##### 









SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





FORM 10-Q


|                                     |  |                                                                                            
|------------------------------------ |  | -------------------------------------------------------------------------------------------
|[X]                                  |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
    THE SECURITIES EXCHANGE ACT OF 1934
|For the quarter ended March 31, 2005
|OR                                  
|[  ]                                 |  | THE SECURITIES EXCHANGE ACT OF 1934                                                        



TELECOMMUNICATION SYSTEMS, INC.




|                                                                           |  |                                               
|-------------------------------------------------------------------------- |  | ----------------------------------------------
|MARYLAND(State or Other Jurisdiction of
    Incorporation or Organization) |  | 52-1526369(I.R.S. Employer Identification No.)
|                                                                          
|275 West Street, Annapolis, MD(Address of principal executive offices)     |  | 21401(Zip Code)                               

(410) 263-7616










|                                                    |  |                    |            | 
|--------------------------------------------------- |  | ------------------ | ---------- | 
|                                                    |  | Shares outstanding |           
|                                                    |  | as of April 30,    |           
|Title of Each Class                                 |  | 2005               |           
|                                                    |  |                    |           
|Class A Common Stock, par value
    $0.01 per share |  |                    | 30,929,637 | 
|Class B Common Stock, par value
    $0.01 per share |  |                    | 8,217,401  | 
|                                                    |  |                    |           
|Total Common Stock Outstanding                      |  |                    | 39,147,038 | 
|                                                    |  |                    |           









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##### 



INDEX


TELECOMMUNICATION SYSTEMS, INC.


|                              |  |            |  |                                                                                              |    |      |    | 
|----------------------------- |  | ---------- |  | -------------------------------------------------------------------------------------------- | -- | ---- | -- | 
|                              |  |            |  |                                                                                              |    | Page |   
|                              |  |            |  |                                                                                              |    |      |   
|PART I. FINANCIAL INFORMATION |  |            |  |                                                                                             
|                              |  | Item 1.    |  | Financial Statements (Unaudited)                                                             |    |      |    | 
|                              |  |            |  | Consolidated Statements of Operations for the three-months ended
    March 31, 2005 and 2004 |    |      | 1  | 
|                              |  |            |  | Consolidated Balance Sheets as of March 31, 2005 and
    December 31, 2004                   |    |      | 2  | 
|                              |  |            |  | Consolidated Statement of Stockholders Equity for the
    three-months ended March 31, 2005 |    |      | 3  | 
|                              |  |            |  | Consolidated Statements of Cash Flows for the three-months ended
    March 31, 2005 and 2004 |    |      | 4  | 
|                              |  |            |  | Notes to Consolidated Financial Statements                                                   |    |      | 5  | 
|                              |  | Item 2.    |  | Managements Discussion and Analysis of Financial Condition
    and Results of Operations    |    |      | 11 | 
|                              |  | Item 3.    |  | Quantitative and Qualitative Disclosures About Market Risk                                   |    |      | 26 | 
|                              |  | Item 4.    |  | Controls and Procedures                                                                      |    |      | 26 | 
|PART II. OTHER INFORMATION    |  |            |  |                                                                                             
|                              |  | Item 1.    |  | Legal Proceedings                                                                            |    |      | 27 | 
|                              |  | Item 2.    |  | Unregistered Sales of Equity Securities and Use of Proceeds                                  |    |      | 27 | 
|                              |  | Item 3.    |  | Defaults Upon Senior Securities                                                              |    |      | 27 | 
|                              |  | Item 4.    |  | Submission of Matters to a Vote of Security Holders                                          |    |      | 27 | 
|                              |  | Item 5.    |  | Other Information                                                                            |    |      | 27 | 
|                              |  | Item 6.    |  | Exhibits                                                                                     |    |      | 27 | 
|                              |  | SIGNATURES |  |                                                                                              | 28 |     



---



##### 



TeleCommunication Systems, Inc.





Consolidated Statements of Operations


(amounts in thousands, except per share data)


(unaudited)


|                                                      |                                                                                                                |                                           |        |        |        |   |        |        |        | 
|----------------------------------------------------- | -------------------------------------------------------------------------------------------------------------- | ----------------------------------------- | ------ | ------ | ------ | - | ------ | ------ | ------ | 
|                                                      |                                                                                                                | Three Months Ended                        |       
|                                                      |                                                                                                                | March 31,                                 |       
|                                                      |                                                                                                                |                                           |       
|                                                      |                                                                                                                | 2005                                      |        |        | 2004   |  
|                                                      |                                                                                                                |                                           |        |        |        |  
|Revenue                                               |                                                                                                                |                                           |        |        |        |   |        |       
|                                                      | Hosted, subscriber, and maintenance                                                                            |                                           | $      | 18,800 |        |   | $      | 20,972 |       
|                                                      | Systems                                                                                                        |                                           |        | 9,258  |        |   |        | 8,394  |       
|                                                      | Services                                                                                                       |                                           |        | 5,021  |        |   |        | 3,391  |       
|                                                      |                                                                                                                |                                           |        |        |        |  
|                                                      |                                                                                                                | Total revenue                             |        |        | 33,079 |   |        |        | 32,757 | 
|                                                      |                                                                                                                |                                           |        |        |        |  
|Direct costs of revenue                               |                                                                                                                |                                           |        |        |        |   |        |       
|                                                      | Direct cost of hosted, subscriber, and maintenance revenue                                                     |                                           |        | 10,382 |        |   |        | 13,184 |       
|                                                      | Direct cost of systems, including amortization of software
    development costs of $222 and $87, respectively |                                           |        | 4,944  |        |   |        | 4,885  |       
|                                                      | Direct cost of services revenue                                                                                |                                           |        | 2,949  |        |   |        | 1,888  |       
|                                                      |                                                                                                                |                                           |        |        |        |  
|                                                      |                                                                                                                | Total direct cost of revenue              |        |        | 18,275 |   |        |        | 19,957 | 
|                                                      |                                                                                                                |                                           |        |        |        |  
|Hosted, subscriber, and maintenance gross profit      |                                                                                                                |                                           | 8,418  |        |        |   | 7,788  |       
|Systems gross profit                                  |                                                                                                                |                                           | 4,314  |        |        |   | 3,509  |       
|Services gross profit                                 |                                                                                                                |                                           | 2,072  |        |        |   | 1,503  |       
|                                                      |                                                                                                                |                                           |        |        |        |  
|                                                      |                                                                                                                | Total gross profit                        |        |        | 14,804 |   |        |        | 12,800 | 
|                                                      |                                                                                                                |                                           |        |        |        |  
|Operating costs and expenses                          |                                                                                                                |                                           |        |        |        |   |        |       
|                                                      | Research and development expense                                                                               |                                           |        | 4,666  |        |   |        | 5,046  |       
|                                                      | Sales and marketing expense                                                                                    |                                           |        | 3,691  |        |   |        | 3,190  |       
|                                                      | General and administrative expense                                                                             |                                           |        | 4,947  |        |   |        | 4,487  |       
|                                                      | Non-cash stock compensation expense                                                                            |                                           |        | 205    |        |   |        | 357    |       
|                                                      | Depreciation and amortization of property and equipment                                                        |                                           |        | 2,189  |        |   |        | 1,732  |       
|                                                      | Amortization of acquired intangible assets                                                                     |                                           |        | 835    |        |   |        | 532    |       
|                                                      |                                                                                                                |                                           |        |        |        |  
|                                                      |                                                                                                                | Total operating costs and expenses        |        |        | 16,533 |   |        |        | 15,344 | 
|                                                      |                                                                                                                |                                           |        |        |        |  
|Loss from operations                                  |                                                                                                                |                                           | (1,729 | )      |        |   | (2,544 | )     
|Interest expense                                      |                                                                                                                |                                           | (317   | )      |        |   | (807   | )     
|Other expense, net                                    |                                                                                                                |                                           | (41    | )      |        |   | (95    | )     
|                                                      |                                                                                                                |                                           |        |        |        |  
|Net loss                                              |                                                                                                                | $                                         | (2,087 | )      |        | $ | (3,446 | )     
|                                                      |                                                                                                                |                                           |        |        |        |  
|Loss per share-basic and diluted                      |                                                                                                                | $                                         | (0.05  | )      |        | $ | (0.11  | )     
|                                                      |                                                                                                                |                                           |        |        |        |  
|Weighted average shares outstanding-basic and diluted |                                                                                                                |                                           | 38,496 |        |        |   | 31,885 |       
|                                                      |                                                                                                                |                                           |        |        |        |  
|Composition of non-cash stock compensation expense:   |                                                                                                                |                                           |        |        |        |   |        |       
|                                                      | Direct costs of revenue                                                                                        |                                           | $      | 9      |        |   | $      | 18     |       
|                                                      | Research and development expense                                                                               |                                           |        |       |        |   |        | 41     |       
|                                                      | Sales and marketing expense                                                                                    |                                           |        | 10     |        |   |        | 19     |       
|                                                      | General and administrative expense                                                                             |                                           |        | 186    |        |   |        | 279    |       
|                                                      |                                                                                                                |                                           |        |        |        |  
|                                                      |                                                                                                                | Total non-cash stock compensation expense |        | $      | 205    |   |        | $      | 357    | 
|                                                      |                                                                                                                |                                           |        |        |        |  



1



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##### 



TeleCommunication Systems, Inc.





Consolidated Balance Sheets


(amounts in thousands, except share data)


|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |     |        |        |          |     |         | 
|------------------------------------ | ------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------ | --------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | ------------ | --- | ------ | ------ | -------- | --- | ------- | 
|                                     |                                                                                                                     | March 31,                                                                      |                                                                                                                 |                                            | December 31, |    
|                                     |                                                                                                                     | 2005                                                                           |                                                                                                                 |                                            | 2004         |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    
|                                     |                                                                                                                     | (unaudited)                                                                    |                                                                                                                 |                                            |             
|Assets                               |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |     |        |       
|                                     | Current assets:                                                                                                     |                                                                                |                                                                                                                 |                                            |              |     |        |        |         
|                                     |                                                                                                                     | Cash and cash equivalents                                                      |                                                                                                                 | $                                          | 17,654       |     |        | $      | 18,251   |    
|                                     |                                                                                                                     | Accounts receivable, net of allowance of $1,364 in 2005 and
    $1,355 in 2004 |                                                                                                                 |                                            | 25,629       |     |        |        | 23,952   |    
|                                     |                                                                                                                     | Unbilled receivables                                                           |                                                                                                                 |                                            | 5,754        |     |        |        | 10,503   |    
|                                     |                                                                                                                     | Inventory                                                                      |                                                                                                                 |                                            | 2,879        |     |        |        | 3,985    |    
|                                     |                                                                                                                     | Other current assets                                                           |                                                                                                                 |                                            | 3,637        |     |        |        | 2,755    |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 | Total current assets                       |              |     | 55,553 |        |          |     | 59,446  | 
|                                     | Property and equipment, net of accumulated depreciation and
    amortization of $30,102 in 2005 and $27,946 in 2004 |                                                                                |                                                                                                                 | 17,760                                     |              |     |        | 17,917 |         
|                                     | Software development costs, net of accumulated amortization of
    $1,573 in 2005 and $1,351 in 2004                |                                                                                |                                                                                                                 | 2,581                                      |              |     |        | 2,791  |         
|                                     | Acquired intangible assets, net of accumulated amortization of
    $3,000 in 2005 and $2,165 in 2004                |                                                                                |                                                                                                                 | 5,502                                      |              |     |        | 5,842  |         
|                                     | Goodwill                                                                                                            |                                                                                |                                                                                                                 | 14,395                                     |              |     |        | 14,798 |         
|                                     | Other assets                                                                                                        |                                                                                |                                                                                                                 | 1,613                                      |              |     |        | 1,588  |         
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 | Total assets                               |              | $   | 97,404 |        |          | $   | 102,382 | 
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    
|                                    
|Liabilities and stockholders equity |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |     |        |       
|                                     | Current liabilities:                                                                                                |                                                                                |                                                                                                                 |                                            |              |     |        |        |         
|                                     |                                                                                                                     | Accounts payable and accrued expenses                                          |                                                                                                                 | $                                          | 11,642       |     |        | $      | 14,749   |    
|                                     |                                                                                                                     | Accrued payroll and related liabilities                                        |                                                                                                                 |                                            | 4,075        |     |        |        | 4,507    |    
|                                     |                                                                                                                     | Deferred revenue                                                               |                                                                                                                 |                                            | 6,884        |     |        |        | 5,228    |    
|                                     |                                                                                                                     | Current portion of notes payable, including line of credit                     |                                                                                                                 |                                            | 10,486       |     |        |        | 11,993   |    
|                                     |                                                                                                                     | Current portion of capital lease obligations                                   |                                                                                                                 |                                            | 2,863        |     |        |        | 2,765    |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 | Total current liabilities                  |              |     | 35,950 |        |          |     | 39,242  | 
|                                     | Capital lease obligations and notes payable, less current portion                                                   |                                                                                |                                                                                                                 | 3,693                                      |              |     |        | 3,634  |         
|                                     | Stockholders equity:                                                                                               |                                                                                |                                                                                                                 |                                            |              |     |        |        |         
|                                     |                                                                                                                     | Class A Common Stock; $0.01 par value:                                         |                                                                                                                 |                                            |              |     |        |        |          |    
|                                     |                                                                                                                     |                                                                                | Authorized shares  225,000,000; issued and
    outstanding shares of 30,780,457 in 2005 and 30,626,454 in 2004 |                                            |              | 308 |        |        |          | 306 |        
|                                     |                                                                                                                     | Class B Common Stock; $0.01 par value:                                         |                                                                                                                 |                                            |              |     |        |        |          |    
|                                     |                                                                                                                     |                                                                                | Authorized shares  75,000,000; issued and outstanding
    shares of 8,404,201 in 2005 and 8,409,001 in 2004    |                                            |              | 84  |        |        |          | 84  |        
|                                     |                                                                                                                     | Deferred compensation                                                          |                                                                                                                 |                                            | (642         | )   |        |        | (787     | )  
|                                     |                                                                                                                     | Additional paid-in capital                                                     |                                                                                                                 |                                            | 209,987      |     |        |        | 209,778  |    
|                                     |                                                                                                                     | Accumulated other comprehensive loss:                                          |                                                                                                                 |                                            |              |     |        |        |          |    
|                                     |                                                                                                                     |                                                                                | Cumulative foreign currency translation adjustment                                                              |                                            |              | (20 | )      |        |          | (6  | )      
|                                     |                                                                                                                     | Accumulated deficit                                                            |                                                                                                                 |                                            | (151,956     | )   |        |        | (149,869 | )  
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 | Total stockholders equity                 |              |     | 57,761 |        |          |     | 59,506  | 
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    
|                                     |                                                                                                                     |                                                                                |                                                                                                                 | Total liabilities and stockholders equity |              | $   | 97,404 |        |          | $   | 102,382 | 
|                                     |                                                                                                                     |                                                                                |                                                                                                                 |                                            |              |    



2



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##### 



TeleCommunication Systems, Inc.





Consolidated Statement of Stockholders Equity


(amounts in thousands, except share data)


(unaudited)


|                                                                                                                     |  |         |     |  |         |   |    |              |  |             |         |   |       |               |         |   |             |   |     |       |  |   |          |   |  |   |        |  
|-------------------------------------------------------------------------------------------------------------------- |  | ------- | --- |  | ------- | - | -- | ------------ |  | ----------- | ------- | - | ----- | ------------- | ------- | - | ----------- | - | --- | ----- |  | - | -------- | - |  | - | ------ | -
|                                                                                                                     |  |         |     |  |         |   |    |              |  | Accumulated |         |   |       |               |        
|                                                                                                                     |  | Class A |     |  | Class B |   |    |              |  | Additional  |         |   | Other |               |         |   |             |  
|                                                                                                                     |  | Common  |     |  | Common  |   |    | Deferred     |  |             | Paid-In |   |       | Comprehensive |         |   | Accumulated |   |     |      
|                                                                                                                     |  | Stock   |     |  | Stock   |   |    | Compensation |  |             | Capital |   |       | Loss          |         |   | Deficit     |   |     | Total | 
|                                                                                                                     |  |         |     |  |         |   |    |              |  |             |         |   |       |               |         |   |             |   |     |       | 
|Balance at January 1, 2005                                                                                           |  | $       | 306 |  |         | $ | 84 |              |  | $           | (787    | ) |       | $             | 209,778 |   |             | $ | (6  | )     |  | $ | (149,869 | ) |  | $ | 59,506 |  
|Options exercised for the purchase of 77,066 shares of
    Class A Common Stock                                      |  |         | 1   |  |         |   |   |              |  |             |        |   |       |               | 114     |   |             |   |    |       |  |   |         |   |  |   | 115    |  
|Issuance of 72,137 shares of Class A Common Stock
    under Employee Stock Purchase Plan                             |  |         | 1   |  |         |   |   |              |  |             |        |   |       |               | 158     |   |             |   |    |       |  |   |         |   |  |   | 159    |  
|Issuance costs for 2,500,000 shares of Class A Common
    Stock in connection with a private equity offering in 2004 |  |         |    |  |         |   |   |              |  |             |        |   |       |               | (81     | ) |             |   |    |       |  |   |         |   |  |   | (81    | )
|Conversion of 4,800 shares of Class B Common Stock to
    Class A Common Stock                                       |  |         |    |  |         |   |   |              |  |             |        |   |       |               |        |   |             |   |    |       |  |   |         |   |  |   |       |  
|Stock compensation expense for issuance of Class A Common
    Stock options at below fair market value               |  |         |    |  |         |   |   |              |  |             |        |   |       |               | 60      |   |             |   |    |       |  |   |         |   |  |   | 60     |  
|Amortization of deferred compensation expense                                                                        |  |         |    |  |         |   |   |              |  |             | 145     |   |       |               |        |   |             |   |    |       |  |   |         |   |  |   | 145    |  
|Change in value of options issued to non-employees for service                                                       |  |         |    |  |         |   |   |              |  |             |        |   |       |               | (42     | ) |             |   |    |       |  |   |         |   |  |   | (42    | )
|Foreign currency translation adjustment                                                                              |  |         |    |  |         |   |   |              |  |             |        |   |       |               |        |   |             |   | (14 | )     |  |   |         |   |  |   | (14    | )
|Net loss for the three months ended March 31, 2005                                                                   |  |         |    |  |         |   |   |              |  |             |        |   |       |               |        |   |             |   |    |       |  |   | (2,087   | ) |  |   | (2,087 | )
|                                                                                                                     |  |         |     |  |         |   |    |              |  |             |         |   |       |               |         |   |             |   |     |       | 
|Balance at March 31, 2005                                                                                            |  | $       | 308 |  |         | $ | 84 |              |  | $           | (642    | ) |       | $             | 209,987 |   |             | $ | (20 | )     |  | $ | (151,956 | ) |  | $ | 57,761 |  
|                                                                                                                     |  |         |     |  |         |   |    |              |  |             |         |   |       |               |         |   |             |   |     |       | 



3



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##### 



TeleCommunication Systems, Inc.





Consolidated Statements of Cash Flows


(amounts in thousands)


(unaudited)


|                                                                                                       |                                                                          |                                         |        |       |        |   |         |       |        |  
|------------------------------------------------------------------------------------------------------ | ------------------------------------------------------------------------ | --------------------------------------- | ------ | ----- | ------ | - | ------- | ----- | ------ | -
|                                                                                                       |                                                                          | Three Months Ended                      |       
|                                                                                                       |                                                                          | March 31,                               |       
|                                                                                                       |                                                                          |                                         |       
|                                                                                                       |                                                                          | 2005                                    |        |       | 2004   |  
|                                                                                                       |                                                                          |                                         |        |       |        |  
|Operating activities:                                                                                  |                                                                          |                                         |        |       |        |   |         |      
|Net loss                                                                                               |                                                                          | $                                       | (2,087 | )     |        | $ | (3,446  | )    
|Adjustments to reconcile net loss to net cash provided by/(used
    in) operating activities:          |                                                                          |                                         |        |       |        |   |         |      
|                                                                                                       | Depreciation and amortization of property and equipment                  |                                         |        | 2,189 |        |   |         | 1,732 |       
|                                                                                                       | Amortization of acquired intangible assets                               |                                         |        | 835   |        |   |         | 532   |       
|                                                                                                       | Non-cash stock compensation expense                                      |                                         |        | 205   |        |   |         | 357   |       
|                                                                                                       | Amortization of software development costs                               |                                         |        | 222   |        |   |         | 87    |       
|                                                                                                       | Amortization of debt discount                                            |                                         |        |      |        |   |         | 335   |       
|                                                                                                       | Amortization of deferred financing fees included in interest
    expense |                                         |        | 84    |        |   |         | 208   |       
|                                                                                                       | Other non-cash (income)/expenses                                         |                                         |        | (62   | )      |   |         | 17    |       
|                                                                                                       | State of Maryland loan forgiveness                                       |                                         |        |      |        |   |         | (100  | )     
|                                                                                                       | Changes in operating assets and liabilities:                             |                                         |        |       |        |   |         |       |       
|                                                                                                       |                                                                          | Accounts receivable, net                |        |       | (1,698 | ) |         |       | 4,040  |  
|                                                                                                       |                                                                          | Unbilled receivables                    |        |       | 4,749  |   |         |       | (1,486 | )
|                                                                                                       |                                                                          | Inventory                               |        |       | 1,106  |   |         |       | (1,552 | )
|                                                                                                       |                                                                          | Other current assets                    |        |       | (897   | ) |         |       | (1,395 | )
|                                                                                                       |                                                                          | Accounts payable and accrued expenses   |        |       | (3,102 | ) |         |       | (105   | )
|                                                                                                       |                                                                          | Accrued payroll and related liabilities |        |       | (429   | ) |         |       | (408   | )
|                                                                                                       |                                                                          | Deferred revenue                        |        |       | 1,671  |   |         |       | 245    |  
|                                                                                                       |                                                                          |                                         |        |       |        |  
|Net cash provided by/(used in) operating activities                                                    |                                                                          |                                         | 2,786  |       |        |   | (939    | )    
|Investing activities:                                                                                  |                                                                          |                                         |        |       |        |   |         |      
|Acquisitions, net of cash acquired                                                                     |                                                                          |                                         | (82    | )     |        |   | (17,436 | )    
|Purchases of property and equipment                                                                    |                                                                          |                                         | (911   | )     |        |   | (1,973  | )    
|Change in other assets                                                                                 |                                                                          |                                         | (67    | )     |        |   | (223    | )    
|                                                                                                       |                                                                          |                                         |        |       |        |  
|Net cash used in investing activities                                                                  |                                                                          |                                         | (1,060 | )     |        |   | (19,632 | )    
|Financing activities:                                                                                  |                                                                          |                                         |        |       |        |   |         |      
|Payments on long-term debt and capital lease obligations                                               |                                                                          |                                         | (2,509 | )     |        |   | (1,513  | )    
|Proceeds from issuance of Class A Common Stock and
    Convertible subordinated debentures             |                                                                          |                                         |       |       |        |   | 21,000  |      
|Financing fees related to issuance of Class A Common Stock
    and Convertible subordinated debentures |                                                                          |                                         | (81    | )     |        |   | (1,100  | )    
|Proceeds from issuance of long-term debt                                                               |                                                                          |                                         |       |       |        |   | 2,500   |      
|Proceeds from exercise of employee stock options and sale of
    stock                                 |                                                                          |                                         | 274    |       |        |   | 711     |      
|                                                                                                       |                                                                          |                                         |        |       |        |  
|Net cash (used in)/provided by financing activities                                                    |                                                                          |                                         | (2,316 | )     |        |   | 21,598  |      
|                                                                                                       |                                                                          |                                         |        |       |        |  
|Net decrease in cash                                                                                   |                                                                          |                                         | (590   | )     |        |   | 1,027   |      
|Effect of exchange rates on cash and cash equivalents                                                  |                                                                          |                                         | (7     | )     |        |   | 58      |      
|Cash and cash equivalents at the beginning of the period                                               |                                                                          |                                         | 18,251 |       |        |   | 18,785  |      
|                                                                                                       |                                                                          |                                         |        |       |        |  
|Cash and cash equivalents at the end of the period                                                     |                                                                          | $                                       | 17,654 |       |        | $ | 19,870  |      
|                                                                                                       |                                                                          |                                         |        |       |        |  



4



---



##### 



TeleCommunication Systems, Inc.





Notes to Consolidated Financial Statements


March 31, 2005


(amounts in thousands, except per share amounts)


(unaudited)




|   |                                                                         
|-- | ------------------------------------------------------------------------
|1. | Basis of Presentation and Summary of Significant
    Accounting Policies

Basis of Presentation.


Reclassifications.


Use of Estimates.


Other Comprehensive Income/loss.


Recent Accounting Pronouncements. Share Based Payment






|   |                       
|-- | ----------------------
|2. | Enterprise Acquisition



5



---



##### 



TeleCommunication Systems, Inc.


Notes to Consolidated Financial
Statements  (Continued)






|   |                                                 
|-- | ------------------------------------------------
|3. | Supplemental Disclosure of Cash Flow Information







|   |                    
|-- | -------------------
|4. | Segment Information







|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |   |       |       |       |   |        |        |        | 
|-------------------------------------------------- | ------------------ | ---------------------------- | ------ | ------ | ------ | - | ----- | ----- | ----- | - | ------ | ------ | ------ | ---- | ------ | ----- | ------ | - | ----- | ----- | ----- | - | ------ | ------ | ------ | 
|                                                   |                    | Three Months Ended March 31, |       
|                                                   |                    |                              |       
|                                                   |                    | 2005                         |        |        | 2004   |  
|                                                   |                    |                              |        |        |        |  
|                                                   |                    | Comm.                        |        |        |        |   |       |       | Comm. |   |        |       
|                                                   |                    | Apps                         |        |        | Gvmt   |   |       | Total |       |   | Apps   |        |        | Gvmt |        |       | Total  |  
|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |  
|Revenue                                            |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |   |       |       |       |   |        |       
|Hosted, subscriber and maintenance                 |                    | $                            | 18,714 |        |        | $ | 86    |       |       | $ | 18,800 |        |        | $    | 20,972 |       |        | $ |      |       |       | $ | 20,972 |       
|Systems                                            |                    |                              | 5,981  |        |        |   | 3,277 |       |       |   | 9,258  |        |        |      | 4,301  |       |        |   | 4,093 |       |       |   | 8,394  |       
|Services                                           |                    |                              | 630    |        |        |   | 4,391 |       |       |   | 5,021  |        |        |      |       |       |        |   | 3,391 |       |       |   | 3,391  |       
|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |  
|                                                   |                    | Total revenue                |        |        | 25,325 |   |       |       | 7,754 |   |        |        | 33,079 |      |        |       | 25,273 |   |       |       | 7,484 |   |        |        | 32,757 | 
|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |  
|Operating costs and expenses                       |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |   |       |       |       |   |        |       
|Direct cost of hosted, subscriber, and maintenance |                    |                              | 10,377 |        |        |   | 5     |       |       |   | 10,382 |        |        |      | 13,184 |       |        |   |      |       |       |   | 13,184 |       
|Direct cost of systems                             |                    |                              | 2,546  |        |        |   | 2,398 |       |       |   | 4,944  |        |        |      | 2,574  |       |        |   | 2,311 |       |       |   | 4,885  |       
|Direct cost of services                            |                    |                              | 333    |        |        |   | 2,616 |       |       |   | 2,949  |        |        |      |       |       |        |   | 1,888 |       |       |   | 1,888  |       
|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |  
|                                                   |                    | Total Direct Costs           |        |        | 13,256 |   |       |       | 5,019 |   |        |        | 18,275 |      |        |       | 15,758 |   |       |       | 4,199 |   |        |        | 19,957 | 
|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |  
|Hosted, subscriber, and maintenance gross profit   |                    |                              | 8,337  |        |        |   | 81    |       |       |   | 8,418  |        |        |      | 7,788  |       |        |   |      |       |       |   | 7,788  |       
|Systems gross profit                               |                    |                              | 3,435  |        |        |   | 879   |       |       |   | 4,314  |        |        |      | 1,727  |       |        |   | 1,782 |       |       |   | 3,509  |       
|Services gross profit                              |                    |                              | 297    |        |        |   | 1,775 |       |       |   | 2,072  |        |        |      |       |       |        |   | 1,503 |       |       |   | 1,503  |       
|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |  
|                                                   | Total gross profit |                              | $      | 12,069 |        |   | $     | 2,735 |       |   | $      | 14,804 |        |      | $      | 9,515 |        |   | $     | 3,285 |       |   | $      | 12,800 |       
|                                                   |                    |                              |        |        |        |   |       |       |       |   |        |        |        |      |        |       |        |  

6



---



##### 



TeleCommunication Systems, Inc.


Notes to Consolidated Financial
Statements  (Continued)


|                           |                                                         |                    |        |        |      |   |        |        |  
|-------------------------- | ------------------------------------------------------- | ------------------ | ------ | ------ | ---- | - | ------ | ------ | -
|                           |                                                         | Three Months Ended |       
|                           |                                                         | March 31           |       
|                           |                                                         |                    |       
|                           |                                                         | 2005               |        |        | 2004 |  
|                           |                                                         |                    |        |        |      |  
|Total segment gross profit |                                                         | $                  | 14,804 |        |      | $ | 12,800 |       
|                           | Research and development expense                        |                    |        | (4,666 | )    |   |        | (5,046 | )
|                           | Sales and marketing expense                             |                    |        | (3,691 | )    |   |        | (3,190 | )
|                           | General and administrative expense                      |                    |        | (4,947 | )    |   |        | (4,487 | )
|                           | Non-cash stock compensation expense                     |                    |        | (205   | )    |   |        | (357   | )
|                           | Depreciation and amortization of property and equipment |                    |        | (2,189 | )    |   |        | (1,732 | )
|                           | Amortization of acquired intangible assets              |                    |        | (835   | )    |   |        | (532   | )
|                           | Interest expense                                        |                    |        | (317   | )    |   |        | (807   | )
|                           | Other expense, net                                      |                    |        | (41    | )    |   |        | (95    | )
|                           |                                                         |                    |        |        |      |  
|Net loss                   |                                                         | $                  | (2,087 | )      |      | $ | (3,446 | )     
|                           |                                                         |                    |        |        |      |  



|   |          
|-- | ---------
|5. | Inventory



|                |       |           |       |       |              |   |       |       | 
|--------------- | ----- | --------- | ----- | ----- | ------------ | - | ----- | ----- | 
|                |       | March 31, |       |       | December 31, |  
|                |       | 2005      |       |       | 2004         |  
|                |       |           |       |       |              |  
|Component parts |       | $         | 846   |       |              | $ | 1,928 |      
|Finished goods  |       |           | 2,033 |       |              |   | 2,057 |      
|                |       |           |       |       |              |  
|                | Total |           | $     | 2,879 |              |   | $     | 3,985 | 
|                |       |           |       |       |              |  

7



---



##### 



TeleCommunication Systems, Inc.


Notes to Consolidated Financial
Statements  (Continued)




|   |                                                                          
|-- | -------------------------------------------------------------------------
|6. | Acquired Intangible Assets and Capitalized Software
    Development Costs



|                                                          |                      |                |       |       |                   |  |       |       |       |          |        |       |             |              |       |       |        |  |       |       |       |  |       |       |       | 
|--------------------------------------------------------- | -------------------- | -------------- | ----- | ----- | ----------------- |  | ----- | ----- | ----- | -------- | ------ | ----- | ----------- | ------------ | ----- | ----- | ------ |  | ----- | ----- | ----- |  | ----- | ----- | ----- | 
|                                                          |                      | March 31, 2005 |       |       | December 31, 2004 | 
|                                                          |                      |                |       |       |                   | 
|                                                          |                      | Gross          |       |       |                   |  | Gross |       |       |         
|                                                          |                      | Carrying       |       |       | Accumulated       |  |       |       |       | Carrying |        |       | Accumulated |              |       |      
|                                                          |                      | Amount         |       |       | Amortization      |  |       | Net   |       |          | Amount |       |             | Amortization |       |       | Net    | 
|                                                          |                      |                |       |       |                   |  |       |       |       |          |        |       |             |              |       |       |        | 
|Acquired intangible assets:                               |                      |                |       |       |                   |  |       |       |       |          |        |       |             |              |       |       |        |  |       |       |       |  |       |      
|                                                          | Customer Contracts   |                | $     | 4,519 |                   |  | $     | 1,868 |       |          | $      | 2,651 |             |              | $     | 4,208 |        |  | $     | 1,381 |       |  | $     | 2,827 |      
|                                                          | Customer Lists       |                |       | 2,741 |                   |  |       | 952   |       |          |        | 1,789 |             |              |       | 2,518 |        |  |       | 666   |       |  |       | 1,852 |      
|                                                          | Trademarks & Patents |                |       | 1,242 |                   |  |       | 180   |       |          |        | 1,062 |             |              |       | 1,281 |        |  |       | 118   |       |  |       | 1,163 |      
|Software development costs, including acquired technology |                      |                | 4,154 |       |                   |  | 1,573 |       |       |          | 2,581  |       |             |              | 4,142 |       |        |  | 1,351 |       |       |  | 2,791 |      
|                                                          |                      |                |       |       |                   |  |       |       |       |          |        |       |             |              |       |       |        | 
|                                                          |                      | Total          |       | $     | 12,656            |  |       | $     | 4,573 |          |        | $     | 8,083       |              |       | $     | 12,149 |  |       | $     | 3,516 |  |       | $     | 8,633 | 
|                                                          |                      |                |       |       |                   |  |       |       |       |          |        |       |             |              |       |       |        | 
|Estimated future amortization expense:                    |                      |                |       |       |                   |  |       |       |       |          |        |       |             |              |       |      
|Nine months ending December 31, 2005                      |                      | $              | 2,525 |       |                   |  |       |       |       |          |        |       |             |              |       |      
|Year ending December 31, 2006                             |                      | $              | 2,614 |       |                   |  |       |       |       |          |        |       |             |              |       |      
|Year ending December 31, 2007                             |                      | $              | 1,233 |       |                   |  |       |       |       |          |        |       |             |              |       |      
|Year ending December 31, 2008                             |                      | $              | 761   |       |                   |  |       |       |       |          |        |       |             |              |       |      
|Year ending December 31, 2009                             |                      | $              | 506   |       |                   |  |       |       |       |          |        |       |             |              |       |      
|Thereafter                                                |                      | $              | 444   |       |                   |  |       |       |       |          |        |       |             |              |       |      







|   |                                                  
|-- | -------------------------------------------------
|7. | Concentrations of Credit Risk and Major Customers



8



---



##### 



TeleCommunication Systems, Inc.


Notes to Consolidated Financial
Statements  (Continued)




|                  |  |                         |  |                            |  |              
|----------------- |  | ----------------------- |  | -------------------------- |  | -------------
|                  |  |                         |  | % of Total Revenue For the
|                  |  |                         |  | Three Months Ended        
|                  |  |                         |  | March 31,                 
|                  |  |                         |  |                           
|Customer          |  | Segment                 |  | 2005                       |  | 2004         
|                  |  |                         |  |                            |  |              
|Federal Agencies  |  | Government              |  | 15%                        |  | 10%          
|Verizon Wireless  |  | Commercial Applications |  | 11%                        |  | 12%          
|Hutchison Whampoa |  | Commercial Applications |  | 11%                        |  | Less than 10%

|                 |  |                         |  |                      |  |              
|---------------- |  | ----------------------- |  | -------------------- |  | -------------
|                 |  |                         |  | As of March 31, 2005
|                 |  |                         |  |                     
|                 |  |                         |  | Accounts             |  | Unbilled     
|Customer         |  | Segment                 |  | Receivable           |  | Receivables  
|                 |  |                         |  |                      |  |              
|Federal Agencies |  | Government              |  | 14%                  |  | 28%          
|Customer A       |  | Commercial Applications |  | 11%                  |  | Less than 10%
|Customer B       |  | Commercial Applications |  | 22%                  |  | Less than 10%
|Customer C       |  | Commercial Applications |  | Less than 10%        |  | 17%          
|Customer D       |  | Commercial Applications |  | Less than 10%        |  | 10%          



|   |                                                   
|-- | --------------------------------------------------
|8. | Stock-Based Compensation and Deferred Compensation

Accounting for Stock
Issued to Employees Accounting for Stock-Based
Compensation,


|                                                                                                                    |                                 |                    |        |       |      |   |        |       |  
|------------------------------------------------------------------------------------------------------------------- | ------------------------------- | ------------------ | ------ | ----- | ---- | - | ------ | ----- | -
|                                                                                                                    |                                 | Three Months Ended |       
|                                                                                                                    |                                 | March 31,          |       
|                                                                                                                    |                                 |                    |       
|                                                                                                                    |                                 | 2005               |        |       | 2004 |  
|                                                                                                                    |                                 |                    |        |       |      |  
|Net loss, as reported                                                                                               |                                 | $                  | (2,087 | )     |      | $ | (3,446 | )    
|Add: Stock-based employee compensation expense included in
    reported net loss                                    |                                 |                    | 205    |       |      |   | 357    |      
|Deduct: Total stock-based employee compensation expense
    determined under fair value based method for all awards |                                 |                    | (1,542 | )     |      |   | (1,800 | )    
|                                                                                                                    |                                 |                    |        |       |      |  
|Pro forma net loss                                                                                                  |                                 | $                  | (3,424 | )     |      | $ | (4,889 | )    
|Loss per common share:                                                                                              |                                 |                    |        |       |      |   |        |      
|                                                                                                                    | Basic and diluted  as reported |                    | $      | (0.05 | )    |   | $      | (0.11 | )
|                                                                                                                    |                                 |                    |        |       |      |  
|                                                                                                                    | Basic and diluted  pro forma   |                    | $      | (0.09 | )    |   | $      | (0.15 | )
|                                                                                                                    |                                 |                    |        |       |      |  

9



---



##### 



TeleCommunication Systems, Inc.


Notes to Consolidated Financial
Statements  (Continued)






|   |               
|-- | --------------
|9. | Line of Credit



10



---



##### 








|        |                                                                                          
|------- | -----------------------------------------------------------------------------------------
|Item 2. | Managements Discussion and Analysis of Financial
    Condition and Results of Operations



Critical Accounting Policies and Estimates






11



---



##### 





Overview








Indicators of Our Financial and Operating Performance






| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Revenue. We derive revenue from products and services
    including recurring monthly service and subscriber fees,
    software licenses and related service fees for the design,
    development, and deployment of software and communication
    systems, and products and services derived from the delivery of
    information processing and communication systems to governmental
    agencies.                                                                                                                                                                                                                                                                                                                                         
|
| |  | Cost of revenue and gross profit. The major items
    comprising our cost of revenue are compensation and benefits,
    third-party hardware and software, amortization of software
    development costs, and overhead expenses. The costs of hardware
    and third-party software are primarily associated with the
    delivery of systems, and fluctuate from period to period as a
    result of the relative volume, mix of projects, level of service
    support required and the complexity of customized products and
    services delivered. Amortization of software development costs,
    including acquired technology, is associated with the
    recognition of systems revenue from our Commercial Applications
    segment.
|
| |  | Operating expenses. Our operating expenses are primarily
    compensation and benefits, professional fees, facility costs,
    marketing and sales-related expenses, and travel costs as well
    as certain non-cash expenses such as non-cash stock compensation
    expense, depreciation and amortization of property and
    equipment, and amortization of acquired intangible assets.                                                                                                                                                                                                                                                                                                                                                   
|
| |  | Liquidity and cash flows. The primary driver of our cash
    flows is the results of our operations. Important sources of our
    liquidity have been cash raised from our January 2004 and August
    2004 financings in connection with our recent acquisitions (as
    described below under Liquidity and Capital
    Resources), and borrowings under our bank credit agreement
    and lease financings secured for the purchase of equipment.                                                                                                                                                                                                                                                                                         

12



---



##### 





| |   |                                                                                                                                                                      
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Balance sheet. We view cash, working capital, and
    accounts receivable balances and days revenues outstanding as
    important indicators of our financial health.

tm


Results of Operations


Revenue and Cost of Revenue


|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |      |   |  |     |    |   
|---------------------------------------------------------- | ------------------------------------ | --------------- | ---- | ---- | ------------- | - | ---- | ---- | - | - | ---- | ---- | - |  | --- | -- | --
|                                                           |                                      | Three Months    |      |      |              
|                                                           |                                      | Ended March 31, |      |      | 2005 vs. 2004 |  
|                                                           |                                      |                 |      |      |               |  
|($ in millions)                                            |                                      | 2005            |      |      | 2004          |   |      | $    |   |   | %    |     
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     
|Hosted, subscriber, and maintenance revenue                |                                      | $               | 18.8 |      |               | $ | 21.0 |      |   | $ | (2.2 | )    |   |  | (11 | %)
|Systems revenue                                            |                                      |                 | 9.3  |      |               |   | 8.4  |      |   |   | 0.9  |      |   |  | 10  | % 
|Services revenue                                           |                                      |                 | 5.0  |      |               |   | 3.4  |      |   |   | 1.6  |      |   |  | 48  | % 
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Total revenue                        |                 |      | 33.1 |               |   |      | 32.8 |   |   |      | 0.1  |   |  |     |   |   
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     
|Direct cost of hosted, subscriber, and maintenance revenue |                                      |                 | 10.4 |      |               |   | 13.2 |      |   |   | (0.3 | )    |   |  | 1   | % 
|Direct cost of systems revenue                             |                                      |                 | 4.9  |      |               |   | 4.9  |      |   |   | 0.1  |      |   |  | 1   | % 
|Direct cost of services revenue                            |                                      |                 | 3.0  |      |               |   | 1.9  |      |   |   | 1.1  |      |   |  | 56  | % 
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Total direct cost of revenue         |                 |      | 18.3 |               |   |      | 20.0 |   |   |      | (1.7 | ) |  |     | (8 | %)
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     
|Hosted, subscriber, and maintenance gross profit           |                                      |                 | 8.4  |      |               |   | 7.8  |      |   |   | 0.6  |      |   |  | 8   | % 
|Systems gross profit                                       |                                      |                 | 4.3  |      |               |   | 3.5  |      |   |   | 0.8  |      |   |  | 23  | % 
|Services gross profit                                      |                                      |                 | 2.1  |      |               |   | 1.5  |      |   |   | 0.6  |      |   |  | 38  | % 
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Total gross profit                   |                 | $    | 14.8 |               |   | $    | 12.8 |   |   | $    | 2.0  |   |  |     | 16 | % 
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Gross profit as a percent of revenue |                 |      | 45   | %             |   |      | 39   | % |   |      |      |   |  |     |    |   
|                                                           |                                      |                 |      |      |               |   |      |      |   |   |      |     



13



---



##### 







| |                                 
| | --------------------------------
| | Commercial Applications Segment:

|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |      |   |  |     |     |   
|---------------------------------------------------------- | ----------------------------------------------- | --------------- | ---- | ---- | ------------- | - | ---- | ---- | - | - | ---- | ---- | - |  | --- | --- | --
|                                                           |                                                 | Three Months    |      |      |              
|                                                           |                                                 | Ended March 31, |      |      | 2005 vs. 2004 |  
|                                                           |                                                 |                 |      |      |               |  
|($ in millions)                                            |                                                 | 2005            |      |      | 2004          |   |      | $    |   |   | %    |     
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     
|Hosted, subscriber, and maintenance revenue                |                                                 | $               | 18.7 |      |               | $ | 21.0 |      |   | $ | (2.3 | )    |   |  | (11 | %) 
|Systems revenue                                            |                                                 |                 | 6.0  |      |               |   | 4.3  |      |   |   | 1.7  |      |   |  | 39  | %  
|Services revenue                                           |                                                 |                 | 0.6  |      |               |   |     |      |   |   | 0.6  |      |   |  | NM  |    
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Commercial Applications segment revenue         |                 |      | 25.3 |               |   |      | 25.3 |   |   |      | 0.1  |   |  |     |    |   
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     
|Direct cost of hosted, subscriber, and maintenance revenue |                                                 |                 | 10.4 |      |               |   | 13.2 |      |   |   | (2.8 | )    |   |  | (21 | %) 
|Direct cost of systems revenue                             |                                                 |                 | 2.5  |      |               |   | 2.6  |      |   |   |     |      |   |  | (1  | %) 
|Direct cost of services revenue                            |                                                 |                 | 0.3  |      |               |   |     |      |   |   | 0.3  |      |   |  | NM  |    
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Commercial Applications segment cost of revenue |                 |      | 13.3 |               |   |      | 15.8 |   |   |      | (2.5 | ) |  |     | (16 | %)
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     
|Hosted, subscriber, and maintenance gross profit           |                                                 |                 | 8.3  |      |               |   | 7.8  |      |   |   | 0.5  |      |   |  | 7   | %  
|Systems gross profit                                       |                                                 |                 | 3.4  |      |               |   | 1.7  |      |   |   | 1.7  |      |   |  | 99  | %  
|Services gross profit                                      |                                                 |                 | 0.3  |      |               |   |     |      |   |   | 0.3  |      |   |  | NM  |    
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Commercial Applications segment gross profit*   |                 | $    | 12.1 |               |   | $    | 9.5  |   |   | $    | 2.5  |   |  |     | 27  | % 
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     
|                                                           | Segment gross profit as a percent of revenue    |                 |      | 48   | %             |   |      | 38   | % |   |      |      |   |  |     |     |   
|                                                           |                                                 |                 |      |      |               |   |      |      |   |   |      |     






|  |                                                                                                                   
|- | ------------------------------------------------------------------------------------------------------------------
|* | See discussion of segment reporting in Note 4 to the
    accompanying unaudited consolidated financial statements.



| |                                                                     
| | --------------------------------------------------------------------
| | Hosted, Subscriber, and Maintenance Revenue and Cost of
    Revenue:



tm




14



---



##### 













| |                                    
| | -----------------------------------
| | Systems Revenue and Cost of Revenue



15



---



##### 











| |                                     
| | ------------------------------------
| | Services Revenue and Cost of Revenue









| |                    
| | -------------------
| | Government Segment:

|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |      |   |  |     |     |   
|-------------------------------------------------- | -------------------------------------------- | ------------ | --- | --- | ------------- | - | --- | --- | - | - | ---- | ---- | - |  | --- | --- | --
|                                                   |                                              | Three Months |     |     |               |   |    
|                                                   |                                              | Ended        |     |     |              
|                                                   |                                              | March 31,    |     |     | 2005 vs. 2004 |  
|                                                   |                                              |              |     |     |               |  
|($ in millions)                                    |                                              | 2005         |     |     | 2004          |   |     | $   |   |   | %    |     
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     
|Hosted, subscriber, and maintenance revenue        |                                              | $            | 0.1 |     |               | $ |    |     |   | $ | 0.1  |      |   |  | NM  |    
|Systems revenue                                    |                                              |              | 3.3 |     |               |   | 4.1 |     |   |   | (0.8 | )    |   |  | (20 | %) 
|Services revenue                                   |                                              |              | 4.4 |     |               |   | 3.4 |     |   |   | 1.0  |      |   |  | 29  | %  
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     
|                                                   | Government segment revenue                   |              |     | 7.8 |               |   |     | 7.5 |   |   |      | 0.3  |   |  |     | 4   | % 
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     
|Direct cost of hosted, subscriber, and maintenance |                                              |              |    |     |               |   |    |     |   |   |     |      |   |  |    |    
|Direct cost of systems                             |                                              |              | 2.4 |     |               |   | 2.3 |     |   |   | 0.1  |      |   |  | 4   | %  
|Direct cost of services                            |                                              |              | 2.6 |     |               |   | 1.9 |     |   |   | 0.7  |      |   |  | 39  | %  
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     
|                                                   | Government segment cost of revenue           |              |     | 5.0 |               |   |     | 4.2 |   |   |      | 0.8  |   |  |     | 20  | % 
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     
|Hosted, subscriber, and maintenance gross profit   |                                              |              | 0.1 |     |               |   |    |     |   |   | 0.1  |      |   |  | NM  |    
|Systems gross profit                               |                                              |              | 0.9 |     |               |   | 1.8 |     |   |   | (0.9 | )    |   |  | (51 | %) 
|Services gross profit                              |                                              |              | 1.8 |     |               |   | 1.5 |     |   |   | 0.3  |      |   |  | 18  | %  
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     
|                                                   | Government segment gross profit*             |              | $   | 2.7 |               |   | $   | 3.3 |   |   | $    | (0.6 | ) |  |     | (17 | %)
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     
|                                                   | Segment gross profit as a percent of revenue |              |     | 35  | %             |   |     | 44  | % |   |      |      |   |  |     |     |   
|                                                   |                                              |              |     |     |               |   |     |     |   |   |      |     






|  |                                                                                                                   
|- | ------------------------------------------------------------------------------------------------------------------
|* | See discussion of segment reporting in Note 4 to the
    accompanying unaudited consolidated financial statements.

16



---



##### 







| |                                                                     
| | --------------------------------------------------------------------
| | Hosted, Subscriber, and Maintenance Revenue and Cost of
    Revenue:





| |                                     
| | ------------------------------------
| | Systems Revenue and Cost of Revenue:









| |                                      
| | -------------------------------------
| | Services Revenue and Cost of Revenue:



17



---



##### 









Major Customers




Revenue Backlog






Operating Expenses


Research and development expense:


|                                 |  |              |     |   |               |   |     |   |  |   |      |   |  |  |    |   
|-------------------------------- |  | ------------ | --- | - | ------------- | - | --- | - |  | - | ---- | - |  |  | -- | --
|                                 |  | Three Months |     |   |               |   |    
|                                 |  | Ended        |     |   |              
|                                 |  | March 31,    |     |   | 2005 vs. 2004 |  
|                                 |  |              |     |   |               |  
|($ in millions)                  |  | 2005         |     |   | 2004          |   |     | $ |  |   | %    |  
|                                 |  |              |     |   |               |   |     |   |  |   |      |  
|Research and development expense |  | $            | 4.7 |   |               | $ | 5.0 |   |  | $ | (0.4 | ) |  |  | (8 | %)
|Percent of total revenue         |  |              | 14  | % |               |   | 15  | % |  |   |      |   |  |  |    |   



18



---



##### 









Sales and marketing expense:


|                            |  |              |     |   |               |   |     |   |  |   |     |  |  |  |    |  
|--------------------------- |  | ------------ | --- | - | ------------- | - | --- | - |  | - | --- |  |  |  | -- | -
|                            |  | Three Months |     |   |               |   |    
|                            |  | Ended        |     |   |              
|                            |  | March 31,    |     |   | 2005 vs. 2004 |  
|                            |  |              |     |   |               |  
|($ in millions)             |  | 2005         |     |   | 2004          |   |     | $ |  |   | %   | 
|                            |  |              |     |   |               |   |     |   |  |   |     | 
|Sales and marketing expense |  | $            | 3.7 |   |               | $ | 3.2 |   |  | $ | 0.5 |  |  |  | 16 | %
|Percent of total revenue    |  |              | 11  | % |               |   | 10  | % |  |   |     |  |  |  |    |  



General and administrative expense:


|                                   |  |              |     |   |               |   |     |   |  |   |     |  |  |  |    |  
|---------------------------------- |  | ------------ | --- | - | ------------- | - | --- | - |  | - | --- |  |  |  | -- | -
|                                   |  | Three Months |     |   |               |   |    
|                                   |  | Ended        |     |   |              
|                                   |  | March 31,    |     |   | 2005 vs. 2004 |  
|                                   |  |              |     |   |               |  
|($ in millions)                    |  | 2005         |     |   | 2004          |   |     | $ |  |   | %   | 
|                                   |  |              |     |   |               |   |     |   |  |   |     | 
|General and administrative expense |  | $            | 4.9 |   |               | $ | 4.5 |   |  | $ | 0.5 |  |  |  | 10 | %
|Percent of total revenue           |  |              | 15  | % |               |   | 14  | % |  |   |     |  |  |  |    |  



19



---



##### 



Non-cash stock compensation expense:


|                                    |  |              |     |  |               |   |     |   |  |   |      |   |  |  |     |   
|----------------------------------- |  | ------------ | --- |  | ------------- | - | --- | - |  | - | ---- | - |  |  | --- | --
|                                    |  | Three Months |     |  |               |   |    
|                                    |  | Ended        |     |  |              
|                                    |  | March 31,    |     |  | 2005 vs. 2004 |  
|                                    |  |              |     |  |               |  
|($ in millions)                     |  | 2005         |     |  | 2004          |   |     | $ |  |   | %    |  
|                                    |  |              |     |  |               |   |     |   |  |   |      |  
|Non-cash stock compensation expense |  | $            | 0.2 |  |               | $ | 0.4 |   |  | $ | (0.2 | ) |  |  | (43 | %)





Depreciation and amortization of property and equipment:


|                                                               |  |                 |      |  |               |   |      |   |  |   |      |  |  |  |    |  
|-------------------------------------------------------------- |  | --------------- | ---- |  | ------------- | - | ---- | - |  | - | ---- |  |  |  | -- | -
|                                                               |  | Three Months    |      |  |              
|                                                               |  | Ended March 31, |      |  | 2005 vs. 2004 |  
|                                                               |  |                 |      |  |               |  
|($ in millions)                                                |  | 2005            |      |  | 2004          |   |      | $ |  |   | %    | 
|                                                               |  |                 |      |  |               |   |      |   |  |   |      | 
|Depreciation and amortization of property and equipment        |  | $               | 2.2  |  |               | $ | 1.7  |   |  | $ | 0.5  |  |  |  | 26 | %
|Average gross cost of property and equipment during the period |  | $               | 46.9 |  |               | $ | 34.5 |   |  | $ | 12.4 |  |  |  | 36 | %



Amortization of acquired intangible assets:


|                                           |  |              |     |  |               |   |     |   |  |   |     |  |  |  |    |  
|------------------------------------------ |  | ------------ | --- |  | ------------- | - | --- | - |  | - | --- |  |  |  | -- | -
|                                           |  | Three Months |     |  |               |   |    
|                                           |  | Ended        |     |  |              
|                                           |  | March 31     |     |  | 2005 vs. 2004 |  
|                                           |  |              |     |  |               |  
|($ in millions)                            |  | 2005         |     |  | 2004          |   |     | $ |  |   | %   | 
|                                           |  |              |     |  |               |   |     |   |  |   |     | 
|Amortization of acquired intangible assets |  | $            | 0.8 |  |               | $ | 0.5 |   |  | $ | 0.3 |  |  |  | 57 | %



20



---



##### 









| |                  
| | -----------------
| | Interest expense:

|                                                                 |  |              |     |  |               |   |     |   |  |   |      |   |  |  |     |   
|---------------------------------------------------------------- |  | ------------ | --- |  | ------------- | - | --- | - |  | - | ---- | - |  |  | --- | --
|                                                                 |  | Three Months |     |  |               |   |    
|                                                                 |  | Ended        |     |  |              
|                                                                 |  | March 31     |     |  | 2005 vs. 2004 |  
|                                                                 |  |              |     |  |               |  
|($ in millions)                                                  |  | 2005         |     |  | 2004          |   |     | $ |  |   | %    |  
|                                                                 |  |              |     |  |               |   |     |   |  |   |      |  
|Interest expense incurred on notes payable                       |  | $            | 0.1 |  |               | $ | 0.2 |   |  | $ | (0.1 | ) |  |  | (30 | %)
|Interest expense incurred on capital lease obligations           |  |              | 0.1 |  |               |   | 0.1 |   |  |   |     |   |  |  | 40  | % 
|Interest expense incurred on convertible subordinated debentures |  |              |    |  |               |   | 0.1 |   |  |   | (0.1 | ) |  |  | NM  |   
|Amortization of deferred commitment fees                         |  |              | 0.1 |  |               |   | 0.1 |   |  |   |     |   |  |  | (19 | %)
|Amortization of debt discount                                    |  |              |    |  |               |   | 0.3 |   |  |   | (0.3 | ) |  |  | NM  |   
|                                                                 |  |              |     |  |               |   |     |   |  |   |      |  
|Total interest expense                                           |  | $            | 0.3 |  |               | $ | 0.8 |   |  | $ | (0.5 | ) |  |  | (61 | %)







21



---



##### 







| |                    
| | -------------------
| | Other expense, net:





| |              
| | -------------
| | Income taxes:





| |          
| | ---------
| | Net loss:

|                |  |                 |      |   |          |   |      |   |  |   |     |  |  |  |     |   
|--------------- |  | --------------- | ---- | - | -------- | - | ---- | - |  | - | --- |  |  |  | --- | --
|                |  | Three Months    |      |   | 2005 vs. |  
|                |  | Ended March 31, |      |   | 2004     |  
|                |  |                 |      |   |          |  
|($ in millions) |  | 2005            |      |   | 2004     |   |      | $ |  |   | %   | 
|                |  |                 |      |   |          |   |      |   |  |   |     | 
|Net loss        |  | $               | (2.1 | ) |          | $ | (3.4 | ) |  | $ | 1.4 |  |  |  | (39 | %)



22



---



##### 



Liquidity and Capital Resources


|                                                                                    |                                         |      |      |      |      |               |       |       |   |  |       |       |   |  |     |    |  
|----------------------------------------------------------------------------------- | --------------------------------------- | ---- | ---- | ---- | ---- | ------------- | ----- | ----- | - |  | ----- | ----- | - |  | --- | -- | -
|                                                                                    |                                         |      |      |      |      | 2005 vs. 2004 |      
|                                                                                    |                                         |      |      |      |      |               |      
|($ in millions)                                                                     |                                         | 2005 |      |      | 2004 |               |       | $     |   |  | %     |      
|                                                                                    |                                         |      |      |      |      |               |       |       |   |  |       |      
|Net cash and cash equivalents provided by (used in):                                |                                         |      |      |      |      |               |       |       |   |  |       |       |   |  |     |   
|                                                                                    | Operating activities                    |      | $    | 2.8  |      |               | $     | (0.9  | ) |  | $     | 3.7   |   |  |     | NM |  
|                                                                                    | Investing activities                    |      |      | (1.1 | )    |               |       | (19.6 | ) |  |       | 18.6  |   |  |     | 95 | %
|                                                                                    | Financing activities                    |      |      | (2.3 | )    |               |       | 21.6  |   |  |       | (23.9 | ) |  |     | NM |  
|                                                                                    | Net change in cash and cash equivalents |      |      | (0.6 | )    |               |       | 1.1   |   |  |       | (1.7  | ) |  |     | NM |  
|Acquisitions, net of cash acquired                                                  |                                         |      | (0.1 | )    |      |               | (17.4 | )     |   |  | 17.4  |       |   |  | 100 | % 
|Purchases of property and equipment                                                 |                                         |      | (0.9 | )    |      |               | (2.0  | )     |   |  | 1.1   |       |   |  | 54  | % 
|Payments under long term debt and lease obligations                                 |                                         |      | (2.5 | )    |      |               | (1.5  | )     |   |  | (1.0  | )     |   |  | (66 | %)
|Proceeds from issuance of stock and debentures, net                                 |                                         |      |     |      |      |               | 21.0  |       |   |  | (21.0 | )     |   |  | NM  |   
|Financing fees from issuance of stock and debentures                                |                                         |      | (0.1 | )    |      |               | (1.1  | )     |   |  | 1.0   |       |   |  | 93  | % 
|Proceeds from long-term debt                                                        |                                         |      |     |      |      |               | 2.5   |       |   |  | (2.5  | )     |   |  | NM  |   
|Cash and cash equivalents                                                           |                                         |      | 17.7 |      |      |               | 19.9  |       |   |  | (2.2  | )     |   |  | (11 | %)
|Changes in:                                                                         |                                         |      |      |      |      |               |       |       |   |  |       |       |   |  |     |   
|                                                                                    | Accounts receivable, net                |      |      | (1.7 | )    |               |       | 4.0   |   |  |       |       |   |  |     |    |  
|                                                                                    | Unbilled receivables                    |      |      | 4.7  |      |               |       | (1.5  | ) |  |       |       |   |  |     |    |  
|                                                                                    | Inventory                               |      |      | 1.1  |      |               |       | (1.6  | ) |  |       |       |   |  |     |    |  
|                                                                                    | Other current assets                    |      |      | (0.9 | )    |               |       | (1.4  | ) |  |       |       |   |  |     |    |  
|                                                                                    | Accounts payable and accrued expenses   |      |      | (3.1 | )    |               |       | (0.1  | ) |  |       |       |   |  |     |    |  
|                                                                                    | Accrued payroll and related liabilities |      |      | (0.4 | )    |               |       | (0.4  | ) |  |       |       |   |  |     |    |  
|                                                                                    | Deferred revenue                        |      |      | 1.7  |      |               |       | 0.2   |   |  |       |       |   |  |     |    |  
|Days revenues outstanding in accounts receivable including
    unbilled receivables |                                         |      | 85   |      |      |               | 97    |       |   |  |       |       |   |  |     |   









23



---



##### 

















24



---



##### 



Off-Balance Sheet Arrangements




Contractual Commitments




|                          |  |           |      |  |       |   |      |       |  |   |         |  |  |       |     |  |  |   |      | 
|------------------------- |  | --------- | ---- |  | ----- | - | ---- | ----- |  | - | ------- |  |  | ----- | --- |  |  | - | ---- | 
|                          |  |           |      |  |       |   |      | More  |  |   |        
|                          |  | Within 12 |      |  | 1-3   |   |      | 3-5   |  |   | than    |  |  |      
|($ in millions)           |  | Months    |      |  | Years |   |      | Years |  |   | 5 Years |  |  | Total |    
|                          |  |           |      |  |       |   |      |       |  |   |         |  |  |       |    
|Notes payable             |  | $         | 10.5 |  |       | $ | 0.6  |       |  | $ |        |  |  | $     |    |  |  | $ | 11.1 | 
|Capital lease obligations |  |           | 3.1  |  |       |   | 3.1  |       |  |   |        |  |  |       |    |  |  |   | 6.2  | 
|Operating leases          |  |           | 4.1  |  |       |   | 7.8  |       |  |   | 4.2     |  |  |       | 0.7 |  |  |   | 16.8 | 
|                          |  |           |      |  |       |   |      |       |  |   |         |  |  |       |    
|                          |  | $         | 17.7 |  |       | $ | 11.5 |       |  | $ | 4.2     |  |  | $     | 0.7 |  |  | $ | 34.1 | 
|                          |  |           |      |  |       |   |      |       |  |   |         |  |  |       |    

Related Party Transactions




25



---



##### 








|        |                                                               
|------- | --------------------------------------------------------------
|Item 3. | Quantitative and Qualitative Disclosures About Market
    Risk

Interest Rate Risk








Foreign Currency Risk













|        |                        
|------- | -----------------------
|Item 4. | Controls and Procedures



26



---



##### 






PART II.  OTHER INFORMATION







|        |                  
|------- | -----------------
|Item 1. | Legal Proceedings








|        |                                                                
|------- | ---------------------------------------------------------------
|Item 2. | Unregistered Sales of Equity Securities and Use of
    Proceeds








|        |                                
|------- | -------------------------------
|Item 3. | Defaults Upon Senior Securities








|        |                                                    
|------- | ---------------------------------------------------
|Item 4. | Submission of Matters to a Vote of Security Holders








|        |                  
|------- | -----------------
|Item 5. | Other Information










|        |         
|------- | --------
|Item 6. | Exhibits

|        |      |             |  |                                                                                                                               
|------- | ---- | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------
|Exhibit |      |            
|Numbers |      | Description
|        |      |            
|        | 31.1 |             |  | Certification pursuant to 18 U.S.C. Section 1350, as
    adopted pursuant to Section 302 of the Sarbanes-Oxley Act
    of 2002
|        | 31.2 |             |  | Certification pursuant to 18 U.S.C. Section 1350, as
    adopted pursuant to Section 302 of the Sarbanes-Oxley Act
    of 2002
|        | 32.1 |             |  | Certification pursuant to 18 U.S.C. Section 1350, as
    adopted pursuant to Section 906 of the Sarbanes-Oxley Act
    of 2002
|        | 32.2 |             |  | Certification pursuant to 18 U.S.C. Section 1350, as
    adopted pursuant to Section 906 of the Sarbanes-Oxley Act
    of 2002

27



---



##### 






SIGNATURES






| |                                
| | -------------------------------
| | TELECOMMUNICATION SYSTEMS, INC.



| |     |                    
| | --- | -------------------
| | By: | /s/ Maurice B. Tosé

| |                                                
| | -----------------------------------------------
| |                                                
| | Maurice B. Tosé                                
| | Chairman, President and Chief Executive Officer



|                                                                       |  |                                                                                    
|---------------------------------------------------------------------- |  | -----------------------------------------------------------------------------------
|/s/ Maurice B.
    ToséMaurice
    B. Tosé
    May 9, 2005             |  | Chairman, President and Chief Executive Officer
    (Principal Executive Officer)  
|                                                                      
|/s/ Thomas M.
    Brandt, Jr.Thomas
    M. Brandt, Jr.
    May 9, 2005 |  | Senior Vice President and Chief Financial Officer
    (Principal Financial Officer)

28