and Randolph D. Foote (#) (19)

 10.39      Executive Employment Agreement dated February 24, 2006 by and
            between the Company and Graham Jefferies (#) (19)

 10.40      Securities Purchase Agreement dated December 29, 2004 among EMRISE
            Corporation and the investors listed on an attachment thereto (4)

 10.41      Registration Rights Agreement dated December 29, 2004 among EMRISE
            Corporation and the investors who are parties to the Securities
            Purchase Agreement dated December 29, 2004 (4)


                                       74


<PAGE>

EXHIBIT                             DESCRIPTION
NUMBER                              -----------
------

 10.42      Form of Investor Warrant issued by EMRISE Corporation to the
            investors who are parties to the Securities Purchase Agreement dated
            December 29, 2004 (4)

 10.43      Loan Agreement dated March 18, 2005 among XCEL Corporation Limited,
            Pascall Electronics Limited and Pascall Electronic (Holdings)
            Limited (13)

 10.44      Form of Incentive Stock Option Agreement Under Amended and Restated
            2000 Stock Option Plan (#) (15)

 10.45      Form of Non-Qualified Stock Option Agreement Under Amended and
            Restated 2000 Stock Option Plan (#) (15)

 10.46      Credit Agreement between EMRISE Corporation and Wells Fargo Bank,
            National Association dated as of August 25, 2005 (18)

 10.47      Revolving Line of Credit Note between EMRISE Corporation and Wells
            Fargo Bank, National Association dated as of August 25, 2005 (18)

 10.48      Security Agreement between EMRISE Corporation and Wells Fargo Bank,
            National Association dated as of August 25, 2005 (18)

 10.49      Continuing Security Agreement between EMRISE Corporation and Wells
            Fargo Bank, National Association dated as of August 25, 2005 (18)

 10.50      Continuing Guaranty between CXR Telcom Corporation and Wells Fargo
            Bank, National Association dated as of August 25, 2005 (18)

 10.51      Continuing Guaranty between EMRISE Electronics Corporation and Wells
            Fargo Bank, National Association dated as of August 25, 2005 (18)

 10.52      Agreement and Acknowledgment of Security Interest by and among Wells
            Fargo Bank, National Association, EMRISE Corporation and Noel C.
            McDermott and Warren P. Yost dated as of August 25, 2005 (18)

 10.53      Debt Purchase Agreement between Lloyds TSB Commercial Finance
            Limited and Pascall Electronics Limited dated June 28, 2005 (18)

 10.54      Debt Purchase Agreement between Lloyds TSB Commercial Finance
            Limited and XCEL Power Systems Limited dated June 28, 2005 (18)

 10.55      Loan Agreement between Lloyds TSB Commercial Finance Limited and
            XCEL Power Systems Limited dated June 28, 2005 (18)

 10.56      Business Loan Agreement between Lloyds TSB Bank PLC and XCEL
            Corporation Limited dated June 30, 2005 (18)

 10.57      Guaranty and Indemnity between XCEL Power Systems Limited, Pascall
            Electronics Limited, Pascall Electronic (Holdings) Limited, Belix
            Wound Components Limited and Lloyds TSB Commercial Finance Limited
            dated June 21, 2005 (18)


                                       75


<PAGE>

EXHIBIT                             DESCRIPTION
NUMBER                              -----------
------

 10.58      Deed of Guaranty and Indemnity between XCEL Corporation Limited and
            Lloyds TSB Commercial Finance Limited dated June 21, 2005 (18)

 10.59      Deed of Guarantee and Indemnity between Pascall Electronics Limited
            and Lloyds TSB Commercial Finance Limited dated June 21, 2005 (18)

 10.60      Deed of Guarantee and Indemnity between XCEL Corporation Limited and
            Lloyds TSB Commercial Finance Limited dated June 21, 2005 (18)

 10.61      Deed of Priorities between Lloyds TSB Commercial Finance Limited and
            Lloyds TSB Bank PLC and Pascall Electronics Limited dated June 28,
            2005 (18)

 10.62      Deed of Priorities between Lloyds TSB Commercial Finance Limited and
            Lloyds TSB Bank PLC and XCEL Power Systems Limited dated June 28,
            2005 (18)

 10.63      All Assets Debenture given by XCEL Power Systems Limited in favor of
            Lloyds TSB Commercial Finance Limited dated June 28, 2005 (18)

 10.64      First Amendment to Credit Agreement dated as of November 17, 2005 by
            and between Emrise Corporation and Wells Fargo Bank, N.A. (20)

 10.65      Description of Compensation of Directors (#) (20)

 14.1       Amended and Restated Code of Business Conduct and Ethics (20)

 14.2       Code of Business Ethics for CEO and Senior Financial Officers (20)

 21         Subsidiaries of the Registrant (20)

 23         Consent of Hein & Associates LLP, Independent Registered Public
            Accounting Firm *

 31.1       Certification of Principal Executive Officer required by
            Rule 13a-14(a) of the Securities Exchange Act of 1934, as
            amended, as adopted pursuant to Section 302 of the Sarbanes-
            Oxley Act of 2002 *

 31.2       Certification of Principal Financial Officer required by
            Rule 13a-14(a) of the Securities Exchange Act of 1934, as
            amended, as adopted pursuant to Section 302 of the Sarbanes-
            Oxley Act of 2002 *

 32         Certification of Chief Executive Officer and Chief Financial
            Officer Pursuant to 18 U.S.C. Section 350, as Adopted Pursuant to
            Section 906 of the Sarbanes-Oxley Act of 2002 *
___________________
*      Filed herewith.

(#)    Management contract or compensatory plan, contract or arrangement
       required to be filed as an exhibit.

(1)    Filed as an exhibit to the Registrant's current report on Form 8-K for
       July 13, 2004 and incorporated herein by reference.

(2)    Filed as an exhibit to the Registrant's current report on Form 8-K for
       December 8, 2004 and incorporated herein by reference.

(3)    Filed as Appendix G to the Registrant's definitive proxy statement for
       the Registrant's 2004 annual meeting of stockholders and incorporated
       herein by reference.

                                       76


<PAGE>

(4)    Filed as an exhibit to the Registrant's current report on Form 8-K for
       December 29, 2004 and incorporated herein by reference.

(5)    Filed as an exhibit to the Registrant's annual report on Form 10-K for
       the year ended December 31, 2000 and incorporated herein by reference.

(6)    Filed as an exhibit to the Registrant's definitive proxy statement for
       the Registrant's annual meeting of stockholders held June 11, 1998 and
       incorporated herein by reference.

(7)    Filed as an exhibit to the Registrant's definitive proxy statement for
       the special meeting of stockholders held January 16, 2001 and
       incorporated herein by reference.

(8)    Filed as an exhibit to the Registrant's interim report on Form 10-Q for
       September 30, 1999 and incorporated herein by reference.

(9)    Filed as an exhibit to the Registrant's quarterly report on Form 10-Q for
       September 30, 2001 and incorporated herein by reference.

(10)   Filed as an exhibit to the Registrant's quarterly report on Form 10-Q for
       June 30, 2004 and incorporated herein by reference.

(11)   Filed as an exhibit to the Registrant's quarterly report on Form 10-Q for
       June 30, 2003 and incorporated herein by reference.

(12)   Filed as an exhibit to amendment no. 1 to the Registrant's quarterly
       report on Form 10-Q for June 30, 2003 and incorporated herein by
       reference.

(13)   Filed as an exhibit to the Registrant's current report on Form 8-K for
       March 18, 2005 and incorporated herein by reference.

(14)   Filed on May 19, 2005 as an exhibit to the Registrant's current report on
       Form 8-K for May 6, 2005 and incorporated herein by reference.

(15)   Filed as an exhibit to the Registrant's annual report on Form 10-K for
       the year ended December 31, 2004 and incorporated herein by reference.

(16)   Filed as an exhibit to the Registrant's current report on Form 8-K for
       September 2, 2005 and incorporated herein by reference.

(17)   Filed as an exhibit to amendment no. 1 to the Registrant's current report
       on Form 8-K for September 2, 2005 and incorporated herein by reference.

(18)   Filed as an exhibit to the Registrant's quarterly report on Form 10-Q for
       September 30, 2005 and incorporated herein by reference.

(19)   Filed as an exhibit to the Registrant's Form 8-K for February 24, 2006
       and incorporated herein by reference.

(20)   Filed as an exhibit to the Registrant's annual report on Form 10-K for
       the year ended December 31, 2005.


                                       77


<PAGE>

                                   SIGNATURES

         Pursuant to the requirements of Section 13 or 15(d) the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized on this 14th day of
December, 2006.

                                     EMRISE CORPORATION


                                     By:  /s/ Carmine T. Oliva
                                          --------------------------------------
                                          Carmine T. Oliva
                                          Chairman of the Board, President,
                                          Chief Executive Officer, Acting Chief
                                          Financial Officer and Secretary

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

<TABLE>
<S>     <C>
SIGNATURE                                                     CAPACITY                              DATE
---------                                                     --------                              ----

/s/ Carmine T. Oliva                            Chairman of the Board, President, Chief        December 14, 2006
-------------------------------------------     Executive Officer (principal executive
Carmine T. Oliva                                officer), Acting Chief Financial Officer
                                                (principal accounting and financial
                                                officer), Secretary and Director

/s/ Laurence P. Finnegan, Jr.                   Director                                       December 14, 2006
-------------------------------------------
Laurence P. Finnegan, Jr.

/s/ Otis W. Baskin                              Director                                       December 14, 2006
-------------------------------------------
Otis W. Baskin

/s/ Richard E. Mahmarian                        Director                                       December 14, 2006
-------------------------------------------
Richard E. Mahmarian


                                                       78
</TABLE>


<PAGE>

                        EXHIBITS ATTACHED TO THIS REPORT

   EXHIBIT
   NUMBER                           DESCRIPTION
   ------                           -----------

    23      Consent of Hein & Associates LLP, Independent Registered Public
            Accounting Firm

    31.1    Certification of Principal Executive Officer required by Rule
            13a-14(a) of the Securities Exchange Act of 1934, as amended, as
            adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

    31.2    Certification of Principal Financial Officer required by Rule
            13a-14(a) of the Securities Exchange Act of 1934, as amended, as
            adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

    32      Certification of Chief Executive Officer and Chief Financial Officer
            Pursuant to 18 U.S.C. Section 350, as Adopted Pursuant to Section
            906 of the Sarbanes-Oxley Act of 2002