U.S. SECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549

FORM 10-QSB

(Mark One)

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

For the quarterly period ended March 31, 2002

|o | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
|- | ---------------------------------------------------------------

For the transition period from  to

Commission file number 001-15757

IMAGEWARE SYSTEMS, INC.(Exact Name of Small Business Issuer as Specified in Its Charter)

California(State or Other Jurisdiction of Incorporation or Organization)

33-0224167(IRS Employer Identification No.)


10883 Thornmint Road
San Diego, CA 92127(Address of Principal Executive Offices)

(858) 673-8600(Issuer's Telephone Number, Including Area Code)

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

State
the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date: As of May 6, 2002, the number of outstanding shares of
the Registrant's common stock, par value $.01, was 5,483,439.

Transitional
Small Business Disclosure Format (check
one) Yes o    No ý

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IMAGEWARE SYSTEMS, INC.        INDEX

|           |  |                       |  |                                                                                                            |  | Page No.
|---------- |  | --------------------- |  | ---------------------------------------------------------------------------------------------------------- |  | --------
|PART I     |  | FINANCIAL INFORMATION |  |                                                                                                           
|           |  | ITEM 1.               |  | FINANCIAL STATEMENTS (UNAUDITED)                                                                           |  |         
|           |  |                       |  | Condensed Consolidated Balance Sheet as of March 31, 2002                                                  |  | 3       
|           |  |                       |  | Condensed Consolidated Statements of Operations for the three months ended March 31, 2002 and 2001         |  | 4       
|           |  |                       |  | Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2002 and 2001         |  | 5       
|           |  |                       |  | Condensed Consolidated Statements of Comprehensive Loss for the three months ended March 31, 2002 and 2001 |  | 6       
|           |  |                       |  | Notes to Condensed Consolidated Financial Statements                                                       |  | 7       
|           |  | ITEM 2.               |  | Management's Discussion and Analysis of Financial Condition and Results of Operations                      |  | 13      
|PART II    |  | OTHER INFORMATION     |  |                                                                                                           
|           |  | ITEM 1.               |  | LEGAL PROCEEDINGS                                                                                          |  | 25      
|           |  | ITEM 6.               |  | EXHIBITS AND REPORTS ON FORM 8-K                                                                           |  | 25      
|SIGNATURES |  | 26                   

---



PART I  FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

IMAGEWARE SYSTEMS, INC.        CONDENSED CONSOLIDATED BALANCE SHEET        (IN THOUSANDS)        (UNAUDITED)

|                                                   |                                                                                                                                                                                                                                 | March 31,
2002 |                                           
|-------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------- | ------------------------------------------
|ASSETS                                             |                                                                                                                                                                                                                                 |                |                                           
|Current Assets:                                    |                                                                                                                                                                                                                                 |                |                                           
|                                                   | Cash                                                                                                                                                                                                                            |                | $                                         
|                                                   | Restricted cash and cash equivalents                                                                                                                                                                                            |                |                                           
|                                                   | Accounts receivable, net                                                                                                                                                                                                        |                |                                           
|                                                   | Inventories                                                                                                                                                                                                                     |                |                                           
|                                                   | Other current assets                                                                                                                                                                                                            |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                | Total Current Assets                      
|Property and equipment, net                        |                                                                                                                                                                                                                                 |                | 1,136                                     
|Other assets                                       |                                                                                                                                                                                                                                 |                | 241                                       
|Intangible assets, net of accumulated amortization |                                                                                                                                                                                                                                 |                | 131                                       
|Goodwill                                           |                                                                                                                                                                                                                                 |                | 7,108                                     
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|LIABILITIES AND STOCKHOLDERS' EQUITY               |                                                                                                                                                                                                                                 |                |                                           
|Current Liabilities:                               |                                                                                                                                                                                                                                 |                |                                           
|                                                   | Accounts payable                                                                                                                                                                                                                |                | $                                         
|                                                   | Deferred revenue                                                                                                                                                                                                                |                |                                           
|                                                   | Accrued expenses                                                                                                                                                                                                                |                |                                           
|                                                   | Accrued expenses  related parties                                                                                                                                                                                              |                |                                           
|                                                   | Accrued interest                                                                                                                                                                                                                |                |                                           
|                                                   | Notes & advances payable to 3rd parties                                                                                                                                                                                         |                |                                           
|                                                   | Notes payable to related parties                                                                                                                                                                                                |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                | Total Current Liabilities                 
|Stockholders' equity (deficit):                    |                                                                                                                                                                                                                                 |                |                                           
|                                                   | Preferred stock, $.01 par value, authorized 4,000,000 shares Series B convertible redeemable preferred stock, designated 750,000 shares, 389,400 shares issued, and 304,400 shares outstanding, liquidation preference
$761,000 |                |                                           
|                                                   | Common stock, $.01 par value, 50,000,000 shares authorized, 5,481,311 shares issued and outstanding                                                                                                                             |                |                                           
|                                                   | Additional paid in capital                                                                                                                                                                                                      |                |                                           
|                                                   | Treasury stock, at cost  6,704 shares                                                                                                                                                                                          |                |                                           
|                                                   | Stockholder note receivable                                                                                                                                                                                                     |                |                                           
|                                                   | Accumulated other comprehensive loss                                                                                                                                                                                            |                |                                           
|                                                   | Accumulated deficit                                                                                                                                                                                                             |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                |                                           
|                                                   |                                                                                                                                                                                                                                 |                | Total Stockholders' Equity and Liabilities
|                                                   |                                                                                                                                                                                                                                 |                |                                           

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

3

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IMAGEWARE SYSTEMS, INC.        CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS        (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)        (UNAUDITED)

|                                                       |                               | THREE MONTHS ENDED
March 31, |          
|------------------------------------------------------ | ----------------------------- | ---------------------------- | ---------
|
|Revenues:                                              |                               |                              |          
|                                                       | Product                       |                              | $        
|                                                       | Maintenance                   |                              |          
|                                                       |                               |                              |          
|                                                       |                               |                              | 3,668    
|Cost of revenues:                                      |                               |                              |          
|                                                       | Product                       |                              |          
|                                                       | Maintenance                   |                              |          
|                                                       |                               |                              |          
|Gross profit                                           |                               |                              | 2,111    
|                                                       |                               |                              |          
|Operating expenses:                                    |                               |                              |          
|                                                       | General & administrative      |                              |          
|                                                       | Sales and marketing           |                              |          
|                                                       | Research & development        |                              |          
|                                                       | Depreciation and amortization |                              |          
|                                                       |                               |                              |          
|                                                       |                               |                              | 3,616    
|                                                       |                               |                              |          
|Loss from operations                                   |                               |                              | (1,505   
|Interest (income) expense, net                         |                               |                              | 4        
|Other (income) expense, net                            |                               |                              | (20      
|                                                       |                               |                              |          
|Net loss                                               |                               | $                            | (1,489   
|                                                       |                               |                              |          
|Basic and diluted (loss) per common share  see note 2 |                               |                              | (0.27    
|Weighted-average shares (basic and diluted)            |                               |                              | 5,481,311

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

4

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ImageWare Systems, Inc.        Condensed Consolidated Statements of Cash Flows        (IN THOUSANDS)        (UNAUDITED)

|                                     |                                                                            | Three Months Ended March 31,          |                                     
|------------------------------------ | -------------------------------------------------------------------------- | ------------------------------------- | ------------------------------------
|
|Cash flows from operating activities |                                                                            |                                       |                                     
|                                     | Net loss                                                                   |                                       | $                                   
|                                     | Adjustments to reconcile net loss to net cash used by operating activities |                                       |                                     
|                                     |                                                                            | Depreciation and amortization         |                                     
|                                     |                                                                            | Non-cash interest on convertible debt |                                     
|                                     |                                                                            | Deferred revenue                      |                                     
|                                     |                                                                            | Change in assets and liabilities      |                                     
|                                     |                                                                            |                                       | Restricted cash and cash equivalents
|                                     |                                                                            |                                       | Accounts receivable, net            
|                                     |                                                                            |                                       | Inventory                           
|                                     |                                                                            |                                       | Other assets                        
|                                     |                                                                            |                                       | Intangible assets                   
|                                     |                                                                            |                                       | Accounts payable                    
|                                     |                                                                            |                                       | Accrued expenses                    
|                                     |                                                                            |                                       | Accrued interest                    
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|Cash flows from investing activities |                                                                            |                                       |                                     
|                                     | Purchase of property and equipment                                         |                                       |                                     
|                                     | Acquisition of business, net of cash acquired                              |                                       |                                     
|                                     | Payment on advances from related stockholders                              |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|Cash flows from financing activities |                                                                            |                                       |                                     
|                                     | Repayment of notes payable                                                 |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|Cash at beginning of period          |                                                                            |                                       | 388                                 
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     
|                                     |                                                                            |                                       |                                     

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

5

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IMAGEWARE SYSTEMS, INC.        CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS        (IN THOUSANDS)        (UNAUDITED)

|                                   |                                         | Three Months Ended
March 31, |       
|---------------------------------- | --------------------------------------- | ---------------------------- | ------
|
|Net loss                           |                                         | $                            | (1,489
|Other comprehensive income (loss): |                                         |                              |       
|                                   | Foreign currency translation adjustment |                              |       
|                                   |                                         |                              |       
|Comprehensive loss                 |                                         | $                            | (1,504
|                                   |                                         |                              |       

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

6

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IMAGEWARE SYSTEMS, INC.        NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1.    DESCRIPTION OF BUSINESS AND OPERATIONS

ImageWare Systems, Inc. (the "Company"), formerly known as ImageWare Software, Inc., was incorporated in the State of California on
February 6, 1987. ImageWare Systems, Inc. utilizes its imaging technology to develop software used to create booking and investigative software, smart and secure identification systems
and documents, and software for professional photographers. Our software systems and associated hardware enable our customers to quickly capture, archive, search, retrieve and share digital
photographs and associated text records.



The condensed consolidated financial statements included in this report have been prepared assuming that the Company will be successful in obtaining the
additional capital it needs to fund operations and implement its business plan. The Company used approximately $2,186,000 in operations during the year ended December 31, 2001 and $6,000 in
operations during the three months ended March 31, 2002 and has suffered recurring losses from operations and has an accumulated deficit of approximately $31,960,000 at March 31, 2002
which raises substantial doubt about the Company's ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this
uncertainty.

The
Company operates in markets that are emerging and highly competitive. There is no assurance that the Company will operate at a profit in the future.

New
financing will be required to fund working capital and operations. The Company is exploring the possible sale of equity securities or debt financing, and believes that additional
financing will be available under terms and conditions that are acceptable to the Company. However, there can be no assurance that additional financing will be available. In the event financing is not
available in the time frame required, the Company will be forced to reduce its rate of growth, if any, reduce operating expenses, curtail sales and marketing activities and reschedule research and
development projects. In addition, the Company might be required to sell certain of its assets or license its technologies to others. These actions, while necessary for the continuance of operations
during a time of cash constraints and a shortage of working capital, could adversely affect the Company's long-term business.



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

The
accompanying condensed consolidated unaudited financial statements of ImageWare Systems, Inc. ("ImageWare" or the "Company") have been prepared pursuant to the rules and
regulations of the Securities and Exchange Commission regarding interim financial reporting. Accordingly, they do not include all of the information and footnotes required by generally accepted
accounting principles for annual financial statements and should be read in conjunction with the consolidated financial statements for the year ended December 31, 2001 and notes thereto
included in the Company's Annual Report on Form 10-KSB, filed with the SEC on April 1, 2002. In the opinion of management, the accompanying condensed consolidated financial
statements contain all adjustments, consisting only of adjustments of a normal recurring nature, necessary for a fair presentation of the

7

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Company's financial position as of March 31, 2002, and its results of operations for the periods presented. These condensed consolidated unaudited financial statements are not necessarily
indicative of the results to be expected for the entire year.

NOTE 2.    NET LOSS PER COMMON SHARE

Basic loss per common share is calculated by dividing net loss available to common shareholders for the period by the weighted-average number of common shares
outstanding during the period. Diluted earnings per common share is calculated by dividing net loss available to common shareholders for the period by the weighted-average number of common shares
outstanding during the period, adjusted to include, if dilutive, potential dilutive shares consisting of convertible preferred stock, stock options and warrants, calculated using the treasury stock
method. During the periods ended March 31, 2002 and 2001, the Company has excluded all convertible preferred stock and outstanding stock options and
warrants from the calculation of diluted loss per share, as their effect would have been antidilutive due to the Company's net loss.

The
following table sets forth the computation of basic and diluted loss per share for the three month periods ended March 31, 2002 and 2001 (amounts in thousands except share and
per share amounts):

THREE MONTHS ENDED
March 31,2002

2001NumeratorNet loss

$
(1,489
)
$
(883
)Less Series B preferred dividends


(16
)

(18
)Loss available to common shareholders

$
(1,505
)
$
(901
)DenominatorWeighted-average shares outstanding


5,481,311


4,205,440Basic and diluted loss per share

$
(0.27
)
$
(0.21
)


NOTE 3.    BUSINESS COMBINATIONS AND ACQUISITION OF ASSETS

On March 30, 2001, the Company completed the purchase of substantially all the assets of G & A Imaging Ltd. (G & A), a privately held
developer of software and software systems for digital identification documents for a total purchase price of $3,046,000 in cash ($2,500,000 to selling shareholders and approximately $546,000 in
direct transaction costs) and the issuance of 665,000 shares of the Company's common stock valued at approximately $3,634,000 based on the fair value of the Company's common stock a few days before
and after the agreement of terms and announcement. The acquisition was accounted for using the purchase method of accounting and, accordingly, G & A's results of operations have been included
in the consolidated financial statements since the date of acquisition.

On
August 10, 2001, the Company completed its acquisition of Castleworks LLC, a Nevada limited liability company ("Castleworks"), and E-Focus West LLC, a Nevada
limited liability company ("E-Focus"), from Castle Holdings LLC, a Nevada limited liability company ("Castle Holdings") for a

8

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total purchase price of $234,000 in cash ($100,000 to selling shareholders and $134,000 in direct transaction costs) and the issuance of 600,000 shares of the Company's common stock valued at
approximately $1,808,000 based on the fair value of the Company's common stock a few days before and after the agreement of terms and announcement. As a result of this transaction, Castleworks and
E-Focus became wholly owned subsidiaries of ImageWare. The acquisition was accounted for using the purchase method of accounting and, accordingly, Castleworks and E-Focus
West's results of operations have been included in the consolidated financial statements since the date of acquisition. Castleworks and E-Focus develop digital imaging software for
professional photographic purposes.

The
following table presents the allocation of the acquisition cost for the G&A and Castleworks and E-Focus acquisitions, including professional fees and other related
acquisition costs, to the assets acquired and liabilities assumed:

G&A
Imaging

Castleworks &
E-Focus WestCash

$


25,000Accounts receivable


778,000

157,000Inventories


789,000

189,000Other current assets


1,075,000

21,000Property, plant and equipment, net


325,000

248,000Other intangibles




Goodwill


6,154,000

1,707,000Total assets


9,121,000

2,347,000Amounts payable to banks and long-term debt due within one year


(789,000
)
Other current liabilities


(1,581,000
)
(304,000
)Long-term obligations, net of current portion


(71,000
)
Total liabilities


(2,441,000
)
(304,000
)Total acquisition cost


6,680,000

2,043,000


The
allocation of the purchase price is based on preliminary data and could change when final valuation information is obtained. The Company expects to receive third-party appraisals and
complete its purchase price allocation of G&A in the second quarter of 2002 and Castleworks and E-Focus in the third quarter of 2002.

9

---

The
following (unaudited) pro forma consolidated results of operations for the three months ended March 31, 2002 and 2001 have been prepared as if the acquisition of G & A,
Castleworks and E-Focus had occurred at January 1, 2001:

Three Months Ended March 31,2002

2001Sales

$
3,668,000

$
4,497,000Net income (loss)


(1,489,000
)

(1,412,000
)Net income (loss) per share  basic


(.27
)

(0.26
)


The
pro forma information is presented for informational purposes only and is not necessarily indicative of the results of operations that actually would have been achieved had the
acquisition been consummated as of that time, nor is it intended to be a projection of future results.

NOTE 4.    INVENTORY

Inventories at March 31, 2002 were comprised of finished goods of $899,000.

NOTE 5.    SEGMENT INFORMATION

Prior to its acquisition of G & A, the Company operated in one business segment. During 2002, the Company has reorganized its reportable segments into
geographical groups: Americas, International and Digital Photography. In the Company's Americas segment, the Company develops, sells and supports a suite of modular software products and designs
systems used by law enforcement and public safety agencies to manage criminal history records and investigate crime as well as develops, sells and supports software and designs systems which utilize
digital imaging in the production of photo identification cards, documents and identification badging systems. The Americas segment includes North, Central and South America. The Company's
International segment includes all geographic areas other than North, Central and South America. The Company's International segment develops, sells and supports software and designs systems utilizing
digital imaging in the production of photo identification cards, documents and identification badging systems. The Digital Photography segment develops digital imaging software for professional
photographic purposes.

10

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The
table below summarizes information about reportable segments for the three months ended March 31, 2002:

SEGMENT INFORMATION:

|                             |                           | THREE MONTHS
ENDED
MARCH 31,
2002 |       
|---------------------------- | ------------------------- | --------------------------------- | ------
|
|Net Revenue:                 |                           |                                   |       
|                             | Americas                  |                                   | $     
|                             | International             |                                   |       
|                             | Digital Photography       |                                   |       
|                             |                           |                                   |       
|Total consolidated net sales |                           | $                                 | 3,668 
|Operating loss:              |                           |                                   |       
|                             | Americas                  |                                   | $     
|                             | International             |                                   |       
|                             | Digital Photography       |                                   |       
|Other unallocated amounts:   |                           |                                   |       
|                             | Interest expense (income) |                                   |       
|                             | Other expense (income)    |                                   |       
|                             |                           |                                   |       
|Income (loss) before taxes   |                           | $                                 | (1,489
|                             |                           |                                   |       

Total Assets by Segment:

|                                     |  | March 31,
2002
|------------------------------------ |  | --------------
|
|Americas                             |  | $             
|International                        |  |               
|Digital Photography                  |  |               
|                                     |  |               
|Total assets for reportable segments |  |               
|Corporate                            |  |               
|                                     |  |               
|Total consolidated assets            |  | $             
|                                     |  |               

No
segment information is provided for the three months ended March 31, 2001 as the Company operated in one segment during this period consisting solely of modular software
products and design systems used by law enforcement and public safety agencies and digital imaging in the production of photo identification cards, documents, and identification badging systems sold
domestically.

The
Company has total assets in foreign locations as follows: $1,830,000 in Germany, $400,000 in Canada and $184,000 in Singapore. Revenues generated from the Company's foreign locations
were $992,000 and $0 for three months ended March 31, 2002 and 2001, respectively.

11

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NOTE 6.    RECENTLY ISSUED ACCOUNTING STANDARDS

In July 2001, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards No. 141, "Business Combinations"
("FAS 141") and No. 142, "Goodwill and Other Intangible Assets" ("FAS 142"). FAS 141 requires all business combinations initiated after June 30, 2001 to be accounted
for using the purchase method. Under FAS 142, goodwill and intangible assets with indefinite lives are no longer amortized but are reviewed annually (or more frequently if impairment indicators
arise) for impairment. Separable intangible assets that are not deemed to have indefinite lives will continue to be amortized over their useful lives (but with no maximum life). The amortization
provisions of FAS 142 applied immediately to goodwill and intangible assets acquired after June 30, 2001.

As
required by FAS 142, the Company is in the process of assessing whether goodwill within its three primary reporting units was impaired at the date of adoption of this
pronouncement, using a two-step transitional impairment test process. The first step, which we must complete by June 30, 2002, is our identification of potential impairment measured
as of January 1, 2002. If potential impairment is identified in step one, we will be required to complete a second step to measure the actual amount of the impairment loss, if any, prior to
December 31, 2002. We expect to complete both of these tests prior to June 30, 2002. Any impairment loss resulting from these transitional impairment tests will be reflected as the
cumulative effect of a change in accounting principle retroactive to the first quarter 2002. As we have not yet completed these impairment tests, we have not yet determined the impact, if any, that
they will have on our financial position or results of operations.

For
comparative purposes, the following table summarizes net loss and net loss per share information for the quarter ended March 31, 2001 on a pro forma basis, adjusted to exclude
amortization of goodwill:

Three Months Ended March 31, 2001Net loss:Reported net loss

$
(883
)Amortization of goodwill


241Adjusted net loss

$
(642
)Basic and diluted net loss per share:Reported basic and diluted net loss per share

$
(0.21
)Amortization of goodwill

$
0.06Basic and diluted net loss per share

$
(0.15
)


In
October 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 144 "Accounting for the Impairment or Disposal of
Long-Lived Assets" ("FAS 144"). FAS 144 requires, among other things, the application of one accounting model for long-lived assets that are impaired or to be
disposed of by sale. FAS 142 also revises the accounting for discontinued operations. The adoption of FAS 144 did not have a significant impact on our consolidated financial position,
results of operations or disclosures.

12

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

This Quarterly Report on Form 10-QSB contains forward-looking statements within the meaning of Section 27A of the Securities Act of
1933, and Section 21E of the Securities Exchange Act of 1934. All forward-looking statements included in this report are based on information available to us as of the date hereof and we assume
no obligation to update any forward-looking statements. Forward-looking statements involve known or unknown risks, uncertainties and other factors, which may cause our actual results, performance or
achievements, or industry results to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Factors that could cause or
contribute to such differences include but are not limited to those items discussed under "Risk Factors" and elsewhere in this Quarterly Report.

The
following discussion of the financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements included elsewhere within
this quarterly report. Fluctuations in annual and quarterly results may occur as a result of factors affecting demand for the Company's products such as the timing of new product introductions by us
and by our competitors and our customers' political and budgetary constraints. Due to such fluctuations, historical results and percentage relationships are not necessarily indicative of the operating
results for any future period.

OVERVIEW

ImageWare Systems, Inc. utilizes its imaging technology to develop software used to create booking and investigative software, smart and secure
identification systems and documents, and software for professional photographers. Our software systems and associated hardware enable our customers to quickly capture, archive, search, retrieve and
share digital photographs and associated text records.

The
following management's discussion and analysis of financial condition and results of operations is based upon our reorganization of business segments into geographical groups and
accordingly, our discussion and analysis of financial condition and results of operations will be based on the following segments:

Americas
segment. This geographical segment includes North, Central and South America. We develop, sell and support of a suite of modular software products and design systems used by law
enforcement and public safety agencies to manage criminal history records and investigate crime as well as the develop, sell and support software and design systems which utilize digital imaging in
the production of photo identification cards, documents and identification badging systems.

International
segment. This geographical segment develops, sells and supports software and designs systems which utilize digital imaging in the production of photo identification cards,
documents and identification badging systems in all areas other than North, Central and South America.

Digital
Photography segment. The Digital Photography segment develops digital imaging software for photographic purposes.

13

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RESULTS OF OPERATIONS

THREE MONTHS ENDED MARCH 31, 2002 AND 2001.

|                  |                            | THREE MONTHS ENDED
MARCH 31,            |   |       |    |   |      
|----------------- | -------------------------- | --------------------------------------- | - | ----- | -- | - | -----
|
|Product revenues: |                            |                                         |   |       |    |   |      
|                  | Americas                   |                                         | $ | 1,840 |    | $ | 2,314
|                  |                            | Percentage of total net product revenue |   |       | 61 | % |      
|                  | International              |                                         | $ | 871   |    | $ |     
|                  |                            | Percentage of total net product revenue |   |       | 29 | % |      
|                  | Digital Photography        |                                         | $ | 285   |    | $ |     
|                  |                            | Percentage of total net product revenue |   |       | 10 | % |      
|                  |                            |                                         |   |       |    |   |      
|                  | Total net product revenues |                                         | $ | 2,996 |    | $ | 2,314
|                  |                            |                                         |   |       |    |   |      

Product
revenues increased 29% from $2,314,000 for the three months ended March 31, 2001 to $2,996,000 for the corresponding period in 2002. Revenues related to identification
systems and software and law enforcement products in the Americas decreased $474,000 for the three months ended March 31, 2002 as compared to the corresponding period in 2001. We believe that
the decrease in both identification systems and software and law enforcement product revenues is reflective of the timing of the governmental procurement process and related sales cycle, which is not
uncommon to run between a few months to over a year. We believe that the increase in terrorism during the past year has created heightened interest in the ability of law enforcement and other
government agencies to be able to efficiently retrieve, analyze and share information from their respective criminal databases. We
also believe that government agencies and private entities will react to the increased terrorism by re-evaluating and upgrading their ability to positively identify and track their employees,
consultants and visitors. We anticipate that these factors will increase overall demand for the Company's products, however, we cannot predict the timing of the shift in demand.

International
product revenues were $871,000 for the three months ended March 31, 2002. There were no such revenues in the corresponding period in 2001 as we acquired this
business on March 30, 2001 through our acquisition of G & A Imaging, which commenced our international sales.

Revenues
related to our Digital Photography products were $285,000 for the three months ended March 31, 2002. There were no such revenues in corresponding period of 2001 as we
acquired this

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business (Castleworks and E-Focus) August 10, 2001. Our backlog of product orders as of March 31, 2002 was approximately $1,619,000.

|                      |                                | THREE MONTHS ENDED
MARCH 31,                  |   |     |    |   |    
|--------------------- | ------------------------------ | --------------------------------------------- | - | --- | -- | - | ---
|
|Maintenance revenues: |                                |                                               |   |     |    |   |    
|                      | Americas                       |                                               | $ | 539 |    | $ | 446
|                      |                                | Percentage of total net maintenenance revenue |   |     | 80 | % |    
|                      | International                  |                                               | $ | 121 |    | $ |   
|                      |                                | Percentage of total net maintenenance revenue |   |     | 18 | % |    
|                      | Digital Photography            |                                               | $ | 12  |    | $ |   
|                      |                                | Percentage of total net maintenenance revenue |   |     | 2  | % |    
|                      |                                |                                               |   |     |    |   |    
|                      | Total net maintenance revenues |                                               | $ | 672 |    | $ | 446
|                      |                                |                                               |   |     |    |   |    

Maintenance
revenues increased 51% from $446,000 for the three months ended March 31, 2001 to $672,000 for the corresponding period in 2002. This increase is due to the expansion
of our installed base of both law enforcement and identification systems in the Americas and the addition of our international and Digital Photography businesses subsequent to March 30, 2001.
Maintenance revenues related to our international operations and Digital Photography were $121,000 and $12,000 respectively for the three months ended March 31, 2002. There were no such
revenues in the corresponding period in 2001 as we acquired these businesses through our acquisitions of G & A, Castleworks and E-Focus subsequent to March 30, 2001.

|                          |                                | THREE MONTHS ENDED
MARCH 31,                      |   |       |    |   |    
|------------------------- | ------------------------------ | ------------------------------------------------- | - | ----- | -- | - | ---
|
|Cost of Product Revenues: |                                |                                                   |   |       |    |   |    
|                          | Americas                       |                                                   | $ | 687   |    | $ | 920
|                          |                                | Percentage of Americas product revenue            |   |       | 37 | % |    
|                          | International                  |                                                   | $ | 474   |    | $ |   
|                          |                                | Percentage of International product revenue       |   |       | 54 | % |    
|                          | Digital Photography            |                                                   | $ | 116   |    | $ |   
|                          |                                | Percentage of digital photography product revenue |   |       | 41 | % |    
|                          |                                |                                                   |   |       |    |   |    
|                          | Total product cost of revenues |                                                   | $ | 1,277 |    | $ | 920
|                          |                                |                                                   |   |       |    |   |    
|                          |                                | Percentage of total product revenues              |   |       | 43 | % |    

Cost
of product revenues as a percentage of product revenues increased from 40% for the three month period ended March 31, 2001 to 43% of product revenues for the corresponding
period in 2002. This increase is due primarily to the inclusion of international product revenues resulting from the G & A acquisition on March 30, 2001. These international product
revenues typically contain a relatively higher percentage of print media consumables resulting in higher cost of sales as a percentage of product revenues. Cost of product revenues for the Americas
decreased 3% as a percentage of Americas revenue from 40% for the three month period ended March 31, 2001 to 37% for the corresponding period in 2002. The dollar decrease of $233,000 or 25%
reflects lower revenues of both

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law enforcement and identification products in the Americas segment. Costs of products can vary as a percentage of product revenue from period to period depending upon product mix and the hardware
content, print media consumable content and software content included in systems installed during a given period.

|                              |                                    | THREE MONTHS ENDED MARCH 31,                          |   |     |    |   |    
|----------------------------- | ---------------------------------- | ----------------------------------------------------- | - | --- | -- | - | ---
|
|Maintenance cost of revenues: |                                    |                                                       |   |     |    |   |    
|                              | Americas                           |                                                       | $ | 220 |    | $ | 284
|                              |                                    | Percentage of Americas maintenance revenue            |   |     | 41 | % |    
|                              | International                      |                                                       | $ | 60  |    | $ |   
|                              |                                    | Percentage of International maintenance revenue       |   |     | 50 | % |    
|                              | Digital Photography                |                                                       | $ |    |    | $ |   
|                              |                                    | Percentage of digital photography maintenance revenue |   |     |    |   |    
|                              |                                    |                                                       |   |     |    |   |    
|                              | Total maintenance cost of revenues |                                                       | $ | 280 |    | $ | 284
|                              |                                    |                                                       |   |     |    |   |    
|                              |                                    | Percentage of total maintenance revenues              |   |     | 42 | % |    

Costs
of maintenance revenues decreased 1% from $284,000, or 64% of maintenance revenues, for the three months ended March 31, 2001 to $280,000, or 42% of maintenance revenues,
for the corresponding period in 2002. This decrease in costs of maintenance revenues as a percentage of maintenance revenues is due primarily to a larger revenue base to absorb fixed maintenance
costs. Also contributing to the reduction in cost of maintenance revenues was the movement of certain help desk functions from San Diego to our Canadian office resulting in lower personnel costs.
International maintenance cost of revenues increased due to our acquisition of G &A.

|                           |                                                   | THREE MONTHS ENDED MARCH 31, |       |    |   |       |   
|-------------------------- | ------------------------------------------------- | ---------------------------- | ----- | -- | - | ----- | --
|
|Americas                   |                                                   | $                            | 1,153 |    | $ | 1,394 |   
|                           | Percentage of Americas product revenue            |                              |       | 63 | % |       | 60
|International              |                                                   | $                            | 397   |    | $ |      |   
|                           | Percentage of International product revenue       |                              |       | 46 | % |       |   
|Digital Photography        |                                                   | $                            | 169   |    | $ |      |   
|                           | Percentage of digital photography product revenue |                              |       | 59 | % |       |   
|                           |                                                   |                              |       |    |   |       |   
|Total product gross profit |                                                   | $                            | 1,719 |    | $ | 1,394 |   
|                           |                                                   |                              |       |    |   |       |   
|                           | Percentage of total product revenues              |                              |       | 57 | % |       | 60

Total
product gross margins as a percentage of product revenues decreased from 60% for the three month period ended March 31, 2001 to 57% of product revenues for the corresponding
period in 2002. The overall decrease is primarily due to the inclusion of international product gross profit of $397,000, a major portion of which is derived from the sale of print media consumables.
These print media consumable sales typically carries a lower gross margin than software only sales.

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Americas
gross profit as a percentage of Americas product revenue increased from 60% for the three months ended September 30, 2000 to 63% for the corresponding period of 2001.
This increase is due both to a reduction in fixed personnel costs and higher software only sales as a result of our acquisition of G & A. Costs of products can vary as a percentage of product
revenue from quarter to quarter depending upon product mix and hardware content included in systems installed during a given period.

Gross
margins for the International and Digital Photography product segments were $397,000 and $169,000 for the three months ended March 31, 2002, respectively. There were no such
gross margins for the corresponding period in 2001 due to our acquisition of these businesses on March 30, 2001 (G & A) and August 10, 2001 (Castleworks and
E-Focus).

|                         |                                | THREE MONTHS ENDED
MARCH 31,                          |   |     |     |   |    
|------------------------ | ------------------------------ | ----------------------------------------------------- | - | --- | --- | - | ---
|
|Maintenance gross profit |                                |                                                       |   |     |     |   |    
|                         | Americas                       |                                                       | $ | 319 |     | $ | 162
|                         |                                | Percentage of Americas maintenance revenue            |   |     | 59  | % |    
|                         | International                  |                                                       | $ | 61  |     | $ |   
|                         |                                | Percentage of International maintenance revenue       |   |     | 50  | % |    
|                         | Digital Photography            |                                                       | $ | 12  |     | $ |   
|                         |                                | Percentage of digital photography maintenance revenue |   |     | 100 | % |    
|                         |                                |                                                       |   |     |     |   |    
|                         | Total maintenance gross profit |                                                       | $ | 392 |     | $ | 162
|                         |                                |                                                       |   |     |     |   |    
|                         |                                | Percentage of total maintenance revenues              |   |     | 58  | % |    

Gross
margins related to maintenance revenues increased $230,000 from $162,000, or 36% of maintenance revenues for the three months ended March 31, 2001 to $392,000, or 58% of
maintenance revenues for the corresponding period in 2002. This increase is due primarily to increased revenues resulting from our expanding installed base to absorb fixed costs. Also contributing to
this increase was the movement of certain help desk functions from San Diego to our Canadian office resulting in lower personnel costs.

The
increase of $61,000 and $12,000 in maintenance gross profit for our International and Digital Photography segments for the three months ended March 31, 2002 reflect our
acquisition of these businesses on March 30, 2001 (G & A) and August 10, 2001 (Digital Photography).

|                              |                                 | THREE MONTHS ENDED
MARCH 31, |       |    |   |       |   
|----------------------------- | ------------------------------- | ---------------------------- | ----- | -- | - | ----- | --
|
|General & administrative      |                                 | $                            | 1,741 |    | $ | 1,216 |   
|                              | Percentage of total net revenue |                              |       | 47 | % |       | 44
|Sales and marketing           |                                 | $                            | 1,141 |    | $ | 561   |   
|                              | Percentage of total net revenue |                              |       | 31 | % |       | 20
|Research & development        |                                 | $                            | 516   |    | $ | 458   |   
|                              | Percentage of total net revenue |                              |       | 14 | % |       | 17
|Depreciation and amortization |                                 | $                            | 218   |    | $ | 273   |   
|                              | Percentage of total net revenue |                              |       | 6  | % |       | 10

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GENERAL AND ADMINISTRATIVE EXPENSES.General and administrative expenses are comprised primarily of salaries and other
employee-related costs for executive, financial, and other infrastructure personnel. General legal, accounting and consulting services, insurance, occupancy and communication costs are also included
with general and administrative expenses. Such expenses, as a percentage of total net revenues, increased from 44% for the three months ended March 31, 2001 to 47% for the corresponding period
in 2002. The dollar increase of $525,000 or 43%, from $1,216,000 for the three months ended March 31, 2001 to $1,741,000 for the corresponding period in 2002 is due primarily to the inclusion
of the acquired infrastructure of G & A, Castleworks and E-Focus West. We are continuing to focus our efforts on achieving additional future operating efficiencies by reviewing and
improving upon existing business processes and evaluating our cost structure. We believe these efforts will allow us to gradually decrease our level of general and administrative expenses expressed as
a percentage of total revenues.

SALES AND MARKETING.Sales and marketing expenses consist primarily of the salaries, commissions, other incentive
compensation, employee benefits and travel expenses of our sales force. Such expenses, as a percentage of total net revenues, increased from 20% for the three months ended March 31, 2001 to 31%
for the corresponding period in 2002. This dollar increase of $580,000, or 103%, is due primarily to the acquired sales and marketing force of G & A, Castleworks and E-Focus.

RESEARCH AND DEVELOPMENT.Research and development costs consist primarily of salaries, employee benefits and outside
contractors for new product development, product enhancements and custom integration work. Such expenses, as a percentage of total net revenues, decreased from 17% for the three months ended
March 31, 2001 to 14% for the corresponding period in 2002. The dollar increase in research and development expenses of $58,000, from $458,000 for the three months ended March 31, 2001
to $516,000 for the corresponding period in 2002, is due to additional development of products acquired through acquisitions. This increase in research and development reflects our belief that to
maintain our competitive position in markets characterized by rapid rates of technological
advancement, we must continue to invest significant resources in new systems and software as well as continue to enhance existing products.

DEPRECIATION AND AMORTIZATION.Depreciation and amortization decreased $55,000 from $273,000 for the three months ended
March 31, 2001 to $218,000 for the corresponding period in 2002. This decrease is due primarily from our adoption of the provisions of Financial Accounting Standards No. 142, "Goodwill
and Other Intangible Assets" ("FAS 142"). Under FAS 142, goodwill and intangible assets with indefinite lives are no longer amortized but are reviewed annually (or more frequently if
impairment indicators arise) for impairment. Separable intangible assets that are not deemed to have indefinite lives will continue to be amortized over their useful lives (but with no maximum life).
The amortization provisions of FAS 142 applied immediately to goodwill and intangible assets acquired after June 30, 2001. For the three months ended March 31, 2001, we recorded
amortization expense of approximately $241,000 related to goodwill that is no longer being amortized in fiscal year 2002 under the provisions of SFAS 142.

INTEREST EXPENSE, NET.For the three months ended March 31, 2002, we recognized interest income of $8,000 and interest
expense of $12,000. For the three months ended March 31, 2001, we recognized interest income of $84,000 and interest expense of $15,000. Interest income in the three months ended
March 31, 2002 decreased due to lower cash and cash equivalents held in interest bearing accounts, resulting from the use of cash to fund our net loss and acquisitions of G & A and
Castleworks and E-Focus West.

18

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Since inception, we have funded operations primarily from proceeds from the sale of stock and borrowings from individuals and financial institutions. On
March 31, 2000, we completed an IPO of 1,875,000 units, (units consist of one share of common stock and a warrant to purchase one share of common stock) at $8.00 per unit. Net proceeds
aggregated approximately $13.5 million. The IPO proceeds were received on April 5, 2000. On May 2, 2000 we received approximately $2.0 million in additional net proceeds
from the exercise of the over allotment option by the underwriter to sell an additional 281,250 units. During the twelve month period ended December 31, 2000, we received proceeds of
$1.7 million from the exercise of 176,673 warrants and 1,896 options. During the 12 months ended December 31, 2001, we received proceeds of $106,000 from the exercise of stock options.

As
of March 31, 2002, we had total current assets of $4,992,000 and total current liabilities of $5,580,000, or negative working capital of $588,000. At March 31, 2002, we
had available cash of $229,000 and $60,000 in restricted cash securing our San Diego, California facility lease.

Net
cash used in operating activities was $6,000 for the three month period ended March 31, 2002 as compared to $1,300,000 for the corresponding period in 2001. We used cash to
fund net losses of $1,489,000 for the three months ended March 31, 2002 and $883,000 for the corresponding period in 2001. For the three months ended March 31, 2002, we generated cash of
$1,737,000 through reductions in current assets and used cash of $472,000 to reduce current liabilities (excluding debt) offset by $218,000 from non cash expenses (depreciation and amortization). In
2001, we used cash of $92,000 to fund increases in current assets and intangible assets, $618,000 from decreases in current liabilities and deferred revenues (excluding debt) offset by $293,000 from
non-cash expenses (depreciation and amortization).

Net
cash used by investing activities was $133,000 for the three months ended March 31, 2002 as compared to $2,679,000 for the corresponding period in 2001. For the three months
ended March 31, 2002, we used cash to fund capital expenditures of computer equipment and software, furniture and fixtures and leasehold improvements of approximately $88,000. The level of
equipment purchases resulted primarily from continued growth of the business and replacement of older equipment. For the three months ended March 31, 2002, we also used cash of approximately
$45,000 to repay advances from related stockholders. For the three months ended March 31, 2001, we used cash of $67,000 to fund capital expenditures of computer equipment, software, furniture
and fixtures. We used cash of $14,000
to repay advances from related stockholders and used cash of $2,598,000 to fund our acquisition of G & A Imaging.

Net
cash used by financing activities was $5,000 for the three month period ended March 31, 2002 and $0 for the corresponding period in 2001. We used cash of $5,000 for the
repayment of various capital lease obligations.

We
conduct operations in leased facilities under operating leases expiring at various dates through 2006. Additionally, we have acquired certain equipment under capital leases which
expire at various dates through 2006. In conjunction with our San Diego, California leased facility, we are contingently liable under an irrevocable letter of credit in the amount of $60,000. The
letter of credit expires July 31, 2003 and will reduce to $30,000 on August 1, 2002 provided there are no drawings against the outstanding balance. We also have various
short-term notes payable and capital lease obligations due at various times during 2002.

The
report of the Company's independent accountants included with our most recent Annual Report filed on Form 10-KSB on April 1, 2002 includes an explanatory paragraph as
to the uncertainty that the Company will continue as a going concern. The Company is seeking additional financing that we believe is necessary to fund our working capital requirements for at least the
next twelve months, assuming the successful implementation of our business plan. Our business plan includes, among other

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things, significant increases in revenues in future periods, the monitoring and controlling of operating expenses, collection of significant trade and other accounts receivables, and controlling of
capital expenditures. If we are unable to secure additional financing or successfully implement our business plan, we will be required to seek funding from alternate sources and/or institute
significant cost reduction plans. We may seek to sell equity or debt securities, secure a bank line of credit, or consider strategic alliances. The sale of equity or equity related securities could
result in additional dilution to our shareholders. There can be no assurance that additional financing, in any form, will be available at all or, if available, will be on terms acceptable to the
Company. In addition, our ability to raise additional capital may be dependent upon the Company's Common Stock being quoted on the American Stock Exchange. There can be no assurance that the Company
will be able to satisfy the criteria for continued listing on the American Stock Exchange. Insufficient funds may require us to delay, scale back or eliminate some or all of our activities, and if we
are unable to obtain additional funding there is substantial doubt about our ability to continue as a going concern.

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RISK FACTORS

We currently have limited cash resources and need additional funding to finance our working capital requirements during the next twelve months.

We currently require financing to fund our anticipated working capital requirement during the next twelve months. We anticipate that our existing resources will
not be sufficient to enable us to maintain our current and planned operations for the next twelve months, and the report of our independent accountants included with our annual report on
Form 10-KSB for the year ended December 31, 2001 includes an explanatory paragraph as to the uncertainty regarding our ability to continue as a going concern. We are seeking additional
funding through public or private equity or debt financing. There can be no assurance that additional financing will be available on acceptable terms, or at all. If we are required to sell equity or
convertible debt securities to raise additional funds, our existing shareholders may incur substantial dilution and any shares so issued may have rights preferences and privileges superior to the
rights, preferences and privileges of our outstanding Common Stock. Also, we may be required to obtain funds through arrangements with third parties that require us to relinquish rights to certain of
our technologies or products that we would seek to develop or commercialize ourselves. In addition, our ability to raise additional capital may be dependent upon the Company's Common Stock being
listed on the American Stock Exchange. We cannot guarantee that the Company will be able to satisfy the criteria for continued listing on the American Stock Exchange. Insufficient funds may require us
to delay, scale back or eliminate some or all of our activities, and if we are unable to obtain additional funding there is substantial doubt about our ability to continue as a going concern.

We have a history of significant recurring losses totaling approximately $32.0 million, and we expect to incur losses in the future.

As of March 31, 2002, we had an accumulated deficit of $32.0 million, and we expect to incur losses in the future. We may need to raise capital to
cover these losses, and financing may not be available to us on favorable terms. We expect to continue to incur significant sales and marketing, research and development, and general and
administrative expenses. As a result, we will need to generate significant revenues to achieve profitability and may never achieve profitability.

The holders of our preferred stock have certain rights and privileges that are senior to the Common Stock and we may issue additional shares of
preferred stock without shareholder approval that could have a material adverse effect on the market value of the common stock.

The provisions of our outstanding Series B Preferred Stock prohibit the payment of dividends on the common stock unless the dividends on those preferred
shares are first paid. In addition, upon a liquidation, dissolution or sale of ImageWare's business, the holders of the Series B Preferred Stock will be entitled to receive, in preference to
any distribution to the holders of common stock, initial distributions of $2.50 per share, plus all accrued but unpaid dividends.

Our
Board of Directors has the authority to issue a total of up to 4,000,000 shares of preferred stock and to fix the rights, preferences, privileges, and restrictions, including voting
rights, of the preferred stock, which typically are senior to the rights of the common shareholders, without any further vote or action by you and the other common shareholders. Your rights will be
subject to, and may be adversely affected by, the rights of the holders of the preferred stock that have been issued, or might be issued in the future. Preferred stock also could have the effect of
making it more difficult for a third party to acquire a majority of the outstanding voting stock of ImageWare. This could delay, defer, or prevent a change in control. Furthermore, holders of
preferred stock may have other rights, including economic rights, senior to the common stock. As a result, their existence and issuance could have a material adverse effect on the market value of the
common stock. We have in the past issued,

21

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and, may from time to time in the future issue, preferred stock for financing or other purposes with rights, preferences, or privileges senior to the common stock.

We depend upon a small number of large system sales costing from $300,000 to $600,000, and we may fail to achieve one or more large system sales in the
future.

In the past three years we have derived a substantial portion of our revenues from a small number of sales of large, relatively expensive systems, typically
ranging in price from $300,000 to $600,000. As a result, if we fail to receive orders for these large systems in a given sales cycle on a consistent basis, our business could be significantly harmed.
Further, our quarterly results are difficult to predict because we cannot predict in which quarter, if any, large system sales will occur in a given year. As a result, we believe that
quarter-to-quarter comparisons of our results of operations are not a good indication of our future performance. In some future quarters our operating results may be below the
expectations of securities analysts and investors, in which case the market price of our common stock may decrease significantly.

Our lengthy sales cycle may cause us to expend significant resources for as long as one year in anticipation of a sale, yet we still may fail to
complete the sale.

When considering the purchase of a large computerized booking or identification system, a government agency may take as long as a year to evaluate different
systems and obtain approval for the purchase. If we fail to complete a sale, we will have expended significant resources and received no revenue in return. Generally, agencies consider a wide range of
issues before committing to purchase our products, including product benefits, ability to operate with their current systems, product reliability and their own budgetary constraints. While potential
customers are evaluating our products and before they place an order with us, we may incur substantial selling costs and expend significant management effort to accomplish a sale.

Our operating cash flow is dependent upon cash collections of accounts receivable and we may fail to timely collect such receivables resulting in
insufficient funds.

A substantial portion of our operating cash flow is dependent upon timely collections of accounts receivable. If we fail to collect accounts receivable on a
consistent basis, we may experience insufficient funds which may affect our ability to effectively implement our business plan causing our business to significantly harmed. Insufficient funds may
require us to delay, scale back or eliminate some or all of our activities.

A significant number of our customers are government agencies that are subject to unique political and budgetary constraints and have special
contracting requirements which may affect our ability to obtain new government customers.

A significant number of our customers are government agencies. These agencies often do not set their own budgets and therefore have little control over the amount
of money they can spend. In addition, these agencies experience political pressure that may dictate the manner in which they spend money. Due to political and budgetary processes and other scheduling
delays that may frequently occur relating to the contract or bidding process, some government agency orders may be canceled or substantially delayed, and the receipt of revenues or payments may be
substantially delayed. In addition, future sales to government agencies will depend on our ability to meet government contracting requirements, certain of which may be onerous or impossible to meet,
resulting in our inability to obtain a particular contract. Common requirements in government contracts include bonding requirements, provisions permitting the purchasing agency to modify or terminate
at will the contract without penalty, and provisions permitting the agency to perform investigations or audits of our business practices.

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We have been served with a lawsuit that may result in monetary damages and the discontinuation or interruption of the sales of some of our products.

We are currently a named defendant in a lawsuit brought by The Massachusetts Institute of Technology and Electronics for Imaging, Inc. in which we, along
with 213 other defendants, are named. This lawsuit alleges, among other things, that certain of our products infringe one or more claims of a patent for color reproduction systems. We cannot guarantee
that we will be successful in defending this lawsuit, and, if our defense is unsuccessful, we may be required to pay license fees or substantial damages, including punitive, statutory or other
damages. We also may be required by the court to cease the sale of infringing products. Furthermore, our insurance coverage and other capital resources may be inadequate to cover the costs of the
lawsuit or any possible settlements or licenses. If successful, this lawsuit could harm our business by forcing us to cease the sale of certain products or require us to pay monetary damages. Even if
unsuccessful, these claims still can harm our business by damaging our reputation, requiring us to incur legal costs, lowering our stock price and public demand for our stock, and diverting
management's attention away from our primary business activities in general.

We may fail to create new applications for our products and enter new markets, which may affect our future success.

We believe our future success depends in part on our ability to develop and market our technology for applications other than booking systems for the law
enforcement market. If we fail in these goals, our business strategy and ability to generate revenues and cash flow would be significantly impaired. We intend to expend significant resources to
develop new technology, but the successful development of new technology cannot be predicted and we cannot guarantee we will succeed in these goals.

We
are occasionally a subcontractor to systems integrators who manage large projects incorporating our systems, particularly in foreign countries. We cannot control these companies, and
they may decide not to promote our products, or they may price their services in such a way as to make it unprofitable for us to continue our relationship with them. Further, they may fail to perform
under agreements with their customers, in which case we might lose sales to these customers. If we lose our relationships with these companies, our business may suffer.

We rely on a license of technology from Visionics, Inc., and this license may be terminated in the future.

We depend on a licensing arrangement with Visionics for technology related to the search engine used in our systems. Our licensing arrangement with Visionics was
renewed effective October 1, 2001 for a two year term. If Visionics becomes unable or unwilling to continue to license us this technology or to renew the terms of this license, we will have to
identify or develop acceptable alternative sources of this technology, which could take up to three months or longer. Any significant interruption in our ability to identify and contract with
alternative providers of similar technology or to develop our own search engine would result in delivery delays, which could harm our customer relationships and our business and reputation.

We do not have U.S. or foreign patent protection for several of our products, and a competitor may be able to replicate our technology.

Our business is based in large part on our technology, and our success depends in part on our ability and efforts to protect our intellectual property rights. If
we do not adequately protect our intellectual property, our business will be seriously harmed. We do not have patent protection for several of our products, including the Crime Capture System. Our
Crime Capture System is based upon proprietary technology. Some of the technology used in our Suspect ID, Crime Lab and Vehicle ID products is protected by patents, copyrights and various trade secret
protections afforded to us by law.

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We
license certain elements of our trademarks, trade dress, copyright and other intellectual property to third parties. We attempt to ensure that our rights in our trade names and the
quality of third party uses of our names are maintained by these third parties. However, these third parties may take actions that could significantly impair the value of our intellectual property and
our reputation and goodwill.

In
addition, international intellectual property laws differ from country to country. Any foreign rights we have in our technology are limited by what has been afforded to us under the
applicable foreign intellectual property laws. Also, under the laws of certain foreign jurisdictions, in order to have recognizable intellectual property rights, we may be required to file
applications with various foreign agencies or officials to register our intellectual property. Accordingly, our ability to operate and exploit our technology overseas could be significantly hindered.

We recently have acquired several businesses and face risks associated with integrating these businesses and potential future businesses that we may
acquire.

We recently completed the acquisitions of Imaging Technology Corporation ("ITC"), Goddard Technology Corporation ("Goddard"), G & A Imaging, Ltd.
("G & A"), Castleworks LLC ("Castleworks") and E-Focus West LLC ("E-Focus West"). We are in the process of integrating these businesses. We plan to continue to review
potential acquisition candidates, and our business and our strategy includes building our business through acquisitions. However, acceptable acquisition candidates may not be available in the future
or may not be available on terms and conditions acceptable to us.

Acquisitions
involve numerous risks, including among others, difficulties and expenses incurred in the consummation of acquisitions and assimilation of the operations, personnel and
services and products of the acquired companies. Additional risks associated with acquisitions include the difficulties of operating new businesses, the diversion of management's attention from other
business concerns and the potential loss of key employees of the acquired company. If we do not successfully integrate the businesses we recently acquired or any businesses we may acquire in the
future, our business will suffer.

We operate in foreign countries and are exposed to risks associated with foreign political, economic and legal environments and with foreign currency
exchange rates.

With our acquisition of G & A, we have significant foreign operations and are accordingly exposed to risks, including among others, risks associated with
foreign political, economic and legal environments and with foreign currency exchange rates. Our results may be adversely affected by, among other things, changes in government policies with respect
to laws and regulations, anti-inflation measures, currency conversions, remittance abroad and rates and methods of taxation.

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PART II

OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS



ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



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SIGNATURES

In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.

|                   |  | IMAGEWARE SYSTEMS, INC.
|------------------ |  | -----------------------
|Date: May 15, 2002 |  | By:                    

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