UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 Washington,
D.C. 20549
 
 FORM
10-K
 [Mark
One]
 
 x
              ANNUAL
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF
 THE
SECURITIES EXCHANGE ACT OF 1934
 For the
Fiscal Year Ended March 31, 2008
 
 OR
 o
              TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF
 THE
SECURITIES EXCHANGE ACT OF 1934
 For the
Transition Period from  to
_____
 
 Commission
File Number:  0-6377
 
 LASERCARD
CORPORATION
 (Exact
name of registrant as specified in its charter)
 
 Delaware
              77-0176309(State
      or other jurisdiction of
              (I.R.S.
      Employerincorporation
      or organization)
              Identification
      No.)1875 North Shoreline
      Boulevard, Mountain View, CA
              94043-1601(Address
      of principal executive offices)
              (Zip
      Code)
 
 (650)
969-4428
 (Registrant's
telephone number, including area code)
 
 Securities
registered pursuant to Section 12(b) of the Act:
 None
              None(Title
      of each class
              (Name
      of each exchangeso
      registered)
              on
      which registered)
 
 Securities
registered pursuant to Section 12(g) of the Act:
 
 Common Stock, $0.01 Par
Value
 (Title of
class)
 
 Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.  o  Yes   x No
 
 Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.  o  Yes   x No
 
 Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports) and (2) has been subject to such filing requirements for
the past 90 days.  x  Yes  o No
 
 Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein and will not be contained, to the best of
registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.  o
 
 Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer.  See definition of
“accelerated filer and large filer” in Rule 12b-2 of the Exchange
Act.  (Check one):
 Large
      accelerated filer o
              Accelerated
      filer x
              Non–accelerated
      filer o
 
 
 
 Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). [  ] Yes  [x] No
 
 Based on
the last trade price of our Common Stock on The Nasdaq Stock Market, Inc. on the
last business day of the registrant’s most recently completed second fiscal
quarter (September 30, 2007), the aggregate market value of the voting stock
held by non-affiliates of the registrant is approximately
$130,341,000.  Shares of common stock held by officers, directors and
other persons who may be “affiliates” of the Registrant have been excluded from
this computation.  This determination of affiliate status is not
necessarily a conclusive determination for other purposes.
 
 Indicate
the number of outstanding shares of Common Stock, $.01 par value, at June 2,
2008: 11,992,376
 
 
 DOCUMENTS
INCORPORATED BY REFERENCE: Portions of the Registrant's Proxy Statement in
connection with its September 19, 2008, Annual Meeting of Shareholders are
incorporated by reference into Part III to the extent stated in Part
III.
 Exhibit
Index is on page 85
 Total
number of pages is 98
  2
  PART
I
 Item
      1.
              Business
              4Forward-Looking
      Statements
              4General
      Development of Business
              5Financial
      Information about Segments
              6Narrative
      Description of Business
              6Item
      1A.
              Risk
      Factors
              17Item
      1B.
              Unresolved
      Staff Comments
              25Item
      2.
              Properties
              25Item
      3.
              Legal
      Proceedings
              25Item
      4.
              Submission
      of Matters to a Vote of Security Holders
              25PART
      IIItem
      5.
              Market
      for Registrant's Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
              26Item
      6.
              Selected
      Financial Data
              28Item
      7.
              Management's
      Discussion and Analysis of Financial Condition and Results of
      Operations
              29Results
      of Operations
              32Liquidity
      and Capital Resources
              38Critical
      Accounting Policies
              40Item
      7A.
              Quantitative
      and Qualitative Disclosures about Market Risk
              47Item
      8.
              Financial
      Statements and Supplementary Data
              49Report
      of Independent Registered Public Accounting Firm
              49Consolidated
      Financial Statements
              51Notes
      to Consolidated Financial Statements
              55Quarterly
      Financial Information (Unaudited)
              81Item
      9.
              Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosure
              82Item
      9A.
              Controls
      and Procedures
              82Item
      9B.
              Other
      Information
              83PART
      IIIItem
      10.
              Directors,
      Executive Officers and Corporate Governance
              83Item
      11.
              Executive
      Compensation
              83Item
      12.
              Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
              84Item
      13.
              Certain
      Relationships and Related Transactions, and Director
      Independence
              84Item
      14.
              Principal
      Accountant Fees and Services
              84PART
      IVItem
      15.
              Exhibits
      and Financial Statement Schedules
              85Signatures
              90
  3
  PART I
 
 ITEM
1.  BUSINESS
 
 FORWARD-LOOKING
STATEMENTS.  All statements contained in this report that are
not historical facts are forward-looking statements.  The
forward-looking statements in this report are made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of
1995.  They are not historical facts or guarantees of future
performance or events. Rather, they are based on current expectations,
estimates, beliefs, assumptions, and goals and objectives and are subject to
uncertainties that are difficult to predict.  As a result, our actual
results may differ materially from the statements made.  Often such
statements can be identified by their use of words such as “may,” “will,”
“intends,” “plans,” “believes,” “anticipates,” “visualizes,” “expects,” and
“estimates.”  Forward-looking statements made in this report include
statements as to our beliefs as to current and potential market segments,
customers, and applications for and deployment of our products; the advantages
of, potential income from, and duties to be performed under the sale of a
second-source card manufacturing license to Prevent Global; our intent to retain
the Prevent Global equipment until Prevent Global is ready to receive the
equipment; future scheduled payments and contingent royalties under the Prevent
Global contract, Prevent Global’s planned production capacity, and that we will
sell equipment to Prevent Global and provide Prevent Global with installation
support; production quantities, delivery rates and expected delivery schedule,
backlog, and revenue recognition for our products for U.S. or foreign government
ID card programs, potential annual revenues being $40 million at full
implementation from the Italy programs with expected revenues unable to be
determined until the prime contractor issues follow-on orders; our expectation
that Poligrafico will request us to supply 1,300 encoders via a separate
solicitation if Poligrafico moves forward with its workstation RFP; revenue
potential of up to $90 million over five years from the Angolan program; our
expectation for no future growth from the U.S. Green Card program, with steady
state revenue to average $8 million if the option years are elected but with a
short-term decrease followed by an increase in orders as the government
transitions to a new card design; plans to increase card production capacity for
anticipated increases in orders including possibly $7 million in capital
equipment and leasehold improvements during the next twelve months; and
expecting growth of less than 10% in the specialty card and printer segment and
expecting negative gross profit from the drive, system and services market; our
intent to update our SFAS No. 123(R), Shared-Based Payments,
assumptions at least annually; that the Kingdom of Saudi Arabia country will
exercise its option to place orders over a four-year period of up-to another
approximately $35 million in cards under the amended contract, with expected
orders during fiscal year 2009 to be less than during fiscal year 2008; our
intent to find another photographic film supplier should Kodak cease supplying
such film and to take advantage of any last-buy opportunity which Kodak may
choose to provide; our intent to pursue patent infringers by litigation,
arbitration, or negotiation; the need for, expected success of, and potential
benefits from our research and development effort, including our attempts to
develop other forms of optical recording media for use in optical memory cards
and the potential benefits derived therefrom; expectations regarding revenues
(overall and by segment and by customer), margins, profit (including likely
losses in the future if full implementation of the Italian program is further
delayed), and our deferred income tax asset and related valuation allowance; our
expectation that fiscal year 2009 SG&A expenses will be about the same as
fiscal year 2008 levels and that R&D expenses will increase about 50% in the
fiscal year 2009 over the previous fiscal year; that we do not expect any
material change in our unrecognized tax benefits over the next twelve months;
our expectations that examination of open tax years by the appropriate
governmental agencies due to the tax loss carryovers from those years will pose
no material change in our tax position; our expectation that our interest income
during the fourth quarter will decline due to the lower interest rates resulting
from recent cuts in the Federal funds rate by the Federal Reserve Board; our
belief that our current five major programs, plus maybe one or two others, will
be the sources for a  majority of our revenues in the near term;
estimates of optical card production capacity, our ability to expand production
capacity, and our plans and expectations regarding the growth and associated
capital costs of such capacity; estimates that revenues and advance payments
will be sufficient to generate cash from operating activities over the next
twelve months and fund our actual capital expenditures despite expected
quarterly fluctuations; expectations regarding market growth, product demand,
continuation of current programs, our long-term revenue growth objectives, and
drive pricing strategy and our projected liquidity in light of the issues
surrounding our investments in auction rate securities and our ability to secure
more contracts.
  4
  These forward-looking statements are
based upon our assumptions about and assessment of the future, which may or may
not prove true, and involve a number of risks and uncertainties including, but
not limited to, whether there is a market for cards for homeland security in the
U.S. and abroad, and if so whether such market will utilize optical memory cards
as opposed to other technology; customer concentration and reliance on continued
U.S. and Italian government business; risks associated with doing business in
and with foreign countries; whether we will be successful in assisting Prevent
Global with factory startup and training; whether Prevent Global will obtain the
financial resources to make the balance of its required payments to us and to
operate the facility; whether the facility will efficiently produce high quality
optical memory cards in volume and that meet our standards; lengthy sales cycles
and changes in and dependence on government policy-making; reliance on
value-added resellers and system integrators to generate sales, perform customer
system integration, develop application software, integrate optical card systems
with other technologies, test products, and work with governments to implement
card programs; risks and difficulties associated with development, manufacture,
and deployment of optical cards, drives, and systems; our ability or our
customers’ ability to initiate and develop new programs utilizing our card
products; risks and difficulties associated with development, manufacture, and
deployment of optical cards, drives, and systems; potential manufacturing
difficulties and complications associated with increasing manufacturing capacity
of cards and drives, implementing new manufacturing processes, and outsourcing
manufacturing; our ability to produce and sell read/write drives in volume; the
unpredictability of customer demand for products and customer issuance and
release of corresponding orders; government rights to withhold order releases,
reduce the quantities released, and extend shipment dates; the impact of
technological advances, general economic trends, and competitive products; the
impact of changes in the design of the cards; and the possibility that optical
memory cards will not be purchased for the full implementation of card programs
in Italy, the Kingdom of Saudi Arabia and India, or for Department of Homeland
Security (DHS) programs in the U.S., or will not be selected for other
government programs in the U.S. and abroad; whether we will be successful in
developing alternative optical recording media; and  the risks set
forth in the section entitled “Risks” and elsewhere in this report; and other
risks detailed from time to time in our SEC filings.  These
forward-looking statements speak only as to the date of this report, and, except
as required by law, we undertake no obligation to publicly release updates or
revisions to these statements whether as a result of new information, future
events, or otherwise.
  Trademarks.  LaserCard® is the Company’s registered
trademark.  Optical/SmartTM card,
OpticalProximityTM card,
ConciergeCardTM,
OptiChipTM,
LaserPassTM,
Embedded HologramHDTM,
Optical IDLockTM, and
LaserBadgeTMare our
trademarks.  We may also refer to trademarks of other corporations and
organizations in this document.
 
 GENERAL
DEVELOPMENT OF BUSINESS
  LaserCard
Corporation is a leading provider of secure ID solutions to governments and
commercial clients around the world, and also manufactures a wide range of
advanced, secure identity documents. These ID documents include the LaserCard®
optical memory card and hybrid cards combining optical memory with contact,
contactless and RFID chip technology. The Company’s cards and systems are widely
used in countries around the world, including the United States, Canada, Italy,
India and the Kingdom of Saudi Arabia, for demanding applications including
border security, government service provision and facility access. LaserCard’s
wholly-owned German subsidiary, Challenge Card Design Plastikkarten GmbH
("CCD"), with offices in Rastede and Ratingen, Germany, manufactures and offers
a wide range of high quality specialty cards, plus card personalization and ID
management solutions under the CCD and Cards & More brands.
  CCD,
which was acquired on March 31, 2004, provides advanced-technology specialty
card manufacturing capabilities to serve the European, Middle Eastern, African,
and Asian markets.  While operating results of CCD since the
acquisition are consolidated into the financial statements since fiscal year
2005, the historic operating results have not been included in the financial
statements for fiscal year 2004.
  LaserCard
Corporation (formerly known as Drexler Technology Corporation, until October 1,
2004) was incorporated under the laws of the State of California on
July 23, 1968, and was reincorporated as a Delaware corporation on June 24,
1987.  LaserCard Corporation, a Delaware corporation, is primarily a
holding company that conducts all its business operations through its two
wholly-owned subsidiaries, CCD and LaserCard Corporation, a California
corporation.  Our mailing address and executive offices are located at
1875 North Shoreline Boulevard, Mountain View, California 94043, and the
telephone number is (650) 969-4428.  Throughout this report, the
“Company,” “we,” and “us” refer to LaserCard Corporation and subsidiaries,
unless otherwise indicated.
  Our
annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K, and all amendments to those reports can be obtained free of charge
after such material is electronically filed with or furnished to the Securities
and Exchange Commission (SEC).  These documents are available as soon
as reasonably practicable using the hypertext link to the SEC’s website via our
website, www.lasercard.com.  They also may be obtained directly from
the SEC's website, www.sec.gov/edgar/searchedgar/companysearch.html under CIK
code 30140.  In addition, these documents and our “Code of Ethics and
Business Conduct for Employees, Officers, and Directors” are posted on our
website.
  5
  Our
primary product is the LaserCard® optical memory card which is a credit-card
sized, data storage card—invented, patented, developed, and manufactured by
us.  Along with its ability to record, update, and store up to 2.86
megabytes of user data, this unique card offers multiple data-security features,
can be carried in a wallet, and is highly resistant to counterfeiting and data
tampering.  This makes the LaserCard® ideal for portable and secure
data storage and for cardholder identification.
  Current
applications for the LaserCard® include identification cards for citizens,
non-citizen permanent residents, foreign workers, and border crossing, as well
as vehicle registration.
 
 Major
programs include:
 ●
              United
      States Permanent Resident Card (“Green Card”)●
              Canada
      “Maple Leaf” Permanent Resident Card●
              Italian
      citizen ID card●
              Italian
      foreign resident card●
              Kingdom
      of Saudi Arabia national ID card●
              Vehicle
      registration in a few states in India●
              A
      developing program in Angola for national ID
  cards
  From time
to time we have licensed third parties to our technology and know-how in optical
memory card manufacturing and read/write card drive assembly.  As more
fully described under "Revenue Recognition," of Note 2 of the Notes to
Consolidated Financial Statements in Item 8, “Financial Statements and
Supplementary Data,” section, we have granted Prevent Global družba za
upravljanje, investicije in razvoj d.d (Prevent) of Slovenia a 20-year license
for card manufacturing.  The license began April 3, 2004 and has
certain exclusivities and restrictions.  Also included are equipment
purchase, training and support agreements.  In March 2008, Ritel S.p.A.
(Ritel) became our exclusive licensee to manufacture in Italy and distribute
world-wide our optical memory drives.  Ritel, an Italian
telecommunications and technology contract manufacturer, brings significant
manufacturing know-how, new production processes, and new product development
which could lead to lower cost drives.  At least initially, we expect
to supply parts sets to Ritel to manufacture the encoders with delivery of the
first 400 units expected for September 2008.
  For a
discussion of the risk factors related to the business operations, see the
“Forward-Looking Statements” narrative at the beginning of this report, the
“Risk Factors” at the end of this section, and the “Management’s Discussion and
Analysis of Results of Operations and Financial Condition” contained in Item
7.
 
 FINANCIAL
INFORMATION ABOUT SEGMENTS
  Our three
reportable segments are: (1) Optical Memory Cards, (2) Drives, Systems and
Services (which we formerly called the “Optical Memory Card Drives” segment),
including read/write drives, maintenance, systems and enabling services, and (3)
Specialty Cards and Printers.  The segments were determined based on
the information used by the chief operating decision maker.  The
optical memory cards and drives, systems and services reportable segments are
not strategic business units which offer unrelated products and services;
rather, these reportable segments utilize compatible technology and are marketed
jointly.  Specialty Cards and Printers is a strategic business unit
offering at times unrelated products and at times related products with the
other reportable segments.  See “Segment Reporting” in Note 4 of the
Notes to Consolidated Financial Statements in Item 8, “Financial Statements and
Supplementary Data,” for additional industry segment information.
 
 NARRATIVE
DESCRIPTION OF BUSINESS
  LaserCard
Corporation is a leading provider of secure ID solutions to governments and
commercial clients around the world, and also manufactures a wide range of
advanced, secure identity documents. These ID documents include the LaserCard®
optical memory card and hybrid cards combining optical memory with contact,
contactless and RFID chip technology. The Company’s cards and systems are widely
used in countries around the world, including the United States, Canada, Italy,
India and the Kingdom of Saudi Arabia, for demanding applications including
border security, government service provision and facility access. LaserCard’s
wholly-owned German subsidiary, Challenge Card Design Plastikkarten GmbH
("CCD"), with offices in Rastede and Ratingen, Germany, manufactures and offers
a wide range of high quality specialty cards, plus card personalization and ID
management solutions under the CCD and Cards & More brands.
  6
  LaserCard®;
A Secure Counterfeit-resistant Credential
  Our
LaserCard® optical memory card (OMC) is a secure, counterfeit-resistant
credential which is currently used by national governments primarily in secure
identification applications.
  Digital
data is recorded in an irreversible process so that ID information on a
legitimate card cannot be fraudulently altered for criminal purposes. Each
implementation for secure ID is customized to the issuer’s own specifications.
Key characteristics of the card’s memory and the issuing and inspection hardware
are matched. To date, LaserCard’s users have concluded that the hurdle for
would-be card counterfeiters is so high that such persons instead would seek
some other vulnerability points in the issuance process.
  Another
security benefit of optical memory is its ability to be permanently marked with
visible, high-resolution micro images and security patterns in the optical media
itself at resolutions up to 12,000 dots per inch. These features, which cannot
be accurately simulated by counterfeiters, are used by inspectors and forensic
specialists for both unaided and aided visual card authentication.
 
 We also
can create a “laser-etched,” eye visible image in the media, irreversibly
marking the digital recording media with the visible identity of the card holder
— a unique security feature among all machine readable card
technologies.  This method of permanently “etching” a facial image in
the media is used to verify the authenticity of other printed or laser engraved
facial images on the card’s surfaces enabling a method to determine tampering of
these images.  We have recently released Personalized Embedded
HologramHDTM that features a larger, high-definition photographic quality image,
so the feature itself can be used for ID verification, while still serving the
verification function. The feature is essentially impossible to copy or
reproduce and cannot be altered thus providing a very high level of counterfeit
resistance.
 
 Personalized Embedded HologramHD is a
component of LaserCard’s unique document security package, known as Optical
IDLockTM, a highly sophisticated layering and blending of overt, covert and
forensic security and identity management features. These features collectively
make each card uniquely counterfeit resistant, tamper evident and permanently
locked to the identity of the cardholder. No other technology can deliver this
level of security tied to the individual cardholder’s
identity.
 
 Our
Optical/SmartTM card offering combines the security and capacity of optical
memory with the active transactional capability of an IC chip. The chip can be
any ISO 7816 series standard module and is embedded into the optical card base
stock using traditional milling and embedding techniques.
 
 Typical
applications for the Optical/SmartTM card include the provision of e-government
services via the chip while the optical memory acts as a visual and secure card
authentication feature, backs up the chip in case of failure or tampering, and
stores an audit trail of events in the card's life for security and forensic
purposes. In addition, the optical memory can store a suite of original
biometric images (for example, face, fingerprints and irises) to provide a means
of ID verification across other government and private sector applications.
Given that optical memory can be used securely off-line, it is not necessary to
have access to Public Key Infrastructure that is necessary for smart cards, an
extremely costly and complex system, at every transaction point thus enhancing
the over-all cost-effectiveness of optical memory.
 
 We
believe that the newly-introduced LaserPassTM is the most secure and flexible
electronic ID solution available today. Combining the convenience and
facilitation capabilities of Radio Frequency Identification (RFID) or
contactless chip technology with the security and certain, automatic
authentication of optical memory, the system can support a complete range of
inspection and ID verification scenarios which can be set depending on perceived
threat levels. For example, the combination of the technologies provides the
following advantages:
  ●
              RFID
      provides convenient access through a control point after cardholder ID
      verification (one-to-one) with data stored on the optical
      memory●
              RFID
      can be used in high traffic environments as a  “read ahead” data
      base pointer allowing data to be retrieved and queued awaiting
      inspection
  7
  ●
              Optical
      memory provides instant automatic card authentication, very rapid
      one-to-one biometric ID verification, and display of digital facial image
      and other ID data directly from the optical memory●
              Optical
      memory provides an attending inspector with unparalleled surety in
      visually verifying card, cardholder and displayed data●
              All
      RFID data can be backed up on the optical media●
              Optical
      memory can be used offline when the network is down or
  slow●
              Optical
      memory can be used when the chip may have been compromised or there is
      suspicion about the cardholder’s match to the database image or tampering
      with the card’s printed personal data●
              Optical
      memory acts as forensic evidence in criminal prosecutions for tampering or
      counterfeiting of either the chip’s data or card personalized
      data
 
 LaserCard
Government Applications
 
 The
predominant present application is secure identity in government programs,
covering both immigration and border entry along with
citizenship.  The counterfeit-resistant cards are typically replaced
every five or ten years.  The following are examples of these
government applications:
 
 ●
              The
      U.S. Permanent Resident Card (“Green Card”), issued by the Department of
      Homeland Security, evidences that a non-US citizen is approved to reside
      and be employed in the United States.●
              The
      Canadian “Maple Leaf” Permanent Resident Card, issued by the Government of
      Canada, confirms Canadian permanent resident status.●
              The
      electronic citizen ID card of Italy, identifies the holder as a citizen
      and confers upon the holder the rights and privileges to which a citizen
      is entitled.  The card can also be used as an accepted document
      for crossing borders at over 32 different countries.●
              The
      Italian electronic non-citizen resident permit card for non-EU citizens
      confirms the cardholder’s approval to reside in Italy.●
              In
      a program for the Kingdom of Saudi Arabia, the LaserCard® is being issued
      as a national identification card.●
              The
      Laser Visa Border Crossing Card, issued by the United States Department of
      State, permits Mexican citizens to make an unlimited number of visits to
      the United States close to the U.S. border for up to 30
    days.●
              A
      motor vehicle registration program in the States of Delhi, Maharashtra and
      Gujarat, India, in which the Optical/SmartTM LaserCard® is used for storing
      the payment of road tax, vehicle registration, insurance, violations,
      vehicle fitness, and owner/operator information.●
              A
      developing program in Angola for national ID cards identifies the holder
      as a citizen.
 
 Data
Storage Capacity
 
 The gross
data storage capacity of the standard LaserCard® is 4.1 megabytes on a 35mm
optical stripe, 2.56 megabytes on a 24mm stripe and 1.5 megabytes on a 16mm
stripe.  The LaserCard® itself is the size of a conventional credit
card.  A portion of the LaserCard®’s total data capacity is used for
an error detection and correction, or EDAC, algorithm. EDAC is routinely used in
various data storage and transfer methods to compensate for data errors
resulting from transmission errors, surface scratches above the recording
material, or contamination such as dust or fingerprints.  EDAC is
automatically added to data written onto the LaserCard®, to achieve written data
error rates of less than one in a trillion.  The resulting data
storage capacities are 2.86 megabytes of “user” capacity for the standard 4.1
megabyte LaserCard®, 1.78 megabytes of "user" capacity for the standard 2.56
megabyte optical stripe, and 1.1 megabytes of “user” capacity for the 1.5
megabyte optical stripe.
  8
 Durability
 
 Since
1993 the U.S. Defense Logistics Agency has used LaserCard® optical memory cards
as a paperless freight manifest when shipping goods all over the world, often in
the most hazardous environments.  Environmental testing done by the
U.S. Army confirmed the optical memory card’s high durability, which also has
been validated by the worldwide Army deployments where the card has demonstrated
its ability to withstand some of the harshest conditions and still work reliably
in this mission-critical application.
 
 International
Standards for Optical Memory Cards
 
 Standardization
of optical memory cards allows interchange of the digital information encoded on
the cards and facilitates compatibility among optical memory card
systems.  We participate in optical card standards activities in the
United States and internationally. Shown below is the current status of optical
memory card standards under ISO/IEC (the International Organization for
Standardization/International Electrotechnical Committee).  The
LaserCard® optical memory card system, complies with all of the standards
listed.
 
 ●
              ISO/IEC
      11693 describes the general characteristics of optical memory cards. This
      international standard was first published in 1994.●
              ISO/IEC
      11694-1 describes the physical characteristics of the card, such as
      height, width, thickness, etc.  This international standard was
      first published in 1994.●
              ISO/IEC
      11694-2 describes the dimensions and location of the accessible area—the
      area on the card where data writing/reading occurs.  This
      international standard was first published in 1995.●
              ISO/IEC
      11694-3 describes the optical properties and characteristics of the card
      and provides the technical specifications which allow
      interchange.  This international standard was published in
      1995.●
              ISO/IEC
      11694-4 describes the logical data structure on the card and defines the
      method of writing and reading card data. This international standard was
      published in 1996.●
              ISO/IEC
      11694-5 describes a data format for information interchange (to permit
      interoperability).  This international standard was first
      published in 2006.●
              ISO/IEC
      11694-6 describes the method for the use of biometrics on an optical
      memory card.  This international standard was first published in
      2006.
 
 In the
United States, ANSI (the American National Standards Institute) has adopted all
of the above ISO Standards as ANSI/ISO Standards.
 
 Other
standards defining the use of optical memory cards in certain application areas,
such as driver’s license and interoperable ID documents, also
exist.
 
 LaserCard®
Manufacturing
 
 We have
LaserCard® optical memory card manufacturing operations located in Mountain
View, California, and a subset of these capabilities in Rastede,
Germany.  We produce optical memory cards using either a
roll-lamination process or a newer sheet-lamination process.  The
sheet-lamination process allows the use of high security offset printing and
other special features, resulting in a premium card.  We have an
annual production capacity of 10 million roll-process cards in conjunction with
approximately 9 million sheet-process cards depending upon the mix of
features.  Additional manufacturing equipment currently on order for
delivery in September 2008 will increase our capacity for sheet-process cards to
16 million per year.
 
 Raw
Materials
 
 We
establish ongoing relationships with principal qualified suppliers to maintain
adequate raw material supplies for the manufacture of optical memory cards and
when commercially reasonable we utilize multiple suppliers and consider
alternate suppliers.  We maintain raw materials inventory levels that
take into account current expected demand, order-to-delivery lead times,
supplier production cycles, and minimum order quantities.  If we are
unable to buy raw materials in sufficient quantities and on a timely basis, we
would not be able to deliver products to customers on time.
  9
  Most of
the raw materials used in the manufacture of optical memory cards are available
from one or more qualified suppliers.  Such materials include plastic
films used in optical memory card production, which are available from one
supplier in the U.S. and from multiple foreign suppliers.  Processing
chemicals, inks, and bonding adhesives are obtained from various U.S. and
foreign suppliers.  However, certain photographic films are
commercially available solely from Eastman Kodak Company (Kodak) of the United
States.  No assurance can be given that Kodak will continue to supply
such photographic films on a satisfactory basis and in sufficient quantities to
meet our requirements.  If Kodak were to discontinue manufacturing the
film from which our optical media is made, we would endeavor to establish an
alternate supplier for such film, although the purchase price could increase and
reliability and quality could decrease from a new supplier. No assurance can be
given that there will be adequate demand to attract a second source. In
addition, an alternate supplier could encounter technical issues in producing
the film as there may be know-how and manufacturing expertise which Kodak has
developed over the years which an alternate supplier may have difficulty to
replicate.  We currently have on hand and on order enough of film
inventory to produce cards for orders projected over the next nine to fifteen
months. If Kodak announced that it would no longer offer film, we would request
that Kodak provide us with a last-buy opportunity which we would plan to take
maximum advantage of, although no assurance can be given that Kodak would
provide us with such an opportunity. We have film on hand plus on order that we
believe would provide us with an adequate supply to meet anticipated demand
until we could locate and begin volume purchases from a second
source.  In addition, we are researching other materials for use as
optical memory card media.
 
 LaserCard
Read/Write Drives; Manufacturing and Parts/Components
 
 Optical
memory cards are used in conjunction with a card read/write device (drive) that
connects to a personal computer.  The price, performance, and
availability of read/write drives are factors in the commercialization of
optical cards.  We maintain read/write drive manufacturing operations
in our Mountain View, California facility and have licensed Ritel of Italy for
drive manufacturing.  We continuously seek design and procurement
changes to improve performance and reduce the drive selling price although much
higher volumes would be required to significantly reduce the price
further.
 
 To
maintain adequacy of parts and components for the manufacture of read/write
drives, we attempt to establish ongoing relationships with principal suppliers
and obtain information about alternate suppliers.  If we are unable to
buy parts and components in sufficient quantities and on a timely basis, we
would not be able to deliver products to customers on time. We purchase
read/write drive parts for our anticipated read/write drive demand, taking into
consideration the order-to-delivery lead times of vendors and the economic
purchase order quantity for such parts.  The optical recording head
currently used is a custom part obtained from one supplier: Audio-Technica
Corp., of Japan.
 
 Application
Programming Interface (APIs) and Application Software
 
 APIs.  As part of
our read/write drive and system sales, we include a comprehensive set of APIs in
order for our customers to develop optical card applications.  An API
is a set of routines, protocols, and tools used by programmers for building
software applications.  LaserCard-related APIs control or facilitate
the basic operations and read/write functions of optical memory card drives so
that they can interface directly with personal computers.  We develop
LaserCard-related APIs such as device drivers, file system DLLs (dynamic link
libraries), and custom software tools to enhance read/write drive
integration.
 
 Custom
Applications.  We offer contract services for purchase by
customers that require custom programming in the development and integration of
their LaserCard® applications.  We also make software available for
purchase for demonstrating data storage, medical, and security concepts
involving the LaserCard®, software-development tools for related peripherals,
and a card issuance application software package.
 
 Application
Software.End-user application software is an important factor
in developing commercial markets for optical memory cards because it directs
computers to do specific tasks related to the customer's end-user application
for the LaserCard®.  Typically, our value-added resellers (VARs)
and/or their customers develop software for specific end-user
applications.  In this role, VARs may integrate optical card products
into existing software products, write new application software for specific
optical memory card programs, or license software from other
VARs.  Several VARs have written optical card software programs for
applications.  We market the BadgeMaker card personalization and
issuing applications used for card issuance and data management; and the
LaserBadgeTM derivative of BadgeMaker, and a Biometric ID Verification System
application.
  10
  API and
application software sales have not been a significant portion of revenues thus
far.  To date, our software development unless part of a contract has
been completed concurrent with the establishment of technological feasibility
has been charged to research and development expense in the accompanying
consolidated statements of operations.
 
 LaserCard
Biometric ID Verification System
 
 We have
developed a LaserCard Biometric ID Verification System that can quickly confirm
the authenticity and validity of optical memory card biometric ID cards sold to
the U.S. government, read and display digitally stored photographs and other
digital data from the cards, and biometrically verify the cardholders’
live-scanned fingerprints with the fingerprint templates stored on the cards at
time of card issuance.  We also are marketing the LaserCard Biometric
ID Verification System as a "concept" package, meaning that software which
performs the same functions (but not usable with U.S. government cards) is
available in customized form to other customers for government, industrial, and
commercial applications.
 
 Other
Advanced-Technology Cards
 
 CCD was
acquired by us on March 31, 2004 and is a recognized leader in Europe as a
provider of advanced contactless card solutions, primarily in the consumer,
special event, and access control sectors including gate systems for sporting
events and student ID cards for German universities.  CCD has the
production capacity to manufacture up to 20 million advanced-technology
specialty cards per year—including contactless RFID cards, and magnetic stripe
cards—and markets cards, card printers, and system solutions worldwide under the
Cards & More brand.  The CCD card manufacturing plant in Rastede,
Germany provides significant advanced-technology specialty card capacity and
product flexibility to our product line.  With expertise in
contactless IC technology and high resolution security printing, the European
factory positions us to move into new market areas.
 
 We
recently introduced a new secure, laser engravable passport data page product,
which features a unique hinge system designed to maximize durability when the
polycarbonate page is incorporated into a traditional passport
book.  The data page can include a range of security features and an
ICAO-compliant e-passport chip.  The passport issuer personalizes the
data page by laser engraving the passport holder’s facial image, demographics,
and ICAO-compliant machine readable data onto the data page.  We offer
the data page both with and without the ICAO standard e-passport chip through
partners to several countries in the process of upgrading their
passports.
 
 We also
offer turnkey non-optical card manufacturing facilities which include the supply
and installation of state-of-the-art card production equipment, transfer of
manufacturing know-how, training, and production support.
 
 Sales
and Marketing
 
 We market
our OMC products around the world, primarily through an indirect distribution
channel comprised of Authorized Value-Added Resellers (VARs) and System
Integrators (SIs).  We offer for sale through the channel optical
memory cards, optical card read/write drives and software, plus third-party
peripherals, application-specific software, and increasingly, enabling services
to assist in successful project implementation.  These enabling
services include custom software development, installation, training and support
and ID Management System modules such as integrated personalization solutions,
and data capture modules.
 
 VARs and
SIs typically add value in the form of application software development and
system integration.  Sales to national governments, our largest market
by volume and value, are almost exclusively indirect, through VARs and
SIs.  For example, products are sold indirectly to the government of
Italy by our Rome-based VAR, Laser Memory Card S.p.A.
 
 Revenues
by geographic region are shown in Note 4 of the “Notes to Consolidated Financial
Statements” in Item 8, “Financial Statements and Supplementary
Data.”  Virtually all foreign product and system sales have been made
through VARs and SIs.  We believe that international markets will be
an important source of product sales and license revenue growth into the
future.
  11
  Our
LaserCard® optical memory cards sales and activities are conducted through our
offices in Mountain View, California, New York, the Washington, D.C. area, and
Ratingen, Germany.  In addition, our website (www.lasercard.com)
supports worldwide marketing activities.  Our marketing and sales
staff, general management, and technical personnel work closely with customers
and provide pre-sales technical support to assist VARs and SIs.
 
 European
Operations.  Our German subsidiary, CCD, provides the marketing
base for most of Europe, Middle East, and Africa (EMEA) and Asia and gives us an
established footing in the European Union in the advanced-technology card
market.  CCD is a recognized leader in Europe as a provider of
advanced contactless card solutions, primarily in the consumer, special event,
and access control sectors.  CCD also heads our EMEA optical memory
card and systems sales effort.  We believe that the European marketing
base will accelerate EMEA acceptance of optical memory products in government
and commercial solutions.
 
 CCD
serves and supports its existing customer base for advanced-technology specialty
cards and card printers, while adding dedicated resources to build the optical
memory card business throughout the EMEA and Asia regions.  We intend
to focus principally on biometric ID solutions for national and regional
governments in these areas of the world, as well as promoting optical cards in
commercial and industrial markets which can benefit from the large data capacity
and robust security that optical cards offer.
 
 Marketing Objectives:  Our
principal objectives are to:
 
 ●
              Maintain,
      leverage and expand the existing optical memory card user community of
      national and regional governments worldwide●
              Increase
      revenues by selling enabling services, such as consulting, custom software
      development, and the development of integrated secure ID solutions, which
      can include data capture, personalization, and quality assurance
      modules●
              Increase
      market share for specialized cards and associated ID management solutions,
      such as major event badging and access control, and university student ID,
      and expand sales of these products and services into the
      Americas
 
 Licensing
 
 The
Company sold Prevent roll process optical card manufacturing equipment, granted
Prevent an intellectual property rights license, and agreed to provide support
to Prevent in its effort to establish an optical memory card manufacturing
facility in Slovenia, as described under Note 2, of the Notes to Consolidated
Financial Statements ” in Item 8, “Financial Statements and Supplementary
Data.”
  In March
2008, Ritel became our non-exclusive licensee to manufacture in Italy and
distribute world-wide our optical memory drives.  Ritel, an Italian
telecommunications and technology contract manufacturer, brings significant
manufacturing know-how, new production processes, and new product development
which could lead to lower cost drives.  At least initially, we expect
to supply parts sets to Ritel to manufacture the encoders with delivery of the
first 400 units expected for September 2008.
  Also from
time to time, we have offered other nonexclusive, royalty bearing licenses for
optical card read/write drive manufacture, for assembly of read/write drives
from kits, for optical card finishing using Company-supplied materials, and for
card manufacturing.  In the past, we also offered card distribution
licenses to create distributors in select regions of the world that can buy
cards wholesale from us at prices lower than those charged to VARs and other
customers. During the past five years, there have been no material purchases of
optical memory cards by these licensees.  We conduct our licensing
effort on a selective basis.  The timing, number, type, and magnitude
of future license sales, if any, cannot be predicted or inferred from past
events.  There is no assurance that any of our licensing effort will
be successful.
 
 There
were no license revenues earned during fiscal years 2008, 2007, and
2006.  At March 31, 2008 there were $23.8 million in advance payments
and $2.9 million in deferred revenue for the Prevent contract shown on our
consolidated balance sheet as long term liabilities as further described in
Management's Discussion and Analysis of Financial Condition and Results of
Operations—Results of Operation—License Fees and Other Revenues.
  12
 Competition
 
 Our
primary competition comes from other card technologies, principally IC Chips
(used in "smart cards") and RFID/contactless chips.  Other, less
significant competitors include 2-dimensional bar codes, optical CD or DVD Read
Only and Recordable and emerging holographic data storage.
 
 The
financial and marketing resources of some of our competitors are greater than
ours.  We believe that the LaserCard optical memory card's unsurpassed
security, counterfeit and tamper resistance, storage capacity, rugged card
construction, optional technology co-existence, ability to store audit trails,
and over all price-performance ratio make the LaserCard® optical memory card a
technology of choice for a variety of digital card applications, especially
where security is paramount.
 
 In
addition, centralized on-line databases combined with wide-area networks may
limit the penetration of optical memory cards in certain applications, and is a
form of competition.
 
 Smart Cards.  The
LaserCard® optical memory card competes primarily with cards that contain an IC
microprocessor and memory.  Known as "smart cards," or "chip cards,"
their prices and performance vary widely.  The smart card uses a much
lower cost read/write unit than is currently used with an optical card, although
in contrast to an optical card reader, smart card readers typically have no
intelligence and innate ability to recognize an authentic card.  A
typical smart card containing a 32-kilobyte IC Chip and a microprocessor is
generally lower in cost than a 2.8 megabyte optical memory card, although adding
operating systems, security certificates and applications to the smart card
increases the cost very significantly.  The IC card is more vulnerable
to tampering and can be more easily damaged in everyday use, whereas the card
construction and the use of polycarbonate plastic make the LaserCard® more
rugged.  Smart cards have less storage capacity than optical memory
cards and are a more volatile storage media.  They are mainly
used in widespread banking and financial applications in markets outside North
America as a more secure alternative to magnetic stripe
cards.  Companies that manufacture IC Chip cards of various types and
storage capacities include Gemalto, Giesecke & Devrient GmbH, Sharp, Sagem
Orga, and Oberthur Card Systems, many of which are substantially larger and have
more resources than we do.
 
 Contactless
Chips.Sometimes referred to as “RFID”, this technology has a
predominant background in transit fare token applications and facility access.
It has recently attracted a lot of attention for border facilitation and has
been seen as competition to optical memory card in these markets.
 
 Contactless
chips exhibit the same characteristics as the contact chips used on smart cards
– limited memory, volatile storage, a relative lack of durability, and very
low-cost associated read/write equipment albeit somewhat higher than the
read/write equipment for contact chips.  However, the technology has
proven itself effective in certain markets, such as access control. One
limitation of the typical contactless access control card is that there is no
control on who is carrying the card. Thus, the system will grant access to
anyone who finds or steals a genuine card.
 
 We
believe that there are often no absolutes in comparing one card technology with
another.  Rather, each technology will either stand on its own merits
when viewed against specific application requirements or a hybrid combination of
technologies may deliver the “best of all worlds”
solution.  Currently, only we offer hybrid cards combining the optical
memory technology of the LaserCard® with an embedded IC Chip (Optical/SmartTM) or
RFID chip (LaserPassTM).
 
 Other Card
Products.  Read-only memory cards such as 2-dimensional bar
code cards are lower priced and compete with our read/write optical memory cards
for certain markets, such as identification cards.  However, our cards
have significantly higher storage capacity and offer unique security features to
deter counterfeiting and data tampering.  Two-dimensional bar codes on
cards store relatively small amounts of static data compared to the LaserCard®
and are not updatable.  Moreover, alternative technologies—such as IC
Chips, radio frequency (RF) circuitry, and bar codes—can be incorporated into
our optical memory cards, thereby adding additional performance features to the
LaserCard®.  Experimental card technologies probably are under
development at other companies.
 
 Other Optical Memory Cards
and
Equipment.  We previously licensed our card patents to two
Japanese companies, Canon Inc. and Dai Nippon Printing Co., Ltd., which are not
manufacturing or selling such cards at this time.  In addition, as
described in the “Licensing” section, Prevent holds a card-manufacturing license
in Slovenia.  Under these royalty-bearing licenses, the licensees have
the right to manufacture and sell optical memory cards in competition with the
LaserCard®.  Prevent is not yet capable of manufacturing optical
cards, but has informed us that their goal is to become operational in about one
year.  Prevent could become a competitor in certain European
countries.  However, exclusivity provisions of the license preclude
competition in certain markets.  For example, we are prohibited from
competing in an Eastern European country, and Prevent is not authorized to
market outside of European countries.  Ritel of Italy is also licensed
to manufacture our optical memory drives and to distribute them
world-wide.
  13
  Recordable CD and DVD optical media
are currently made in card shaped form factors that function with standard CD
and DVD players.  These cards have high-data capacity, storing
hundreds of megabytes of data, and have high data transfer rates.  The
typical purchase price is less than $1.00 each for a blank card.  The
cards are typically 1.2-millimeter thick and therefore they do not meet the ISO
Standards for either credit cards or ID-1 identification cards and do not
exhibit the durability required of an ID card carried in the
wallet.  These cards typically serve other markets such as advertising
and promotional applications.
 
 Other
Matters
 
 Research
and Development
 
 Our research and development expenses
were $2.9 million for fiscal year 2008; $3.1 million for fiscal year 2007; and
$2.3 million for fiscal year 2006. We are continuing our effort to enhance our
optical memory card business, including to develop new optical memory card
features such as hybrid cards with contactless chips with radio frequency (RF)
capability, to augment our optical memory card media, to reduce the cost and
improve the performance of our optical memory card read/write drives and
read-only drives (readers), and to develop new OpticalProximityTM
systems, card personalization systems, and software products in an effort to
strengthen our existing products and provide new products that can stimulate
optical memory card sales growth.  For example, we have developed an
Optical/RFID card to compete in the emerging RFID marketplace.  We
anticipate that these ongoing research and development effort will result in new
or enhanced card capabilities, production-model read-only drives, or drives with
advanced security features and lower manufacturing costs; however, there is no
assurance that such product development effort will be
successful.  These factors are important for our existing and future
optical memory card markets.  Also see Item 7, "Management's
Discussion and Analysis.”
 
 Patents
and Trademarks
 
 Optical Data
Storage.  As of March 31, 2008, we owned approximately 21 U.S.
patents relating to optical data storage (including optical storage media,
optical cards, formats, equipment, systems, software, the utilization of optical
storage media, and e-commerce technology), and other U.S. and foreign patent
applications have been filed.  Approximately 30 counterpart patents of
certain U.S. patents are issued in various foreign
countries.  However, we own certain U.S. patents as to which foreign
counterparts have either not been filed or the examination process has been
terminated without issuance of the foreign patents.  From time to
time, we elect to allow some of our U.S. or foreign patents to expire when
maintenance fees become due if the patents are deemed no longer
relevant.  In addition, we protect as trade secrets some refinements
to the optical media and cards and know-how related to card
production.  Also, our know-how and experience in volume card
production; system development and software capabilities; brand-name recognition
within our card markets; and dominant-supplier status for optical-memory cards
are of far greater importance than our patents.  Therefore, at this
time, we believe that our patent portfolio is helpful but is no longer
materially meaningful for maintaining the LaserCard®’s market
position.
 
 Our U.S.
patents have expiration dates ranging from the period 2008 to 2023, with the
majority expiring during the first part of this period.  Counterpart
patents in foreign countries also expire during this period, usually about two
to three years after the U.S. patent expires.
 
 We cannot
predict whether the expiration or invalidation of our patents would result in
the introduction of competitive products which would adversely affect our future
revenues.  We presently intend to pursue any infringement of our
patents either by litigation, arbitration or negotiation.  However,
there can be no assurance that any of our patents will be sufficiently broad in
scope to afford protection from products with comparable characteristics that
may be sold by competitors in the future.  There also can be no
assurance that the validity of any patents actually granted will not be
challenged.
  14
 
 LaserCard®
is a federally registered trademark of LaserCard Corporation.  We
believe that our LaserCard® brand name, trade name, and other trademarks are
important assets in marketing optical memory card products.
 
 Employees
 
 As of
March 31, 2008, we employed 227 full-time, part-time, and agency personnel
(including four executive officers).  Our 140-person U.S. workforce
consisted of 118 personnel in administration, marketing/sales, manufacturing,
and research and development, plus 22 temporary personnel mainly engaged in
manufacturing and the inspection of cards for quality assurance.  The
German subsidiary employed 87 full and part-time personnel as of March 31,
2008.  None of our employees is represented by a labor union.
 
 Dependence
on Government Subcontracts through Sole Contractors
 
 The
largest purchaser of LaserCard products is a government prime contractor,
General Dynamics Information Technology (GDIT), previously Anteon International
Corporation. GDIT is the government contractor for our LaserCard® product sales
to the U.S. Department of Homeland Security (DHS), U.S. Department of State
(DOS), U.S. Department of Defense (DOD), and the government of
Canada.  Under government contracts with GDIT, the DHS purchases U.S.
Permanent Resident Cards (Green Cards) and DOS Laser Visa Border Crossing Cards
(BCCs); the DOD purchases Automated Manifest System cards; and the Canadian
government purchases Permanent Resident Cards.  Encompassing all of
these programs, our product sales to GDIT represented 29% of total revenues for
fiscal year 2008; 28% of total revenues for fiscal year 2007; and 31% of total
revenues for fiscal year 2006.  The slight increase in fiscal 2008 as
compared with fiscal 2007 was due to higher than average shipments of Canadian
Permanent Resident Cards in fiscal 2008.  The proportion of revenues
represented by GDIT decreased in fiscal year 2007 as compared to fiscal year
2006, and is anticipated to decrease in the future as we generate increased
revenues from other sources.  Since the ultimate customers are
national governments, we are not dependent upon any one specific contractor for
continued revenues from these programs. Although not anticipated, if GDIT were
to discontinue its participation as contractor, other qualified contractors
could be utilized by those governments for purchasing our products, although the
process of doing so could cause program delays.
 
 Sales of
DHS Green Cards and DOS Laser Visa BCCs represented approximately 20% of our
revenue for fiscal year 2008; 23% of revenues for fiscal year 2007; and 24% of
revenues for fiscal year 2006.  We are currently delivering on orders
placed under an up-to-five-year U.S. government subcontract received in March
2007 of which the first year was exercised.  Backlog at March 31, 2008
for these programs, which is deliverable through June 2008, totaled $1.6
million.
  Our
revenues derived from sales to the government of Italy for its citizen ID card
program, Carta d’Identità Elettronica (CIE), accounted for 1% of revenues for
fiscal year 2008 and 2007 and 18% of revenues for fiscal year
2006.  Revenues on the Italian foreign resident card program, Permesso
di Soggiorno Elettronico cards and Italian Carta di Soggiorno Elettronica cards,
(referred to on a combined basis as PSE/CSE) accounted for 7% of Company
revenues in fiscal year 2007.  There was no revenue recognized during
fiscal year 2008 for this program.  Card orders under these programs
are placed with us through our value-added reseller, Laser Memory Card
S.p.A.  The Italian government successfully concluded the experimental
phase of the CIE citizen ID program using LaserCard® optical memory cards and
enacted a law to replace paper ID documents with electronic documents starting
January 2006.  The program then stalled and has yet to be fully
implemented, although the Italian government did set the price citizens pay for
cards earlier in calendar year 2007.  If the CIE and PSE systems
function as designed, card orders could ramp toward their full implementation
level which could potentially result in annual revenues of $40 million for these
programs.  We received and shipped a small order for foreign language
versions of the CIE card during fiscal year 2008.  Since fiscal year 2005,
we have supplied approximately $15.4 million worth of optical memory cards and
more than 450 encoders for these programs.
 
 On
January 4, 2008, a Request for Proposal (RFP) was issued by Italy's state
printer, Istituto Poligrafico e Zecca dello Stato S.p.A. (Poligrafico), inviting
interested parties to submit their qualifications to bid on an anticipated
follow-on RFP for up to 60 million euros (approximately $88 million) in key
components and installation and support services for the national infrastructure
required to roll out the CIE card program.  The RFP specifies a
requirement for more than 9,000 enrollment workstations to be installed and
supported nationwide in regional and city-based service centers. The
workstations will be employed in gathering personal information of citizens
prior to issuance of their CIE ID cards.  The RFP also specifies
installation and support services for about 1,300 secure optical memory card
encoders.  While we do not provide these workstations and services,
this is a key step for building the infrastructure needed to move the program to
full implementation.  We believe that Poligrafico will request us to
supply the 1,300 encoders or part sets to Ritel via a separate purchase
order.  We believe these are positive signs for the growth of the CIE
program.
  15
 Backlog
 
 As of
March 31, 2008, the backlog for LaserCard® optical memory cards totaled $2.5
million scheduled for delivery through June 2008, compared with $5.7 million at
March 31, 2007, and $8.3 million at March 31, 2006.  We have only a
few customers who generally place orders for a several-month period so that
variations in order placement from a single customer can materially affect
backlog.  As a result, the relative size of our backlog has not been a
reliable indicator of our future sales revenue trends.
 
 The
backlog as of March 31, 2008 for specialty cards and printers totaled 1.1
million euros (approximately $1.8 million) compared with 0.6 million euros
(approximately $0.8 million) at March 31, 2007 and 0.8 million euros
(approximately $1.0 million) at March 31, 2006.
  In
addition, we have a contract to deliver a turnkey non-optical card manufacturing
facility in the Kingdom of Saudi Arabia valued at 5.9 million euros
(approximately $9.3 million) and a contract to develop a conventional
non-optical card production facility elsewhere valued at 0.5 million euros
(approximately $0.8 million) at March 31, 2008 compared with 0.7 million euros
(approximately $0.9 million) at March 31, 2007 and 0.7 million euros
(approximately $0.8 million) at March 31, 2006.  Revenue on the
contract for a conventional non-optical card production facility contract is
being recorded on a zero profit margin basis while the revenue recognition for
the manufacturing facility has been deferred.  Therefore, the total
profit under this contract will be recorded upon completion which is expected
during fiscal year 2009.
 
 We also
have received payment of approximately $27.0 million from our Prevent contract
for license fees and equipment for which revenue recognition has been
deferred.
 
 At March
31, 2008, our backlog in the drives, systems, and services was $1.1 million due
largely to the Costa Rica contract for an ID Management System for that
country’s Foreign Resident program.  We had no significant backlog for
drives, systems, and services at March 31, 2007, and 2006.
 
 Financial
Information About Geographic Areas
 
 Financial
information about geographic areas is described in Note 4 of the “Notes to the
Consolidated Financial Statements” in Item 8, “Financial Statements and
Supplementary Data.”
  16
 ITEM
1A. RISK FACTORS
  OUR
CURRENT AND FUTURE EXPECTED REVENUES ARE DERIVED FROM A SMALL NUMBER OF ULTIMATE
CUSTOMERS SO THAT THE LOSS OF OR REDUCTIONS IN PURCHASES BY ANY ONE ULTIMATE
CUSTOMER COULD MATERIALLY REDUCE OUR REVENUES AND LEAD TO
LOSSES.  During the fiscal year 2008 and each of the previous three
fiscal years, we derived on average 59% of our revenues from six programs ― twoU.S.
government programs and four foreign government programs.  Due to the
lengthy sales cycles, we believe that these programs, with perhaps the addition
of a few other foreign programs, will be the basis for a majority of our
revenues in the near-term.  The loss of or reductions in purchases by
any one customer due to program cutbacks, competition, or other reasons could
materially reduce our revenue base. Annual or quarterly losses have occurred
when there are material reductions, gaps or delays in card orders from our
largest U.S. or foreign government programs or if such programs were to be
reduced in scope, delayed, canceled, or not extended and not replaced by other
card orders or other sources of income.
 
 WE
INCURRED NET LOSSES DURING ALL BUT THREE OF THE PREVIOUS NINETEEN QUARTERS AND
MAY NOT BE ABLE TO GENERATE SUFFICIENT REVENUE IN THE FUTURE TO REGAIN
PROFITABILITY. Although we generated $3.3 million of profit during the three
quarters from October 1, 2005 through June 30, 2006, we incurred a loss for our
last seven quarters and we had incurred losses as well for the ten quarters
preceding the quarter ended October 1, 2005.  We incurred a loss for
fiscal year 2008 aggregating $7.2 million and a loss of $12.4 million for fiscal
year 2007, generated a profit of $0.8 million in fiscal year 2006, and had an
accumulated deficit of $46 million at March 31, 2008.  There can be no
assurance that we will generate enough revenues in the near term to achieve
profitability.  We are relying principally upon our optical memory
card technology to generate future product revenues, earnings, and cash
flows.  If alternative technologies emerge or if we are otherwise
unable to compete, we may not be able to achieve or sustain profitability on a
quarterly or annual basis.  Annual or quarterly losses would also
continue if increases in product revenues or license revenues do not keep pace
with increased expenses.
 
 OUR
PROGRAM IN ITALY, WHICH WE BELIEVE WILL BE ONE OF OUR LARGEST CUSTOMERS ONCE
FULLY IMPLEMENTED, MAY BE FURTHER DELAYED OR CANCELLED FOR REASONS OUTSIDE OUR
CONTROL WHICH WOULD CAUSE US TO HAVE LESS REVENUE THAN PLANNED AND WOULD LIKELY
LEAD US TO CONTINUED OPERATING LOSSES IF OTHER EXPECTED BUSINESS DOES NOT
MATERIALIZE.  We believe that the Italian government will be our
largest customer when the CIE program is fully implemented.  We expect
that CIE, and PSE/CSE card programs may comprise a significant portion of future
revenues.  Sales of cards and drives for the Italian government’s CIE,
and PSE/CSE card programs have been a small portion of our total revenue for the
past two years.  However, during fiscal year 2007, we increased card
manufacturing capacity to meet anticipated demand and we have expected a large
order since the first quarter of fiscal year 2007.  This order has not
yet been placed and there can be no assurance that the order will be placed in
the near-term or that demand will increase or be sustained as we
anticipate.  We would most likely continue to incur losses if full
implementation does not occur or if orders are further delayed, or if the
program is not implemented at the level foreseen or if the government was to
change its technology decision and no longer use optical memory cards and other
new programs do not materialize as expected.  While selected Italian
cities have issued cards and tested the distributed card issuing process and the
Italian government has recently solicited interested parties to provide their
qualifications for expansion of the data collection and issuance infrastructure,
full implementation is dependent upon regionalized and further decentralized
card issuance infrastructure developments being successfully undertaken and the
national ID card system functioning as designed, of which there can be no
assurance. Overcoming some of these issues may be difficult and complex and
involve third parties, which could be time consuming and expensive and lead to
further delays for implementation.  Ritel S.p.A, our new drive
manufacturing licensee in Italy may not devote substantial resources to the
program and as a result may not lead to further innovation and development of
lower cost drives.  In addition, our expectation that Italy’s state
printer, Istituto Poligrafico e Zecca dello Stato S.p.A. (Poligrafico) will
order about 1,300 secure optical memory card encoders may not materialize. Also
Poligrafico may not proceed timely with the planned expansion of infrastructure
for data collection, card issuance, and maintenance services.  In this
case, our estimate of $40 million in annual revenue at full implementation would
be further delayed and be at risk.
  17
  THE U.S.
GOVERNMENT, ONE OF OUR TWO LARGEST ULTIMATE CUSTOMERS, HAS THE RIGHT TO DELAY
ITS ORDERS OR COULD CHANGE ITS TECHNOLOGY DECISIONS, WHICH WOULD RESULT IN ORDER
DELAYS AND POSSIBLY IN OPERATING LOSSES. Our fiscal year 2008 revenues includes
sales of approximately $7.4 million of Green Cards and Laser Visa BCCs, and
comprised 20% of our total revenue.  We expect the Green Card revenue to
continue at approximately $8 million annually if the U.S. government continues
to use our cards in this program, continues to personalize cards at that rate
and continues to maintain an inventory level equal to six-months of
usage.  On April 2, 2007, we announced a subcontract with General
Dynamics Information Technology (GDIT) for the manufacture and supply of Green
Cards and Laser Visas.  The subcontract is for an initial 12-month
period with four optional one-year extensions of which the first year was
exercised. Under U.S. government procurement regulations, even with a contract
in place, the government reserves certain rights, such as the right to withhold
releases, to reduce the quantities released, extend delivery dates, reduce the
rate at which cards are issued, and cancel all or part of its unfulfilled
purchase orders.  At March 31, 2008 we have $1.6 million in backlog
for this program.  We have recorded revenues of $6.4 million for Green
Cards during fiscal year 2008.
 
 Also, the
Green Card is currently undergoing a redesign process.  As part of the
technology refreshment process, the DHS placed a $170,000 order to supply next
generation encoders and associated software for the Green Card
program.  It is possible that our revenue will be reduced during the
period of transition from the current card to the new design after which we
would expect orders to increase as their inventory is rebuilt to their desired
safety-stock level.  We would most likely have reduced operating
results if the Green Card program were to be delayed, canceled, or not extended
or if the government were to change its technology decision and no longer use
optical memory cards.
 
 The U.S.
government recently announced that it had awarded the Passport Card program to
another company for a non-optical card technology which we expect would replace
the Laser Visa BCCs if and when implemented unless the technology decision
changes.  Therefore, we may not receive further orders for Laser Visa
BCCs as the government has about 9 months of inventory on hand.  We
have recorded revenues of $1.0 million for Laser Visa BCCs during fiscal year
2008.
 
 OUR
OPTICAL MEMORY CARD PRODUCT REVENUES WILL NOT GROW IF WE DO NOT WIN NEW BUSINESS
IN THE U.S. OR ABROAD AND IF THE ITALIAN AND ANGOLAN NATIONAL ID PROGRAMS ARE
NOT IMPLEMENTED AS ANTICIPATED.  Our OMC revenues from our core
programs were $21.6 million, $16.3 million, and $25.7 million during fiscal
years 2008, 2007, and 2006, respectively.  These programs include the
U.S. Green Card, the Laser Visa BCC, the Canadian Permanent Resident Card, the
vehicle registration cards used by three states in India, Italy's national ID
program, and a national ID card used in the Kingdom of Saudi
Arabia.  During full implementation, we expect our revenues from
programs in Italy will reach approximately $40 million per year.  On
January 17, 2008, we announced that we were part of the winning team for a
national ID card project in Angola.  Revenues could total $90 million
over five years for this project.  We are also working on potential
secure ID card business in more than ten countries around the
world.  In order for us to achieve our overall revenue growth goal, we
will need the Italian programs to continue and reach their anticipated levels,
of which there can be no assurance, and we will also need to win some of the new
business opportunities we see in the U.S. and abroad.  Emerging
optical memory card programs or prospective applications include permanent
resident cards and national identification cards in several countries such as in
Angola as well as secure identification cards for governmental
agencies.  There can be no assurance that we will receive sizable
future orders for any of these programs, nor any assurance that we will be able
to win any other new business in the U.S. or abroad which is necessary to grow
our business to the level we desire.
 
 SINCE THE
SALES CYCLE FOR OUR PRODUCTS IS TYPICALLY LONG AND UNPREDICTABLE, WE HAVE
DIFFICULTY PREDICTING WHEN NEW BUSINESS WILL CONTRIBUTE TO REVENUE
GROWTH.  Obtaining substantial orders usually involves a lengthy sales
cycle, requiring marketing and technical time and expense with no guarantee that
substantial orders will result. This long sales cycle results in uncertainties
in predicting operating results, particularly on a quarterly basis. In addition,
since our major marketing programs involve the U.S. and various foreign
governments and quasi-governmental organizations, additional uncertainties and
extended sales cycles can result. Factors which increase the length of the sales
cycle include government regulations, bidding procedures, budget cycles, and
other government procurement procedures, as well as changes in governmental
policy.
  18
  WE COULD
EXPERIENCE EQUIPMENT, RAW MATERIAL, QUALITY CONTROL, OR OTHER PRODUCTION
PROBLEMS ESPECIALLY IN PERIODS OF INCREASING VOLUME.  There can be no
assurance that we will be able to meet our projected card manufacturing capacity
if and when customer orders reach higher levels. We have made and intend to
continue to make significant capital expenditures to expand our card
manufacturing capacity. For example, we may invest up to $7 million of capital
expenditures during the next twelve months assuming certain business
developments. However, since customer demand is difficult to predict, and we
generally wait for such demand to materialize prior to making capital
expenditure commitments, we may be unable to ramp up our production quickly
enough to fill new customer orders in a timely fashion. This could cause us to
lose new business and possibly existing business. In addition, if we
overestimate customer demand, we could incur significant costs from creating
excess capacity which was the case during fiscal years 2007 and
2008.  We may experience manufacturing complications associated with
increasing our manufacturing capacity of cards and drives, including the
adequate production capacity for sheet-lamination process cards to meet order
requirements and delivery schedules. We may also experience difficulties
implementing new manufacturing processes, meeting customers’ quality or
standards requirements, or outsourcing some of our manufacturing. The addition
of fixed overhead costs increases our breakeven point and results in lower
profit margins unless compensated for by increased product sales. When
purchasing raw materials for our anticipated optical card demand, we take into
consideration the order-to-delivery lead times of vendors and the economic
purchase order quantity for such raw materials. If we over-estimate customer
demand, excess raw material inventory can result.
 
 WE ARE
CURRENTLY OUR OWN SOLE SOURCE OF OPTICAL MEMORY CARDS AND SEVERAL OF THE STEPS
IN OUR CARD MANUFACTURING PROCESS HAVE NO BUILT-IN
REDUNDANCY.  THEREFORE, WE ARE SUSCEPTIBLE TO SUPPLY INTERRUPTIONS,
INCLUDING IF CERTAIN MACHINERY WERE TO BREAK DOWN.  MUCH OF OUR
MANUFACTURING EQUIPMENT IS COMPRISED OF CUSTOM VERSIONS OF MACHINERY SOME OF
WHICH IS MORE THAN 20 YEARS OLD.  IN ADDITION, WE ARE AT RISK OF
LOSING OR NOT OBTAINING CERTAIN PROGRAMS SHOULD THEY REQUIRE A SECOND
SOURCE.  We are the only source of our optical memory cards, making
them in our Mountain View facility using a proprietary manufacturing process,
with our German subsidiary capable of performing a few key steps in certain
instances.  We use a proprietary manufacturing process with custom
machinery and several of the steps in our card manufacturing process have no
built-in redundancy, or in some cases have the redundancy located in
Germany.  We are susceptible to supply interruptions or yield
decreases when our line goes down or malfunctions.  Much of our
machinery is comprised of customized versions of machinery which has long lead
times to replace and may be difficult to maintain or repair, requiring us to be
self-reliant.  Some of the machinery we use is more than 20 years old
and is no longer manufactured for others, which would require us to adapt a
newer version to our needs, which would involve additional delay and effort on
our part.  There are plans to establish additional optical card
manufacturing capability in Germany towards the end of fiscal year 2009 or
beginning of fiscal year 2010 which may alleviate some of the potential for
supply interruption in the future but there can be no assurance that we will
proceed as planned or be successful and such expansion may adversely affect
production efficiency while in progress.  If current or potential
customers require a second source for optical memory cards (which is a common
business practice), they could decide to use alternate technology cards, such as
chip cards, that may have multiple sources of supply.
 
 IF WE ARE
UNABLE TO BUY RAW MATERIALS IN SUFFICIENT QUANTITIES AND ON A TIMELY BASIS, WE
WILL NOT BE ABLE TO DELIVER PRODUCTS TO CUSTOMERS ON TIME WHICH COULD CAUSE US
TO LOSE CUSTOMERS, AND OUR REVENUES COULD DECLINE.  We depend on sole
source and limited source suppliers for optical card raw materials. Such
materials include plastic films used in optical memory card production, which
are available from one supplier in the U.S. and from multiple foreign suppliers.
Processing chemicals, inks, and bonding adhesives are obtained from various U.S.
and foreign suppliers. Certain photographic films are commercially available
solely from Eastman Kodak Company, of the United States.  We do not
expect any difficulty in obtaining the film necessary for orders projected over
the next nine to fifteen months considering the inventory currently on hand and
on order.  No assurance can be given that Kodak will continue to
supply such photographic films on a satisfactory basis and in sufficient
quantities although we believe Kodak will continue to supply such films for
several years.  If Kodak were to announce that it was no longer going
to sell film, we would request that Kodak provide us with a last-buy opportunity
which we would plan to take maximum advantage of in order to purchase from Kodak
sufficient supply of films to continue our card production until an appropriate
substitute can be found or developed, although no assurance can be given that
Kodak would provide us with such an opportunity.  Also we have ongoing
R&D effort in the area of alternate media, designed to develop an alternate
to the current Kodak film-based media, though there is no assurance that those
effort will be successful.
 
 THE
UNPRECEDENTED RISE IN PETROLEUM COST WOULD NEGATIVELY IMPACT OUR OPERATING
INCOME AND GROSS MARGIN IF RELATIVE INCREASES IN THE COST OF OUR PRODUCTION
MATERIALS SUCH AS THE POLYCARBONATE-BASED PRODUCTS OCCUR AND THE RELATED SELLING
PRICES ARE NOT ADJUSTED FOR INFLATION.  The polycarbonate raw material
for our cards is petroleum based.  The unprecedented rise in the cost
of petroleum could impact our costs for such raw material and lead to higher
energy bills for running our manufacturing facilities.  This could
lead to a decline in our gross margins and income unless we are able to adjust
our selling prices.
  19
 AN
INTERRUPTION IN THE SUPPLY OF READ/WRITE DRIVE PARTS OR DIFFICULTIES ENCOUNTERED
IN READ/WRITE DRIVE ASSEMBLY COULD CAUSE A DELAY IN DELIVERIES OF DRIVES AND
OPTICAL MEMORY CARDS AND A POSSIBLE LOSS OF SALES, WHICH WOULD ADVERSELY AFFECT
OUR OPERATING RESULTS.  Several major components of our read/write
drive are designed specifically for that unit. For example, the optical
recording head for the current drive is a part obtained from one supplier; and
at current production volumes, it is not economical to have more than one
supplier for this custom component. The ability to produce read/write drives in
high-volume, if required, will be dependent upon maintaining or developing
sources of supply of components that meet our requirements for high volume,
quality, and cost. In addition, we could encounter quality control or other
production problems at high-volume production of read/write drives. We are also
investing in research and development in an effort to develop new drive
products.
 
 IF WE ARE
UNABLE TO DEVELOP UPGRADED READ/WRITE DRIVES THAT COST LESS TO MANUFACTURE AND
ALSO A READ-ONLY DRIVE, WE COULD LOSE POTENTIAL NEW BUSINESS.  The
selling price of our read/write drive products range from $1,800 to
approximately $2,500 each depending on features and quantity
purchased.  We believe the price of our drives is competitive in
applications requiring a large number of cards per drive, because the relatively
low cost for our cards offsets the high cost per drive when compared with our
major competition, IC card systems. In addition, we have undertaken a product
development program for a portable read-only drive that has been sampled in
limited quantities at prices less than $1,000, which we believe would increase
our prospects for winning future business.  However, there can be no
assurance that our development program will be successful, that volume
production of any new design will occur in the near term, or that significantly
lower manufacturing costs or increased sales will result.
 
 WE MAY
NOT BE ABLE TO ADAPT OUR TECHNOLOGY AND PRODUCTS TO COMMERCIAL APPLICATIONS
WHICH GENERATE MATERIAL AMOUNTS OF REVENUE AND PROFIT.  THIS WOULD
LIMIT THE FUTURE GROWTH OF OUR BUSINESS TO THE GOVERNMENT SECTOR AND THE LACK OF
DIVERSIFICATION EXPOSES US TO ENHANCED RISK OF COMPETITION.  We are
exploring commercial applications for our optical memory products in order to
lessen our dependence upon the government sector.  We may be
unsuccessful in these effort in which case we would not obtain the diversity of
revenues we are seeking for the future.  If our customer base remains
limited to secure ID card applications for government use, then we are more
susceptible to other technologies and products making in-roads or to political
pressures or changing laws.
 
 IF WE ARE
UNABLE TO ADAPT TO TECHNOLOGICAL CHANGES IN THE SECURE ID CARD INDUSTRY AND IN
THE INFORMATION TECHNOLOGY INDUSTRY GENERALLY, WE MAY NOT BE ABLE TO EFFECTIVELY
COMPETE FOR FUTURE BUSINESS.  The secure ID technology industry is
characterized by rapidly changing technology and continuing product evolution.
The future success and growth of our business will require the ability to
maintain and enhance the technological capabilities of the LaserCard® product
line. There can be no assurance that our products currently sold or under
development will remain competitive or provide sustained revenue
growth.
 
 SEVERAL
OF OUR FOREIGN PROGRAMS INVOLVE OUR CARDS AS PART OF A SOLUTION WHICH INCLUDES
TECHNOLOGIES OF THIRD PARTIES.  SOMETIMES THESE THIRD PARTY
TECHNOLOGIES ARE INTEGRATED WITH OUR CARDS BY OUR SYSTEMS INTEGRATOR CUSTOMER OR
SUBCONTRACTOR.  WE THEREFORE HAVE VARYING DEGREES OF CONTROL OVER THE
OVERALL SYSTEM WHICH COULD LEAD TO TECHNICAL, QUALITY, AND SYSTEM COMPATIBILITY
ISSUES WHICH ARE DIFFICULT, EXPENSIVE, AND TIME CONSUMING TO SOLVE. THIS COULD
CAUSE OUR ULTIMATE CUSTOMERS, GENERALLY GOVERNMENTS, TO FIND FAULT IN OPTICAL
CARDS AND SWITCH TO OTHER SOLUTIONS EVEN THOUGH OUR OPTICAL TECHNOLOGY IS NOT
THE ROOT CAUSE OF ANY FAULT.  In certain of our current foreign
programs such as Italy, India, and the Kingdom of Saudi Arabia, and possibly in
other future programs, various third party technologies such as contact or
contactless chips are added to our cards.  The embedding or addition
of other technologies to the LaserCard® optical memory card, especially when
contracted to independent third parties, could potentially lead to technical,
compatibility and other issues.  In such circumstances, it may be
difficult to determine whether a fault originated with our technology or that of
a co-supplier or the person embedding or adding the third party technology to
our cards.  If such faults occur, they could be difficult, expensive,
and time-consuming to resolve.  Such difficulties could lead to our
ultimate customers, the foreign governments, switching to other technologies
even though optical technology is not the root cause of the
fault(s).  The resulting loss of customers would adversely affect our
revenues.
  20
  WE ARE
LARGELY DEPENDENT ON SYSTEMS INTEGRATORS FOR IMPLEMENTATION OF CARD PROGRAMS AND
THEIR METHOD OF IMPLEMENTATION MAY NOT BE SUCCESSFUL DUE TO QUALITY OR
COST.  We sell to VARs and system integrators who in turn sell
solutions to the end customer.  The integrators may not follow the
recommendations we provide for the handling, possible incorporation of smart or
RFID chips, processing, and/or printing on our cards and working with the
end-user in the card issuing process.  This could lead to low quality
or high costs or both resulting in damage to our reputation and/or loss of the
contract.  This happened in Costa Rica where we believe issues with
our systems integrator caused quality issues which have led us to deal directly
in this phase with the Costa Rican government.  We work to train the
integrators to avoid such situations, but cannot control their
work.  Also, we can step in to demonstrate how to successfully
implement an optical memory card issuing system.  We plan to continue
to offer this support and then transition the card issuing process to local
resources once the program is running successfully.  There can be no
assurance that issues with our systems integrators in the future will not damage
our reputation, reduce our revenues, or cause us to lose various governmental
programs.
 
 OUR
OPTICAL MEMORY CARDS HAVE A COMPLEX STRUCTURE THAT REQUIRES A HIGH DEGREE OF
TECHNICAL KNOWLEDGE AND EXPERIENCE TO MEET INCREASINGLY STRINGENT PERFORMANCE
REQUIREMENTS.  WE HAVE AND COULD IN THE FUTURE AGREE TO CERTAIN
CHARACTERISTICS BEYOND THOSE REQUIRED IN INDEPENDENTLY PUBLISHED
STANDARDS.  THIS COULD INCREASE OUR COST OF MANUFACTURING CARDS OR RESULT
IN ACCEPTING RETURNS OR GIVING CREDITS TO THE CUSTOMER.  MANY CUSTOMERS
MAINTAIN SIGNIFICANT ADVANCE INVENTORY WHICH INCREASES THIS
RISK.  There can be no assurance that we will be able to meet
customers’ quality or standards requirements consistently.  This could lead
to high manufacturing costs due to low product yields or unexpected product
returns.  We employ a rigorous quality control procedure, are ISO 9000
certified and we strive to deliver product that meets published standards and
customer expectations.  Even so, we cannot give assurance that our products
will meet customer expectations in all cases.  We have in the past, and we
may in the future, replace product held by the customer or give credit for
products previously delivered.
 
 IF WE
FAIL TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS, COMPETITORS MAY BE ABLE TO USE
OUR TECHNOLOGIES, WHICH COULD WEAKEN OUR COMPETITIVE POSITION, REDUCE REVENUES,
OR INCREASE COSTS.  We use a combination of patent, trademark, and
trade secret laws, confidentiality procedures, and licensing arrangements to
establish and protect our proprietary rights. Our existing and future patents
may not be sufficiently broad to protect our proprietary technologies. Despite
our effort to protect proprietary rights, we cannot be certain that the steps we
have taken will prevent the misappropriation or unauthorized use of our
technologies, particularly in foreign countries where the laws may not protect
proprietary rights as fully as U.S. law. Any patents we may obtain may not be
adequate to protect our proprietary rights. Our competitors may independently
develop similar technology, duplicate our products, or design around any of our
issued patents or other intellectual property rights. Litigation may be
necessary to enforce our intellectual property rights or to determine the
validity or scope of the proprietary rights of others. This litigation could
result in substantial costs and diversion of resources and may not ultimately be
successful. We cannot predict whether the expiration or invalidation of our
patents would result in the introduction of competitive products that would
affect our future revenues adversely. However, since our technology is now in
the commercial stage, our know-how and experience in volume card production,
system development and software capabilities, brand-name recognition within our
card markets, and dominant-supplier status for optical memory cards are of far
greater importance than our patents. At this time, we believe that our existing
patent portfolio is helpful but is no longer essential for maintaining the
LaserCard® optical memory card's market position.
 
 THE
MARKETS FOR OUR PRODUCTS ARE COMPETITIVE, AND IF WE ARE UNABLE TO COMPETE
SUCCESSFULLY, REVENUES COULD DECLINE OR FAIL TO GROW.  Our optical
memory cards may compete with optical memory cards that can be manufactured and
sold by three of our licensees (although none is currently doing so) and with
other types of portable data storage cards and technologies used for the storage
and transfer of digital information.  These may include contact or
contactless integrated circuit (IC) chip cards; holographic optical storage
cards, 2-dimensional bar code cards and symbology cards; thick, rigid CD or DVD
read-only cards or recordable cards; radio frequency, or RFID cards; and small,
digital devices such as data-storage keys, tokens, and small cards and
tags.  The financial and marketing resources of some of the competing
companies are greater than our resources.  Competitive product factors
include system/card portability, interoperability, price-performance ratio of
cards and associated equipment, durability, environmental tolerance, and card
security. Although we believe our cards offer key technological and security
advantages for certain applications, the current price of optical card
read/write drives is a competitive disadvantage in some of our targeted
markets.  However, we believe the price of our drives is competitive
in applications requiring a large number of cards per drive, because the
relatively low cost for our cards offsets the high cost per drive when compared
with our major competition, IC card systems.  In countries where the
telecommunications infrastructure is extensive and low cost, centralized
databases and wide-area networks may limit the penetration of optical memory
cards.  These trends toward Internet, intranet, and remote wireless
networks will in some cases preclude potential applications for our
cards.
  21
 THE PRICE
OF OUR COMMON STOCK IS SUBJECT TO SIGNIFICANT VOLATILITY.  The price
of our common stock is subject to significant volatility, which may be due to
fluctuations in revenues, earnings, liquidity, press coverage, financial market
interest, trading volume, and stock market conditions, as well as changes in
technology and customer demand and preferences.  As a result, our
stock price might be low at the time a stockholder wants to sell the stock.
Also, since we have a relatively low number of shares outstanding (approximately
12 million shares) there will be more volatility in our stock if one or two
major holders, for example, large institutional holders, attempt to sell a large
number of shares in the open market.  Furthermore, our trading volume
is often small, meaning that a few trades may have disproportionate influence on
our stock price.  In addition, someone seeking to liquidate a sizeable
position in our stock may have difficulty doing so except over an extended
period or privately at a discount.  Thus, if one or more stockholders
were to sell or attempt to sell a large number of its shares within a short
period of time, such sale or attempt could cause our stock price to
decline.  There can be no guarantee that stockholders will be able to
sell the shares that they acquired at a price per share equal to the price they
paid for the stock.
 
 WE ARE
SUBJECT TO RISKS ASSOCIATED WITH CHANGES IN FOREIGN CURRENCY EXCHANGE
RATES.  Part of the manufacturing process of certain LaserCard
products that we sell outside the U.S. takes place in our operations in
Germany.  Also, some of the raw materials we use to manufacture
optical memory cards are sourced in Europe.  These costs are
denominated in euros, the currency used in much of Europe.  However,
when we sell our finished products, the prices that we charge are denominated in
U.S. dollars.  Accordingly, we are subject to exposure when the
exchange rate for euros increases in relation to the U.S.
dollar.  Recent declines in the U.S. dollar value relative to the euro
and other currencies, if not reversed, will further result in increases in raw
material costs.  As of March 31, 2008, we had not entered into a
forward exchange contract to hedge against or potentially minimize the foreign
currency exchange risk related to transactions other than those related to
inter-company payables and receivables.  The losses on foreign
currency exchange related to purchase transactions and intercompany receivables
for both fiscal years 2008 and 2007 were immaterial.
 
 WE HAVE
INVESTED A SIGNIFICANT PORTION OF OUR CASH IN AUCTION RATE SECURITIES, WHICH
SUBJECTS US TO LIQUIDITY RISK AND COULD REQUIRE US TO RECORD FURTHER IMPAIRMENT
CHARGES IF THE FAIR VALUE OF THESE INVESTMENTS DECLINE PERMANENTLY OR ARE
OTHER-THAN TEMPORARILY IMPAIRED.  IN ADDITION, SHOULD WE UNEXPECTEDLY
REQUIRE ADDITIONAL CASH RESOURCES, AN ABSENCE OF LIQUIDITY FROM THESE
INVESTMENTS COULD REQUIRE US TO SEEK FUNDS ELSEWHERE, WHICH MAY BE MORE
UNATTRACTIVE OR UNAVAILABLE.  Auction rate securities are securities
that are structured with short-term interest rate reset dates of generally 28 to
35 days but with contractual maturities that can be well in excess of ten
years.  Our auction rate securities consist of investments that are secured
by pools of student loans which are guaranteed for 95% of principal and interest
under the Federal Family Education Loan Program (“FFELP) and are AAA
rated.  We do not own, and have not invested in, any auction rate
securities secured by mortgages or collateralized debt obligations.  At the
end of each reset period, we can sell or continue to hold the securities at par
value. This auction process has historically provided a liquid market for
auction rate securities.  Recently, however, certain auction rate
securities experienced failed auctions due to sell orders exceeding buy orders.
 We continued to see deterioration in the market for these types of
securities which spread from initially primarily subprime mortgage related
securities to other forms of securities. We believe that the credit quality of
these securities is high based on these guarantees.  The funds associated
with failed auctions will not be accessible until a successful auction occurs, a
buyer is found outside of the auction process, or the underlying securities have
matured or are recalled by the issuer.  Given the recent disruptions in the
credit markets and the fact that the liquidity for these types of securities
remains uncertain, as of March 31, 2008, we have classified all of our auction
rate securities as a long-term asset in our consolidated balance sheet as our
ability to liquidate such securities in the next 12 months is
uncertain.  We have also recorded a temporary impairment within other
accumulated comprehensive loss of approximately $0.6 million at March 31, 2008,
related to these auction rate securities and we may have to incur further
temporary impairment if the situation does not change.  If the fair
value of these investments declines permanently or is other-than temporarily
impaired, we would be required to take a further impairment charge which would
flow through our income statement as an expense and could cause us to incur a
loss for the relevant fiscal period.
  22
 
 We
believe that we have sufficient available cash to execute our business plan for
fiscal 2009 as we expect the estimated level of revenues and customer advance
payments over the next twelve months to be sufficient to generate cash from
operating activities over the same period.  A portion of our capital
expenditures will require debt financing which we believe can be obtained on
reasonable terms.  Although quarterly fluctuations are expected, we do
not expect to have a need for liquidity for our funds invested in auction rate
securities during fiscal 2009 or 2010 to fund our
operations.  However, operating cash flows could be negatively
impacted to a significant degree if our largest U.S. government program were to
be delayed, reduced, canceled, or not extended; if the Angolan national ID card
program does not materialize as planned internally; and if these programs are
not replaced by other card orders or other sources of income.  Should
we unexpectedly require additional cash resources, an absence of liquidity from
our auction rate investments could require us to seek funds elsewhere, which may
be more unattractive or unavailable.
 
 WE SOLD A
CARD MANUFACTURING LICENSE UNDER WHICH WE WILL PROVIDE CERTAIN FACTORY SET-UP
AND TRAINING SERVICES TO PREVENT OF SLOVENIA.  IF WE AND PREVENT ARE
SUCCESSFUL, THEY COULD COMPETE WITH US FOR BUSINESS.  We will be
obligated to deliver the contracted manufacturing equipment and installation
support to Prevent for its to-be-built new card manufacturing facility in
Slovenia, to provide a targeted initial manufacturing capacity of 10 million
optical cards annually.  We will also be assigning a person to be on
site during the license term, if such option is elected by Prevent, to assist
with quality, security, and operational procedures, with a mutual goal that the
facility and the cards made in Slovenia conform to our standards.  If
cards are not produced in conformance with our quality standards, the reputation
and marketability of optical memory card technology could be
damaged.  If the factory does not become operational and produce
quality cards in high volume, or if Prevent is unable to raise sufficient
capital to build, equip and operate this facility, we would not obtain the
hoped-for benefits--including ongoing royalties, sales of raw materials to
Prevent, and expansion of the European market.  On the other hand, if
and when the factory is successfully manufacturing the cards in high volume, it
could compete against us for business in certain territories, which could reduce
our potential card revenues if the market does not expand.  Revenue on
the contract will be recognized when the equipment has been accepted and
training completed, which date is dependent in part on Prevent providing a
facility in Slovenia.  We could incur greater expenses than we
anticipate for the purchase and installation of the required manufacturing
equipment, thereby reducing cash and anticipated profits.
 
 WE MAY
NOT BE ABLE TO ATTRACT, RETAIN OR INTEGRATE KEY PERSONNEL, WHICH MAY PREVENT US
FROM SUCCEEDING.  IN PARTICULAR, OUR CEO, RETIRED AFTER MORE THAN 25
YEARS OF SERVICE ON MARCH 31, 2008.  OUR CHAIRMAN OF THE BOARD HAS
BEEN ACTING PART-TIME AS INTERIM CEO UNTIL WE COULD RECRUIT OUR NEW CEO WHO
BEGINS WORK ON JUNE 2, 2008 AND WILL BECOME OUR CEO AFTER THIS FORM 10-K IS
FILED.  IF WE ARE UNABLE TO EFFECT A SMOOTH TRANSITION, OR IF OUR NEW
CEO SHOULD UNEXPECTEDLY PROVE TO BE UNSUITED FOR OUR COMPANY, THE RESULTING
DISRUPTION COULD NEGATIVELY IMPACT OUR OPERATIONS AND IMPEDE OUR ABILITY TO MAKE
MAJOR DECISIONS.  Our success will depend on the continued service of
key management personnel.  We may not be able to retain our key
personnel or attract other qualified personnel in the future.  The
loss of services of any of the key members of our management team, including our
chief executive officer, chief operating officer, the managing directors of our
German operations, vice president of business development or our vice president
of finance and CFO, and others or our failure to attract and retain other key
personnel could disrupt operations and have a negative effect on employee
productivity and morale, thus decreasing production and harming our financial
results.  In addition, the competition to attract, retain and motivate
qualified personnel is intense.  We have just completed a nationwide
recruiting search to replace our chief executive officer who retired on March
31, 2008, and in the interim our Chairman served part-time as CEO.  We
will now need to effect a transition to our new CEO and difficulties in
effecting a smooth and timely transition could adversely impact our operations
and impede our ability to make major decisions.  While we believe our
new CEO is well suited and qualified to run our business, should he prove
otherwise, that could also adversely impact our operations and
decision-making.
 
 OUR
CALIFORNIA FACILITIES ARE LOCATED IN AN EARTHQUAKE ZONE AND THESE OPERATIONS
COULD BE INTERRUPTED IN THE EVENT OF AN EARTHQUAKE, FIRE, OR OTHER
DISASTER.  Our card manufacturing, corporate headquarters, and drive
assembly operations, administrative, and product development activities are
located near major earthquake fault lines.  In the event of a major
earthquake, we could experience business interruptions, destruction of
facilities and/or loss of life, all of which could materially adversely affect
us.  Likewise, fires, floods, or other events could similarly disrupt
our operations and interrupt our business.
  23
  FOREIGN
GOVERNMENT INTERVENTION COULD ADVERSELY AFFECT RESULTS OF
OPERATIONS.  Economic, political and other risks associated with
foreign operations could adversely affect our international sales.  We
sell our products worldwide and therefore, our business could be subject to
risks due to changes in a country’s or region’s political or economic
conditions.  Differing tax laws and changes in those laws may also
affect future results of our operations.
 
 PANDEMICS
THROUGHOUT THE WORLD COULD ADVERSELY AFFECT OUR BUSINESS.  The
occurrence of a pandemic such as the Bird Flu coupled with the lack of
government readiness and support in those countries where we do business could
temporarily impede our revenue growth.
 
 ACTS OF
TERRORISM OR WAR MAY ADVERSELY AFFECT OUR BUSINESS.  Acts of
terrorism, acts of war, and other events may cause damage or disruption to our
properties, business, employees, suppliers, distributors, resellers, and
customers, which could have an adverse effect on our business, financial
condition, and operating results.  Such events may also result in an
economic slowdown in the United States or elsewhere, which could adversely
affect our business, financial condition, and operating results.
 
 AS A
RESULT OF OUR REQUIRED ANNUAL EVALUATION OF OUR INTERNAL CONTROLS OVER FINANCIAL
REPORTING, WE MAY IDENTIFY INTERNAL CONTROL WEAKNESSES NEEDING REMEDIATION,
WHICH COULD HARM OUR REPUTATION.  We have completed the evaluation of
our internal controls over financial reporting as required by Section 404 of the
Sarbanes-Oxley Act of 2002 for the fiscal years ended March 31, 2008 and 2007.
Although our assessment, testing and evaluation resulted in our conclusion that
as of March 31, 2008 and 2007, our internal controls over financial reporting
were effective, we cannot predict the outcome of our testing in future periods.
Because of the inherent limitation of disclosure controls, no evaluation of such
controls can provide absolute assurance that all control issues and instances of
fraud, if any, within our Company have been detected.  If our internal
controls are found to be ineffective in future periods, our reputation could be
harmed.  We may incur additional expenses and commitment of
management’s time in connection with further evaluations, both of which could
materially increase our operating expenses and accordingly reduce our net
income.
 
 BEGINNING
WITH OUR FISCAL YEAR 2007, WE WERE REQUIRED TO RECORD COMPENSATION EXPENSE FOR
STOCK OPTIONS, THEREBY REDUCING OUR EARNINGS.  THIS COULD LEAD TO
REDUCED ENTERPRISE VALUE AND TO OUR GRANTING FEWER OPTIONS WHICH COULD HURT OUR
ABILITY TO RECRUIT AND RETAIN EMPLOYEES.  In December 2004, the
Financial Accounting Standards Board (“FASB”) issued Financial Accounting
Standard 123(R) (SFAS No. 123(R)) that requires the fair value of all
equity-based awards granted to employees be recognized in the statement of
operations as compensation expense, for fiscal years beginning after December
15, 2005, rather than just to disclose such expense in a footnote as we have
done in the previous years.  The adoption of this accounting standard
reduced our profitability as measured by generally accepted accounting
principles (GAAP) due to our outstanding options and our current intention to
continue to grant options in the future as an incentive and retention tool for
our employees.  This may adversely affect our stock
price.  For example, during fiscal years 2008 and 2007, we recognized
approximately $2.0 million and $1.7 million, respectively, of additional
expenses due to SFAS No. 123(R) which we would not otherwise have
recognized.  Such adoption has also led us to reduce our use of stock
options and to award restricted shares and restricted stock
units.  While all of these equity awards help align our employees’
long-term interests with increasing our enterprise value, options provide more
of a reward if enterprise value substantially increases.  Our reduced
use of options could hurt our ability to recruit employees and retain existing
employees and directors.
 
 24
 
 ITEM
1B.  UNRESOLVED STAFF COMMENTS
 
 Not
applicable.
 
 ITEM
2.     PROPERTIES
 
 Mountain
View, Ca
 
 As of
March 31, 2008, approximately 70,000 square feet of floor space are leased by us
on a long-term basis for card manufacturing, read/write drive production,
administration, sales, and research and development, in two buildings located in
Mountain View, California.  These facilities have a current total
annualized rental of approximately $885,000 on leases that will expire in
October 2013 and in March 2014.  One 27,000-square foot building is
used for optical memory card production and one 43,000 square-foot building is
used for optical card production, read/write drive production, administration,
sales, and research and development.
 
 Germany
 
 We lease
a portion of a building in Ratingen, Germany, and a building in Rastede, Germany
totaling approximately 15,000 square feet, for optical and specialty card
manufacturing, distribution, administration and sales, for a total annualized
rental of 239,000 euros on leases that will expire on dates from February 2009
to August 2009.  Also, we own land and approximately 14,000 square
foot building in Rastede, Germany that is used in production of specialty cards
and research and development.
 
 Other
 
 We also
lease small offices in New York and in the Washington D.C. area for marketing
and sales.
 
 We
believe these leased and owned facilities to be satisfactory for our present
operations.  Upon expiration of the leases, we believe that these or
other suitable buildings will be available to be leased on a reasonable
basis.
 
 ITEM
3.   LEGAL PROCEEDINGS
 
 From time
to time we are a party to litigation matters and pending or threatened claims
and assessments that are normal in the course of our operations. While we
believe that the ultimate outcome of these matters will not have a material
adverse effect on our consolidated financial position, consolidated results of
operations or consolidated cash flows, the outcome of these matters is not
determinable and negative outcomes may adversely affect our consolidated
financial position, liquidity, or consolidated results of
operations.
 
 ITEM
4.   SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS
 
 None.
  25
  PART II
 
 ITEM
5. MARKET
FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES
OF EQUITY SECURITIES
 
 Our only
class of common stock, $0.01 par value, is traded on The Nasdaq Global Market
under the symbol LCRD and is quoted in The Wall Street Journal and
other newspapers.  Stock price information and other data also can be
obtained on the Internet directly from Nasdaq at: www.nasdaq.com.The table below sets forth
the high and low trade prices for our common stock (rounded to two decimal
points) as reported by Nasdaq during the fiscal periods indicated.
  QUARTERLY
STOCK PRICES
  Fiscal
      Year 2008
                
                
                Fiscal
      Year 2007High Trade
                
                
                Low Trade
                
                
                High Trade
                
                
                Low TradeFirst
      Quarter
                
                $
                13.30
                
                
                $
                9.96
                
                
                $
                22.70
                
                
                $
                11.24Second
      Quarter
                
                
                12.74
                
                
                
                9.75
                
                
                
                14.15
                
                
                
                9.40Third
      Quarter
                
                
                11.54
                
                
                
                8.80
                
                
                
                13.92
                
                
                
                10.00Fourth
      Quarter
                
                
                12.94
                
                
                
                7.37
                
                
                
                14.02
                
                
                
                9.51
 
 As of
March 31, 2008, there were approximately 682 holders of record of our common
stock.  The total number of stockholders is believed by us to be
several thousand higher since many holders’ shares are listed under their
brokerage firms’ names.
 
 We have
never paid cash dividends on our common stock. We anticipate that for the
foreseeable future we will retain any earnings for use and reinvestment in our
business.
 
 We did
not repurchase any of our outstanding shares or other securities during our
fourth quarter ended March 31, 2008.
 
 For
information regarding securities authorized for issuance under equity
compensation plans, see Part III, Item 12 below on page 84.
 
 Stock
Performance Graph
 
 In the
following stock performance graph, the cumulative total return on investment for
the our common stock over the past five fiscal years is compared with the
Russell 2000 Stock Index (“Russell 2000”) and the University of Chicago Center
for Research in Security Prices (CRSP) Total Return Index for the Nasdaq
Stock Market Electronic Components industry group (“Nasdaq Electronic
Components”). The Russell 2000 is a benchmark index for small capitalization
stocks. The Nasdaq Electronic Components index is used because the majority of
our revenues currently are derived from the sale of optical recording media
(optical memory cards). The chart assumes that the value of the investment in
our stock and each index was $100 on March 31, 2003, and that any dividends
were reinvested.
  26
 
 The stock
performance graph was plotted using the following data:
  Fiscal
      Years Ended March 31,2003
                
                
                2004
                
                
                2005
                
                
                2006
                
                
                2007
                
                
                2008LaserCard
      Corporation
                
                $
                100.00
                
                
                $
                91.86
                
                
                $
                34.34
                
                
                $
                155.17
                
                
                $
                81.31
                
                
                $
                58.55Russell
      2000
                
                
                100.00
                
                
                
                163.83
                
                
                
                172.70
                
                
                
                217.34
                
                
                
                230.18
                
                
                
                200.25NASDAQ
      Electronic Components
                
                
                100.00
                
                
                
                172.38
                
                
                
                143.55
                
                
                
                159.34
                
                
                
                147.79
                
                
                
                144.65
  27
  ITEM
6.  SELECTED FINANCIAL DATA
 
 The following selected consolidated
financial information as of and for each of the five fiscal years in the period
ended March 31, 2008 is derived from our consolidated financial statements. This
financial data should be read in conjunction with the consolidated financial
statements and "Management's Discussion and Analysis of Financial Condition and
Results of Operations" appearing in Item 7 of this report.
 
 LASERCARD
      CORPORATION AND SUBSIDIARIESFIVE-YEAR
      SUMMARY OF CONSOLIDATED FINANCIAL INFORMATIONFiscal
      Years Ended March 31, 2004 - 2008(In
      thousands, except per share amounts)STATEMENT
      OF OPERATION DATA
                
                2008
                
                
                2007
                
                
                2006
                
                
                2005
                
                
                2004
      (1)Revenue
                
                $
                37,008
                
                
                $
                32,270
                
                
                $
                39,857
                
                
                $
                28,544
                
                
                $
                16,963Cost
      of sales
                
                
                27,009
                
                
                
                25,406
                
                
                
                24,804
                
                
                
                22,637
                
                
                
                13,157Gross
      profit
                
                
                9,999
                
                
                
                6,864
                
                
                
                15,053
                
                
                
                5,907
                
                
                
                3,806Selling,
      general, and administrative expenses
                
                
                15,253
                
                
                
                13,575
                
                
                
                11,949
                
                
                
                11,891
                
                
                
                6,700Research
      and development expenses
                
                
                2,878
                
                
                
                3,095
                
                
                
                2,338
                
                
                
                3,018
                
                
                
                2,620Impairment
      of goodwill and intangible assets
                
                
                —
                
                
                
                3,811
                
                
                
                —
                
                
                
                —
                
                
                
                —Interest
      and other income, net
                
                
                812
                
                
                
                895
                
                
                
                471
                
                
                
                240
                
                
                
                176Income
      (loss) before income taxes
                
                
                (7,320
                )
                
                
                (12,722
                )
                
                
                1,237
                
                
                
                (8,762
                )
                
                
                (5,338
                )Income
      tax (benefit) provision
                
                
                (114
                )
                
                
                (351
                )
                
                
                443
                
                
                
                139
                
                
                
                7,089Net
      income (loss)
                
                $
                (7,206
                )
                
                $
                (12,371
                )
                
                $
                794
                
                
                $
                (8,901
                )
                
                $
                (12,427
                )Net
      income (loss) per share:Basic
                
                $
                (0.60
                )
                
                $
                (1.05
                )
                
                $
                0.07
                
                
                $
                (0.78
                )
                
                $
                (1.15
                )Diluted
                
                $
                (0.60
                )
                
                $
                (1.05
                )
                
                $
                0.07
                
                
                $
                (0.78
                )
                
                $
                (1.15
                )Weighted
      average number of commonand
      common equivalent shares:Basic
                
                
                11,929
                
                
                
                11,814
                
                
                
                11,415
                
                
                
                11,362
                
                
                
                10,761Diluted
                
                
                11,929
                
                
                
                11,814
                
                
                
                11,587
                
                
                
                11,362
                
                
                
                10,761BALANCE
      SHEET DATACurrent
      assets
                
                $
                23,625
                
                
                $
                37,304
                
                
                $
                39,574
                
                
                $
                21,310
                
                
                $
                23,294Current
      liabilities
                
                
                9,866
                
                
                
                9,083
                
                
                
                9,228
                
                
                
                6,764
                
                
                
                11,271Total
      assets
                
                
                56,306
                
                
                
                58,100
                
                
                
                62,335
                
                
                
                48,768
                
                
                
                49,835Long-term
      liabilities
                
                
                28,714
                
                
                
                26,418
                
                
                
                21,090
                
                
                
                15,326
                
                
                
                2,878Stockholders'
      equity
                
                
                17,726
                
                
                
                22,599
                
                
                
                32,017
                
                
                
                26,678
                
                
                
                35,686(1)
      Fiscal year 2004 statement of operation data does not include results of
      our German subsidiary acquired on March 31, 2004.
  28
  ITEM 7.
              MANAGEMENT'S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS
 
 The
following management’s discussion and analysis, contains forward-looking
information that you should read in conjunction with the audited consolidated
financial statements and notes to consolidated financial statements that we have
included elsewhere in this Annual Report on Form 10-K. For this purpose, any
statements contained in this report that are not statements of historical facts
may be deemed to be forward-looking statements.
 
 Forward-Looking
Statements.  For a discussion of the risk factors related to
our business operations, please refer to the “Forward-Looking Statements”
section starting at page 4 of this report and the section entitled “Risk
Factors” starting at page 17 of this report.  Our actual results may
differ materially from the plans, intentions or expectations we disclose in the
forward-looking statements we make. We are not obligated to publicly update any
forward-looking statements, whether as a result of new information, future
events or otherwise.
 
 Overview
 
 We are
headquartered in Mountain View, California where we manufacture LaserCard®
optical memory cards and card related products, including chip-ready
Optical/SmartTM cards.  In addition, we operate a wholly owned German
subsidiary, Challenge Card Design Plastikkarten GmbH (“CCD”), with offices in
Rastede and Ratingen, Germany, which manufactures advanced-technology cards, can
provide manufacturing capacity for certain steps of optical memory card
production, and markets cards, system solutions, and thermal card
printers.  We operate in three reportable segments (See “Segment
Reporting” in Note 4 of the Notes to Consolidated Financial Statements in Item
8, “Financial Statements and Supplementary Data,” for additional industry
segment information.)
 ●
              Optical Memory
      Cards●
              Drives, Systems and
      Services (which we formerly called the “optical memory card
      drives”)●
              Specialty
      Cards and Card Printers
 
 We sell
our products and services through partners such as value added resellers (VARs)
and system integrators (SIs) who generally have specific experience in the
development of markets and applications for LaserCard products.  We
have sales staff located in California, the Washington D.C. area, and
Germany, whose principal role is developing and supporting the reseller
channel.
 
 Revenue
is derived mainly from advanced technology cards, such as optical memory,
contact, contactless and RFID cards, and from high quality specialty cards for
applications such as major event badging and access control. The remainder of
our revenue comes from a variety of activities including the sale of enabling
services, such as consulting, custom application development and the integration
of ID Management Solution modules, such as data capture, card personalization
and quality assurance; and from card factory design and equipment sales,
knowledge transfer and licensing.
 
 Our
reseller partners generally add value in the form of application software
development, system integration, installation, training and support services. We
are continuing our program to recruit new VARs and SIs in strategically
important markets.
 
 The table
below presents consolidated revenues, excluding inter-company transactions,
recorded by our U.S. and German operations for the fiscal years ended March 31
(in thousands):
  2008
                
                
                2007
                
                
                2006U.S.
      operations
                
                $
                23,778
                
                
                $
                20,492
                
                
                $
                29,419German
      operations
                
                
                13,230
                
                
                
                11,778
                
                
                
                10,438$
                37,008
                
                
                $
                32,270
                
                
                $
                39,857
 
 Revenues
recorded by our U.S. operations are generally derived from a small number of
government customers located throughout the world.  Revenues recorded
by our German operations are mainly from a relatively large number of commercial
customers in Europe, including universities in Germany for student
identification cards and organizers of sporting events for secure access
cards.
  29
  Major
near term growth potential for LaserCard® optical memory cards is in
government-sponsored identification programs in several
countries.  Since governmental card programs typically rely on
policy-making, which in turn is subject to technical requirements, budget
approvals, and political considerations, there is no assurance that these
programs will be implemented as expected or that they will include optical
cards.
 
 Our principal objectives for
long-term revenue growth are to:
 
 ●
              Maintain,
      leverage and expand the existing optical memory card user community of
      national and regional governments worldwide●
              Increase
      revenues by selling enabling services, such as consulting, custom software
      development, and the development of integrated secure ID solutions, which
      can include data capture, personalization, and quality assurance
      modules●
              Increase
      market share for specialized cards and associated ID management solutions,
      such as major event badging and access control, and university student ID,
      and expand sales of these products and services into the
      Americas
 
 Historically,
the largest purchaser of LaserCard products has been a U.S. Government
contractor, General Dynamics Information Technology (GDIT), previously Anteon
International Corporation.  GDIT is the government contractor for
LaserCard product sales to the U.S. Department of Homeland Security (DHS), U.S.
Department of State (DOS), U.S. Department of Defense (DOD), and the government
of Canada.  Under government contracts with GDIT, the DHS purchases
Green Cards and DOS Laser Visa Border Crossing Cards; the DOD purchases
Automated Manifest System cards; and the Canadian government purchases Permanent
Resident Cards.  Two customers purchase LaserCard products for the
Kingdom of Saudi Arabia National ID Program.  Another unaffiliated
company, Laser Memory Card S.p.A. of Italy, purchases LaserCard products mainly
for secure ID card programs in Italy.
 
 Our major
customers are shown below as a percentage of total revenues for the fiscal years
ended March 31:
  2008
                
                2007
                
                2006Customer
      A
                29%
                
                28%
                
                31%Customer
      B
                17%
                
                13%
                
                —Customer
      C
                14%
                
                2%
                
                —Customer
      D
                1%
                
                8%
                
                31%
 
 Our major
government programs are shown below as a percentage of total revenues for the
fiscal years ended March 31:
  2008
                
                2007
                
                2006Kingdom
      of Saudi Arabia National ID Program
                23%
                
                13%
                
                4%United
      States Green Cards and Laser Visa BCCs
                20%
                
                23%
                
                24%Vehicle
      Registration in India
                9%
                
                6%
                
                3%Canadian
      Permanent Resident Cards
                8%
                
                4%
                
                5%Italian
      Carta d’Identità Elettronica (CIE) Cards
                1%
                
                1%
                
                18%Italian
      Permesso di Soggiorno Elettronico (PSE) Cardsand
      Carta di Soggiorno Elettronico (CSE) Cards
                —
                
                7%
                
                13%
 
 The
national citizen ID (CIE) card program has been largely stalled since January
2006 following a change of government and the instigation of a review designed
to reduce cost and improve efficiency of the program.  If the CIE and
foreign resident ID card (PSE/CSE) systems function as designed, CIE and PSE/CSE
card orders could ramp toward their full implementation level which could
potentially result in annual revenues of $40 million.  We received and
shipped $200,000 from a small order for foreign language versions of the CIE
card during fiscal year 2008.  Since fiscal year 2005, we have
supplied approximately $15.4 million worth of optical memory cards and more than
450 encoders for these programs.
  30
  On
January 4, 2008, a Request for Proposal (RFP) was issued by Italy's state
printer, Istituto Poligrafico e Zecca dello Stato S.p.A. (Poligrafico), inviting
interested parties to submit their qualifications to bid on an anticipated
follow-on RFP for up to 60 million euros (approximately $88 million) in key
components and installation and support services for the national infrastructure
required to roll out the CIE card program.  The RFP specifies a
requirement for more than 9,000 enrollment workstations to be installed and
supported nationwide in regional and city-based service centers. The
workstations will be employed in gathering personal information of citizens
prior to issuance of their CIE ID cards.  The RFP also specifies
installation and support services for about 1,300 secure optical memory card
encoders.  While we do not provide these workstations and services,
this is a key step for building the infrastructure needed to move the program to
full implementation.
 
 In March
2008, we signed a non-exclusive license agreement with Ritel to manufacture our
optical memory drives in Italy and distribute the resulting drives
worldwide.  Ritel, a telecommunications and technology contract
manufacturer, brings significant know-how, new production processes, and new
product development.  This could lead to further innovation and development
of lower cost drives.  We expect to supply parts sets to Ritel to
manufacture the encoders with delivery of the first 400 units expected for
September 2008.
 
 The
issuance system for PSE/CSE cards in Italy is in place and operating and we
believe issuing about 5,000 cards per day.  There is no backlog for
the CIE and PSE/CSE programs at March 31, 2008.  We believe that
follow-on orders for both programs will be received and significant card revenue
will be realized during fiscal year 2009 although it remains unclear when the
prime contractor will issue follow-on orders.
  U.S.
Green Cards for the U.S. Department of Homeland Security (DHS), and to a lesser
extent Laser Visa Border Crossing Cards (BCCs) are an important part of our
revenue base.  For these programs, we recorded card revenues of $7.4
million for fiscal year 2008, $7.4 million for fiscal year 2007, and $9.8
million for fiscal year 2006.  We received a five-year follow-on U.S.
government subcontract in March 2007 covering these programs.  The
subcontract had an initial one-year term and four one-year extension options of
which the first year was exercised.  We have $1.6 million of backlog
at March 31, 2008. DHS has asked us to support them in the process of
redesigning the Green Card.  The transition to a redesigned card could
cause delays in future orders as DHS reduces its inventory of current cards that
were designed in 1997.  However, we anticipate that this decrease will
be followed by an increase in orders of the newly designed cards to replenish
the strategic reserve, although no assurance can be given.  We
anticipate that the Border Crossing Card (BCC) design will be reconfigured to
include an RFID chip as specified for the U.S. Department of State’s new U.S.
Passport Card and in keeping with the requirements of the Western Hemisphere
Travel Initiative.  Recently it was announced that another
company won the U.S. Passport Card contract having bid a non-optical RFID
card. It may be the intention of the U.S. Department of State that any
future BCC will follow the Passport Card model. If and when this change
occurs, we could expect our BCC business to cease. We have recorded about
$1.0 million in revenue for the BCC program this fiscal year 2008, $1.0
million in fiscal year 2007, and $3.5 million in fiscal year 2006.
 
 Under a
subcontract for Canada’s Permanent Resident Cards, we recorded revenue of $2.8
million in fiscal year 2008, $1.2 million in fiscal year 2007, and $2 million in
fiscal year 2006.  The backlog at March 31, 2008 was
immaterial.
 
 In
January 2006, we entered into a subcontract providing the framework for the
supply of secure national ID cards to the Kingdom of Saudi Arabia and the
supply, installation and support of associated card personalization equipment,
consumables and software. This followed earlier deliveries of cards and card
encoders under previous contracts and purchase orders.  The cards are
being issued to adult citizens for national identity purposes and feature the
latest advancements in identity fraud protection provided by Optical IDLockTM, a
combination of the highly-secure LaserCard® optical memory technology and
Embedded HologramHDTM, the new high-definition “photographic quality” etched
image security feature.  The subcontract covered $11 million worth of
product and services and was the first time that we provided enabling services
by assuming responsibility for both supplying and installing personalization
hardware, the oversight of the card personalization process, and the quality of
the fully personalized cards, including the printing of cardholder information
and encoding of data and the Embedded HologramHD.  In accordance with
Emerging Issues Task Force 00-21, Revenue Arrangements with Multiple
Deliverables ("EITF 00-21") revenue on the contract and associated costs
were deferred until the card system was installed and
accepted.  During fiscal year 2008, we recorded revenue of $8.6
million under this contract and other purchase orders for this program, in
addition to the $4.0 million recognized in fiscal year 2007.  There
was no backlog for this program at March 31, 2008. We anticipate revenue of $5
million to $10 million annually for this program.
  31
  Effective
April 3, 2004, we sold a card-manufacturing license, including equipment,
training, and support, to Global Investments Group (GIG), based in Auckland, New
Zealand, for card manufacturing in Slovenia and began receiving associated cash
payments.  In April 2007, and with our approval, GIG transferred the
license to Prevent Global of Slovenia (Prevent).  We will begin to
recognize revenue on this arrangement over the remaining term of the agreement
starting when the related equipment has been accepted and the training has been
completed, which date is in turn dependent on Prevent establishing a suitable
facility in Slovenia as discussed below under “License Fees and Other
Revenues.”
 
 On
November 6, 2007, our subsidiary, CCD, signed a 5.9 million euros (approximately
$9.4 million) contract with a company based in the Kingdom of Saudi Arabia to
deliver a turnkey card manufacturing facility.  The contract includes
the supply and installation of state-of-the-art plastic card production
equipment, transfer of manufacturing know-how, training, and production
support.  It does not include constructing or preparing the building
that will house the equipment.  The new factory will be used to
produce and personalize high quality scratch-off cards, loyalty cards, SIM cards
and credit cards for the telecommunication and banking
sectors.  Rights to optical memory card technology or manufacturing
are not included in the arrangement.  Following EITF 00-21, we
accounted for the sale and installation of equipment, training, consulting
services, and support and maintenance as one unit of
accounting.  Accordingly, revenues for the arrangement are deferred
and will be recognized ratably as earned over the remaining term of the final
deliverable, which is the maintenance services pursuant to FTB 90-1, Accounting for Separately Priced
Extended Warranty and Product Maintenance Contracts.
 
 On
December 20, 2007, we signed an agreement with the government of Costa Rica
valued at approximately $1.7 million for the supply of an ID Management System
for the country’s foreign resident program.  Under the terms of the
agreement, we will supply a suite of demographic and biometric data collection
and card issuance equipment and software solutions to assist the Costa Rican
government to manage the issuing of highly secure optical memory based foreign
resident ID cards.  The applications include the centralized
enrollment of legal foreign residents, automatic fingerprint identification to
prevent the issuance of duplicate cards, optical memory encoding and card
printing servers, quality assurance and card issuance controlled by our
biometric verification system.  The issuance process will also include
biometric identification of workstation operators and strict card auditing
processes.  The contract terms include a limited supply of foreign
resident ID cards, which incorporate a number of security features in addition
to our secure optical memory.  The card’s optical memory will store
cardholder information including high resolution color facial image, fingerprint
images and templates (for automatic one-to-one identity verification), digitized
signature and biographic data.  In addition, the optical stripe will
also feature our unique Embedded HologramHD, a personalized optical variable
device which, like the digital data, cannot be fraudulently
altered.  Revenues from the contract will be deferred until the
customer’s acceptance of the equipment, software, and cards which is anticipated
to be during the first half of fiscal year 2009.
 
 In
January 2008, the government of Angola announced a contract award to
DGM-Sistemas, of Luanda, Angola, for the delivery of a complete ID management
system.  The contract calls for an initial 8 million optical memory
cards for the country’s new national citizen ID program to be issued as the
infrastructure is built. Up to an additional 12 million cards could be issued
later.  We teamed with DGM as the exclusive supplier of cards for the
project.  Other team members include Unisys Corporation (NYSE: UIS)
which is responsible for systems integration and our value-added reseller,
Identicard S.A. of Portugal, which developed the system
architecture.  The DGM bid includes $90 million of products and
services to be provided by us including optical memory cards, card
personalization systems, printer consumables, installation and training. Key
factors emphasized in the proposal to the Angolan government included the
security characteristics and high data storage capacity of the optical memory
and the fact that the optical memory’s digital security has never been
compromised.  Purchase orders are expected to be received through
Identicard S.A.
 
 We may
invest up to $7 million in additional capital equipment and leasehold
improvement expenditures for optical memory card and specialty card production
capacity and manufacturing enhancement at our facilities throughout the next
twelve months, as more fully discussed under “Liquidity and Capital
Resources.”
 
 RESULTS
OF OPERATIONS
 
 Revenues
 
 Product
Revenues.  Our total revenues consisted of sales in our three
segments of (1) optical memory cards, (2) drives, systems and services, and (3)
specialty cards and card printers, as well as in other miscellaneous
items.  Product revenues were $37.0 million for fiscal year 2008;
$32.3 million for fiscal year 2007; and $39.9 million for fiscal year
2006.  There were no license revenues earned in fiscal years 2008,
2007 and 2006.
  32
  The
following table presents our product revenue by segment for the fiscal years
ended March 31 (in thousands, except for percentages):
  Change
                
                
                Change2008
                
                
                2007
                
                
                2006
                
                
                2008
      vs 2007
                
                
                2007
      vs 2006Optical
      memory cards
                
                $
                22,139
                
                
                $
                18,985
                
                
                $
                28,200
                
                
                $
                3,154
                
                
                $
                (9,215
                )%
      of total revenues
                
                
                60
                %
                
                
                59
                %
                
                
                71
                %Optical
      card drives, systems, services
                
                
                1,639
                
                
                
                1,478
                
                
                
                985
                
                
                
                161
                
                
                
                493%
      of total revenues
                
                
                4
                %
                
                
                4
                %
                
                
                2
                %Specialty
      cards and card printers
                
                
                13,230
                
                
                
                11,807
                
                
                
                10,672
                
                
                
                1,423
                
                
                
                1,135%
      of total revenues
                
                
                36
                %
                
                
                37
                %
                
                
                27
                %Total
      revenues
                
                $
                37,008
                
                
                $
                32,270
                
                
                $
                39,857
                
                
                $
                4,738
                
                
                $
                (7,587
                )
 
 The
following table presents our optical memory card revenue by major program for
the fiscal years ended March 31 (in thousands):
  F i
      s c a l Y e a r
                
                
                Change
                
                
                Change2008
                
                
                2007
                
                
                2006
                
                
                2008
      vs 2007
                
                
                2007
      vs 2006National
      ID Cards for the Kingdom of Saudi Arabia
                
                $
                7,650
                
                
                $
                3,512
                
                
                $
                1,477
                
                
                $
                4,138
                
                
                $
                2,035U.S.
      Green Cards & Laser Visas
                
                
                7,432
                
                
                
                7,409
                
                
                
                9,752
                
                
                
                23
                
                
                
                (2,343
                )Vehicle
      Registration in India
                
                
                3,487
                
                
                
                1,785
                
                
                
                1,272
                
                
                
                1,702
                
                
                
                513Canadian
      Permanent Resident Cards
                
                
                2,792
                
                
                
                1,226
                
                
                
                1,964
                
                
                
                1,566
                
                
                
                (738
                )Italian
      National ID Card Programs
                
                
                208
                
                
                
                2,408
                
                
                
                12,191
                
                
                
                (2,200
                )
                
                
                (9,783
                )All
      other programs
                
                
                570
                
                
                
                2,645
                
                
                
                1,544
                
                
                
                (2,075
                )
                
                
                1,101Total
      optical memory card revenues
                
                $
                22,139
                
                
                $
                18,985
                
                
                $
                28,200
                
                
                $
                3,154
                
                
                $
                (9,215
                )
 
 Optical
memory card revenue increased for fiscal year 2008 as compared with fiscal year
2007 due to the increased card unit volume for the Kingdom of Saudi Arabia’s
National ID program, the Canadian Permanent Resident Card program and the
vehicle registration program in India which offset the decreased card unit
volume in the Italian card programs and all other programs.  Optical
memory card revenue decreased for fiscal year 2007 as compared with fiscal year
2006 due mainly to the decrease in card unit volume for the Italian CIE
program.
 
 Revenue
in the drives, systems and services segment increased for fiscal year 2008
compared with fiscal year 2007 by $0.2 million.  During fiscal year
2007 as compared with fiscal year 2006, revenue increased by $0.5
million.  These increases were mainly due to the activity in the ID
card program for the Kingdom of Saudi Arabia.  We do not anticipate
that we will derive significant profits on future drive sales as prices are set
near the manufacturing cost in order to promote optical memory card
sales.
 
 Specialty
cards and printers revenue was $13.2 million (9.3 million euros) in fiscal year
2008, $11.8 million (9.2 million euros) in fiscal year 2007, and $10.7 million
(8.6 million euros) in fiscal year 2006.  The $1.4 million, or 12%
increase in revenue during fiscal year 2008 compared with fiscal year 2007 was
largely due to an approximate 11% change in foreign exchange rate and increases
in orders from a major international racing event and university
projects.  The $1.1 million, or 11% increase during fiscal year 2007
compared with fiscal year 2006 was due to a 11% change in foreign exchange rate
and increases in orders from a major international racing event.  We
anticipate growth in this segment in fiscal year 2009 to be driven by the newly
introduced Passport page and other specialty card products.
  33
  License Fees and Other
Revenues.  There were no license revenues during fiscal year
2008, 2007 or 2006.  In fiscal year 2004, we entered into license and
optical memory card equipment purchase and support agreements, effective April
3, 2004, with Global Investments Group (GIG), based in Auckland, New Zealand,
for optical memory card manufacturing in Slovenia.  GIG transferred
the license and other agreements, with our approval, to Prevent Global družba za
upravljanje, investicije in razvoj d.d (“Prevent”) in March 2007.  The
agreements provide for payments to the Company of about $26.7 million which were
current as of March 31, 2008, for a 20-year license, the required manufacturing
equipment for a targeted initial manufacturing capacity of 10 million optical
cards annually and installation support, and a four-year training and support
package.  Of the $26.7 million we received, $23.8 million was recorded
as advance payments from customer and about $2.9 million for the licensing and
other fees was recorded as deferred revenue.  Both were classified as
long term liabilities in the consolidated balance sheets.  As of March
31, 2008, the Company had $6.6 million of acquired equipment, including direct
and incremental expenses, classified as equipment held for resale on our
consolidated balance sheets.  The Company is to ship this equipment to
Prevent upon request for installation in a facility provided by
them.  During the fourth quarter of fiscal year 2008, Prevent sent
their representatives to initiate the discussion of the infrastructure
requirements for installation of the equipment in the facility.  At
this time, the Company does not know when Prevent will initiate such a
request.  Beginning April 1, 2008, Prevent is to pay $250,000
quarterly for a three-year support package, and has options for thirteen
additional years of support for payments of $1.0 million annually.  In
addition to the aggregate amount of $42.8 million discussed above, Prevent is to
pay royalties of $0.60 per card for each card produced under the
license.  The territories covered by the license include most of the
European Union and Eastern European regions.  Prevent has exclusive
marketing rights in certain territories.  The Company retains rights
to utilize up to 20% of the new facility capacity as backup and a capacity
buffer to augment our own card manufacturing facilities in Mountain View,
California and possibly at the Company’s German subsidiary.  The
agreement contains various elements including a card manufacturing license, sale
and installation of equipment, training and ongoing support, and contingent
payments for support, materials, and royalty payments for cards
manufactured.  In accordance with EITF 00-21, the card manufacturing
license, sale and installation of equipment, training and support package, have
been accounted for as one unit of accounting, since we were unable to determine
evidence of the fair value for the undelivered items other than ongoing
support.  The Company is able to determine evidence of fair value for
the last predominant item to be delivered, which is the ongoing annual support
of the manufacturing equipment.  Accordingly, revenues for the
arrangement have been deferred and will be recognized when the equipment is
installed and accepted, with the exception of the value of the ongoing annual
support of the manufacturing equipment which will be recognized quarterly as
earned, beginning when the equipment is accepted and training has been
completed, which date is dependent on Prevent establishing a suitable facility
in Slovenia.  Pursuant to FTB 90-1, Accounting for Separately Priced
Extended Warranty and Product Maintenance Contracts, the support revenue
will be recognized ratably over the remaining term of the
agreement.
 
 In March
2008, Ritel became our non-exclusive licensee to manufacture our optical memory
drives in Italy and sell the resulting drives worldwide. Ritel, an Italian
telecommunications and technology contract manufacturer, brings significant
know-how, new production processes, and new product development. This could lead
to further innovation and development of lower cost drives.  We expect to
supply parts sets to Ritel to manufacture the encoders with delivery of the
first 400 units expected for September 2008.
 
 Backlog
 
 As of
March 31, 2008, the backlog for LaserCard® optical memory cards totaled $2.5
million scheduled for delivery through June 2008, compared with $5.7 million at
March 31, 2007, and $8.3 million at March 31, 2006.  We have only a
few customers who generally place orders for a several-month period so that
variations in order placement from a single customer can materially affect
backlog.  As a result, the relative size of our backlog has not been a
reliable indicator of future sales revenue trends.
 
 At March
31, 2008, our backlog in the drives, systems and services was $1.1 million due
largely to the Costa Rica contract for an ID Management System for the country’s
foreign resident card program.  We had no significant backlog for
read/write drives at March 31, 2007.
 
 The
backlog as of March 31, 2008 for specialty cards and printers totaled 1.1
million euros (approximately $1.8 million) compared with 0.6 million euros
(approximately $0.8 million) at March 31, 2007 and 0.8 million euros
(approximately $1.0 million) at March 31, 2006.
 
 In
addition, we have a contract to deliver a turnkey non-optical card manufacturing
facility in the Kingdom of Saudi Arabia valued at 5.9 million euros
(approximately $9.3 million) and a contract to develop a conventional
non-optical card production facility in Serbia valued at 0.5 million euros
(approximately $0.8 million) at March 31, 2008 compared with 0.7 million euros
(approximately $0.9 million) at March 31, 2007 and 0.7 million euros
(approximately $0.8 million) at March 31, 2006.  We also have about
$27 million from our Prevent contract for which revenue has not been
recorded.
 
 34
 
 Gross
Margin
 
 The
following table represents our gross margin in absolute dollars and as a
percentage of revenue by segment for the fiscal years ended March 31 (in
thousands, except for percentages):
  Change
                
                
                Change2008
                
                
                2007
                
                
                2006
                
                
                2008
      vs 2007
                
                
                2007
      vs 2006Optical
      memory cards
                
                $
                7,991
                
                
                $
                4,795
                
                
                $
                13,107
                
                
                $
                3,196
                
                
                $
                (8,312
                )%
      of optical memory card revenues
                
                
                35
                %
                
                
                25
                %
                
                
                46
                %Optical
      card drives, systems and services
                
                
                (633
                )
                
                
                (463
                )
                
                
                (754
                )
                
                
                (170
                )
                
                
                291%
      of optical card drive revenues
                
                NM
                
                
                NM
                
                
                NMSpecialty
      cards and card printers
                
                
                2,641
                
                
                
                2,532
                
                
                
                2,700
                
                
                
                109
                
                
                
                (168
                )%
      of specialty cards and card printers revenues
                
                
                20
                %
                
                
                21
                %
                
                
                25
                %Total
      gross margin
                
                $
                9,999
                
                
                $
                6,864
                
                
                $
                15,053
                
                
                $
                3,135
                
                
                $
                (8,189
                )%
      of product revenue
                
                
                27
                %
                
                
                21
                %
                
                
                38
                %
 
 Optical Memory
Cards.  Optical memory card gross margin can vary significantly
based upon changes in average selling price, production and sales volumes, mix
of card types, production efficiency and yields, and changes in fixed
costs.  Unit volume greatly affects gross margin due to the absorption
of fixed manufacturing costs.  The increase in optical memory card
gross margin to 35% of revenue for fiscal year 2008 as compared with 25% of
revenue for fiscal year 2007 was mainly due to a 12% increase in sales volume
and product mix.  The decrease in optical memory card gross margin to
25% of revenue for fiscal year 2007 as compared with 46% of revenue for fiscal
year 2006 is mainly due to the 34% decrease in sales unit volume and the
resultant loss of efficiencies and economies of scale.
 
 Drives, Systems and
Services.  Drives, systems and services gross margin has been
negative over the past three years, inclusive of fixed overhead costs, due to
low sales volume and our policy to price drives close to manufacturing cost to
promote card sales.  This segment also includes enabling services,
also with lower margins than optical memory cards.  We anticipate that
read/write drive negative gross margins will continue in the future unless sales
volume is sufficient to cover fixed costs.  Gross margin in this
segment will be variable depending upon the occurrence of enabling services
revenue.
 
 Specialty Cards and Card
Printers.  The gross margin on specialty cards and card
printers was 20% of total revenue in fiscal year 2008, 21% in fiscal year 2007,
and 25% in fiscal year 2006.
 
 Operating
expenses
 
 The
following table presents operating expenses for the fiscal years ended March 31
(in thousands, except for percentage):
  Change
                
                
                Change2008
                
                
                2007
                
                
                2006
                
                
                2008
      vs 2007
                
                
                2007
      vs 2006Selling,
      general and administrative expenses
                
                $
                15,253
                
                
                $
                13,575
                
                
                $
                11,949
                
                
                $
                1,678
                
                
                $
                1,626Percent
      of change from prior year
                
                
                12
                %
                
                
                14
                %
                
                
                0.5
                %Research
      and development expenses
                
                
                2,878
                
                
                
                3,095
                
                
                
                2,338
                
                
                
                (217
                )
                
                
                757Percent
      of change from prior year
                
                
                (7
                %)
                
                
                32
                %
                
                
                (23
                %)Impairment
      of goodwill and intangible assets
                
                
                —
                
                
                
                3,811
                
                
                
                —
                
                
                
                (3,811
                )
                
                
                3,811Total
      operating expenses
                
                $
                18,131
                
                
                $
                20,481
                
                
                $
                14,287
                
                
                $
                (2,350
                )
                
                $
                6,194
  35
  Selling, General, and Administrative
Expenses (SG&A).  SG&A expenses increased by $1.7
million, or 12% in fiscal 2008 as compared with fiscal year
2007.  Approximately $0.9 million of the increase was due to the
planned retirement agreement with the retiring CEO as described in “Commitments
and Contingencies” in Note 7 of the Notes to Consolidated Financial Statements
in Item 8, “Financial Statements and Supplementary Data”, $0.1 million was for
recruitment expenses, $0.4 million of the increase related to the SFAS No.
123(R) stock option expenses, and other miscellaneous
expenses.  SG&A expenses were up $1.6 million during fiscal year
2007 as compared with fiscal year 2006.  Approximately $1.0 million of
the increase was the result of the adoption of SFAS No. 123(R) stock option
expensing.  The remaining increase was due to $0.4 million of
consulting services for planning, and an increase in salaries related to
additional personnel which were partially offset mainly by the decrease in
management bonus of $0.7 million. We believe that SG&A expenses for fiscal
year 2009 will remain consistent with fiscal year 2008 levels with the exception
of SFAS No. 123(R) expenses related to inducement options for recruiting a new
CEO, potential sales commissions and contingent bonus payments.
 
 Research and Development Expenses
(R&D).  R&D expenses decreased $0.2 million during
fiscal year 2008 as compared with fiscal year 2007 mainly due to share-based
expenses. During fiscal year 2007, R&D expenses increased $0.8 million as
compared with fiscal year 2006 due to $0.4 million of SFAS 123R share-based
expenses and $0.4 million of various R&D projects.  We are
continuing our effort to develop new optical memory card and non-optical card
features and structures, including various composite card structures to allow
the insertion of contactless chips with radio frequency (RF) capability,
dual-interface (contact-contactless) with optical memory, OVD (optically
variable device) products, and other market-driven requirements.  We
are also performing optical media development to allow new form factors for more
flexibility in card layouts and integrated security features; enhanced optical
memory card read/write drives for both increased reliability and ease of use and
integration; new versions of read-only drives (readers) to meet various
operational requirements such as office desktop units or handheld field units
with integrated displays, biometrics, and RFID capability; and new software
products in an effort to provide new products that can stimulate optical memory
card sales growth.  We also recently completed the development of a
new integrated card personalization system and have shipped several systems to
customers in the past year. We anticipate that these ongoing research and
development effort should result in enhanced card features and capabilities, new
versions of read-only drives, and drives with advanced security features and/or
lower manufacturing costs; however, there is no assurance that such product
development effort will be successful.  These features are important
for our existing and future optical memory card markets.  We expect
R&D expenses to increase by approximately 50% during fiscal year 2009
compared with fiscal year 2008 due to the effort described above.
 
 Impairment of Goodwill and
Intangible Assets.  We perform an annual impairment evaluation
of goodwill and other intangible assets to comply with SFAS No. 142, Goodwill
and Other Intangible Assets.  Since March 31, 2004, we had been
carrying goodwill and other intangible assets resulting from our purchase of CCD
on March 31, 2004.  At March 31, 2007, we determined that estimated
future cash flows were insufficient to justify the carrying value of goodwill
and other intangible assets based on management’s decision to suspend optical
memory card production in Germany.  As such, we recorded a non-cash
pre-tax impairment charge of approximately $3.8 million to write-off these
goodwill and indefinite lived other intangible assets  There was no
impairment charge recorded during fiscal years 2006 or 2008.
 
 Other Income,
Net.  The following table presents other income, net for the
fiscal years ended March 31 (in thousands):
  2008
                
                
                2007
                
                
                2006Interest
      income
                
                $
                888
                
                
                $
                980
                
                
                $
                583Other
      income
                
                
                30
                
                
                
                45
                
                
                
                18Interest
      expense
                
                
                (72
                )
                
                
                (107
                )
                
                
                (80
                )Other
      expense
                
                
                (34
                )
                
                
                (23
                )
                
                
                (50
                )$
                812
                
                
                $
                895
                
                
                $
                471
 
 The
decrease in interest income in fiscal 2008 versus fiscal 2007 was mainly due to
a lower amount of invested funds while the increase in interest income in fiscal
2008 versus fiscal 2006 was mainly due to higher interest rates.  The
decrease in interest expense in fiscal 2008 versus fiscal 2007 was due to
improved management of the forward contracts while the increase in interest
expense in fiscal 2007 versus fiscal 2006 was mainly due to less than favorable
rates of the forward contracts.  We expect interest income to decrease
in the near-term due to the declining interest rates resulting from the recent
actions of the Federal Reserve Bank in lowering the Federal funds rate and the
issues surrounding the auction rate securities.
  36
  Income Taxes.In
June 2006, the Financial Accounting Standards Board (“FASB”) issued
Interpretation No. 48, Accounting for Uncertainty in Income
Taxes—an interpretation of FASB Statement No. 109 (“FIN 48”). This
Interpretation clarifies the accounting for uncertainty in income taxes
recognized in our financial statements in accordance with FASB Statement
No. 109, Accounting for
Income Taxes. FIN 48 prescribes a recognition threshold and measurement
attribute for the financial statement recognition and measurement of a tax
position taken or expected to be taken in a tax return. This Interpretation also
provides guidance on derecognition, classification, interest and penalties,
accounting in interim periods, disclosure, and transition. The evaluation of a
tax position in accordance with FIN 48 is a two-step process. The first step is
recognition: We determine whether it is “more-likely-than-not” that a tax
position will be sustained upon examination, including resolution of any related
appeals or litigation processes, based on the technical merits of the position.
In evaluating whether a tax position has met the “more-likely-than-not”
recognition threshold, we presume that the position will be examined by the
appropriate taxing authority that would have full knowledge of all relevant
information. The second step is measurement: A tax position that meets the
“more-likely-than-not” recognition threshold is measured to determine the amount
of benefit to recognize in the financial statements. The tax position is
measured at the largest amount of benefit that is greater than 50 percent likely
to be realized upon ultimate settlement. FIN 48 is effective for fiscal years
beginning after December 15, 2006 which for us was the fiscal year commencing on
April 1, 2007.  Upon adoption of FIN 48 on April 1, 2007, we
recognized a cumulative effect adjustment of $62,000, decreasing its income tax
liability for unrecognized tax benefits, and decreasing the March 31, 2007
accumulated deficit balance.
  As of
March 31, 2008, the total amount of gross unrecognized tax benefits was
approximately $229,000 and the entire balance represents the amount of
unrecognized tax benefits that, if recognized, would affect the effective tax
rate.  We do not currently anticipate that any significant increase or
decrease to unrecognized tax benefits will be recorded during the next 12
months.
  We
recognize interest and penalties accrued on any unrecognized tax benefits as a
component of its provision for income taxes. As of March 31, 2008, we have
accrued $34,000 for payment of interest and penalties related to unrecognized
tax benefits.
  A
reconciliation of the beginning and ending amount of unrecognized tax benefit is
as follows:
  Balance
      as of March 31, 2007
                
                $
                (229,000
                )Gross
      increases - tax positions in prior period
                
                
                —Gross
      decreases - tax positions in prior period
                
                
                —Gross
      increases - current-period tax positions
                
                
                —Decreases
      relating to settlements
                
                
                —Reductions
      as a result of a lapse of statute of limitations
                
                
                —Foreign
      exchange reserve
                
                
                —Balance
      as of March 31, 2008
                
                $
                (229,000
                )
  Although
we file U.S. federal, various state, and foreign tax returns, our only major tax
jurisdictions are the United States, California and Germany.  Tax
years 1993 through 2008 remain subject to examination by the appropriate
governmental agencies, mainly the United States, due to tax loss carryovers from
those years.
 
 We
recorded an income tax benefit of $114,000 and $351,000 for fiscal years 2008
and 2007, respectively. During fiscal year 2006, we recorded an income tax
expense of $443,000.  The tax benefit for fiscal year 2008 was due
mainly to the reduction of deferred income tax liabilities in Germany offset by
an adjustment related to a tax reserve for FIN 48.  The payments from
GIG/Prevent received during fiscal years 2008, 2007 and 2006 are recorded as
income on the federal tax return even though they are not recorded as income
under U.S. generally accepted accounting principles.  This income has
been offset by net operating loss carryforwards generated in previous
years.  However, alternative minimum taxes are due when tax return
income is offset by net operating loss carryforwards generated in previous
years.  A full valuation allowance was required at the end of fiscal
years 2008, 2007, and 2006 considering both the positive and negative evidence
regarding our ability to generate sufficient future taxable income to realize
our deferred income tax assets.
  37
  LIQUIDITY
AND CAPITAL RESOURCES
 
 The
following table summarizes cash, cash equivalents and investments as of March 31
(in thousands):
  2008
                
                
                2007Cash
      and cash equivalents
                
                $
                5,583
                
                
                $
                3,026Short-term
      investments in auction rate securities
                
                $
                -
                
                
                $
                17,500Long-term
      Investments in auction rate securities
                
                $
                12,875
                
                
                $
                -
 
 We
account for our short-term marketable securities in accordance with SFAS
No. 115, Accounting for
Certain Investments in Debt and Equity Securities (“SFAS
No. 115”).  We consider all highly liquid investments, consisting
primarily of commercial paper, discount notes, and U.S. government bonds,
auction rate securities, with original or remaining maturities of three months
or less at the date of purchase, to be cash equivalents.  All
investments with original or remaining maturities of more than three months but
not more than one year at the date of purchase are classified as
short-term.  Investments with original or remaining maturities of more
than one year at the date of purchase are classified as long-term.  We
determine the length of our investments after considering our cash requirements
and yields available for the type of investment considered by our Company. We
determine the appropriate classification of debt and equity securities at the
time of purchase and reevaluate the classification of investments as of each
balance sheet date.
 
 As of
March 31, 2008, we had $12.9 million of auction rate securities, net of $0.6
million of unrealized loss, accounted for as available-for-sale and classified
as long-term securities due to the underlying events surrounding the failed
auctions as explained in the next paragraph. We held no short-term investments
as of March 31, 2008.   As of March 31, 2007 we held $17.5
million of auction rate securities classified as short-term investments and had
no long-term investments.
  Auction
rate securities are securities that are structured with short-term interest rate
reset dates of generally 28 to 35 days but with contractual maturities that can
be well in excess of ten years.  Our auction rate securities consist of
investments that are secured by pools of student loans which are guaranteed for
95% of principal and interest under the Federal Family Education Loan Program
(“FFELP) and are AAA rated.  We believe that the credit quality of
these securities is high based on these guarantees.  We do not own,
and have not invested in, any auction rate securities secured by mortgages or
collateralized debt obligations.  At the end of each reset period, we can
sell or continue to hold the securities at par value. This auction process
has historically provided a liquid market for auction rate
securities.  Recently, however, certain auctions failed due to sell
orders exceeding buy orders.  We continued to see deterioration in the
market for these types of securities which spread from initially primarily
subprime mortgage related securities to other forms of securities. The funds
associated with failed auctions will not be accessible until a successful
auction occurs, a buyer is found outside of the auction process, or the
underlying securities have matured or are recalled by the issuer.  Given
the recent disruptions in the credit markets and the fact that the liquidity for
these types of securities remains uncertain, as of March 31, 2008, we have
classified all of our auction rate securities as a long-term asset in our
consolidated balance sheet as our ability to liquidate such securities in the
next 12 months is uncertain.
  We
believe declines in auction rate securities fair values due to the lack of
liquidity to be temporary.  We have the ability and intent to hold
these investments until recovery of fair value occurs.  As such, we
did not consider the impairment to be permanent and recorded an unrealized loss
of $0.6 million, net of tax, in other comprehensive income (loss) in the
shareholder's equity section of the consolidated balance sheet at March 31,
2008.
  In
valuing its investments, the Company primarily uses market data or fair values
derived from brokerage statements supplied by the Company’s brokerage
firm.  The fair values of the auction rate securities with failed
auctions and are subject to unobservable inputs in the fair value measurement
that are derived from fair values calculated by the Company’s brokerage firm
using their internally developed valuation methodology based on a present value
cash flow model. We also used a valuation firm to help us analyze the
reasonableness of the fair values provided by our brokerage firm.
  We
evaluate our investments periodically for possible other-than-temporary
impairment by reviewing factors such as the length of time and extent to which
fair value has been below cost basis, the financial condition of the issuer and
our ability and intent to hold the investment for a period of time which may be
sufficient for anticipated recovery of market value.  We will record an
impairment charge to the extent that the carrying value of our available for
sale securities exceeds the estimated fair market value of the securities and
the decline in value is determined to be other-than-temporary.
  38
  We
believe that we have sufficient available cash to execute our business plan for
fiscal 2009 and our anticipated operations in fiscal 2010 as we expect the
estimated level of revenues and customer advance payments over the next 12
months to be sufficient to generate cash from operating activities over the same
period.  Although quarterly fluctuations are expected, we do not
expect to have need for liquidity for our funds invested in auction rate
securities during fiscal 2009 and 2010 to fund our
operations.  However, operating cash flows could be negatively
impacted to a significant degree if our largest U.S. government program were to
be delayed, reduced, canceled, or not extended; if the Angolan national ID card
program does not materialize as planned internally; and if these programs are
not replaced by other card orders or other sources of income. Should we
unexpectedly require additional cash resources, an absence of liquidity from our
auction rate investments should require us to see funds elsewhere, which may be
more unattractive or unavailable.
 
 Our
agreement with the government of Costa Rica signed on December 20, 2007,
required us to issue a completion bond of approximately $167,000, equivalent to
10% of the contract price.  We purchased a certificate of deposit
representing the completion bond which is classified as other non-current assets
in our consolidated balance sheet at March 31, 2008.  The bond shall
remain in effect for one year (12 months) after the final acceptance date of
delivery of the last batch of shipment, tentatively scheduled in the first
quarter of fiscal year 2009.  At March 31, 2008, we had classified the
restricted cash as non-current assets.
 
 We have not established a line of
credit.  We may negotiate a line of credit, although no assurance can
be made that such financing would be available on favorable terms or at all, if
needed.
 
 The
following table displays the sources and uses of cash by activity for the fiscal
years ended March 31 (in thousands):
  2008
                
                
                2007
                
                
                2006Net
      cash provided by (used in) operating activities
                
                $
                (336
                )
                
                $
                (471
                )
                
                $
                5,048Net
      cash provided by (used in) investing activities
                
                $
                2,580
                
                
                $
                553
                
                
                $
                (11,318
                )Net
      cash provided by financing activities
                
                $
                694
                
                
                $
                1,020
                
                
                $
                4,432
 
 Cash used
in operations of $0.3 million in fiscal year 2008 consists of $1.8 million used
due to the loss in operations, net of non-cash items, $0.5 million used for
increases in operating assets partially offset by increases in operating
liabilities of $2.0 million. Cash used in operations of $0.5 million in fiscal
year 2007 primarily consists of $3.3 million used due to the loss in operations,
net of non-cash items; $4.6 million received from Prevent, net of equipment
purchased for this contract; and $1.8 million used in changes in other working
capital items.  Cash provided by operations of $5.0 million in fiscal
year 2006 primarily consists of $3.7 million received from GIG, net of equipment
purchased for this contract, plus $4.5 million from net income, plus non-cash
items.  Additionally, advance payments received from customers totaled
$6.1 million, offset by changes in other working capital items of $5.6
million.
 
 Net cash
provided by investing activities of $2.6 million during fiscal year 2008
consisted of $4.0 million from net proceeds of maturity of investments, less
capital expenditures and changes in non-current assets of $1.4 million. Net cash
provided by investing activities of $0.6 million during fiscal year 2007
consisted primarily of $3.8 million from net proceeds of maturity of
investments, less capital expenditures of approximately $3.1
million.  Net cash used in investing activities of $11.3 million
during fiscal year 2006 consisted of net purchases of investments of $8.9
million and capital expenditures of approximately $2.3 million.
 
 Net cash
provided by financing activities during fiscal years 2008, 2007, and 2006
consisted of net proceeds from the sale of common stock under our employee stock
plans.
  39
  We made
capital equipment and leasehold improvement purchases of approximately $1.2
million during fiscal year 2008 compared with approximately $3.1 million during
fiscal year 2007 and $2.3 million during fiscal year 2006.  We have an
annual production capacity of 10 million roll-process cards in conjunction with
approximately 9 million sheet-process cards depending upon the optimum mix of
features.  Additional manufacturing equipment currently on order for
delivery in September 2008 will increase our capacity for sheet-process cards to
16 million per year. We plan to use cash on hand, cash generated from
operations, and leasing to fund capital expenditures of approximately $7 million
for equipment and leasehold improvements for card production, read/write drive
tooling and assembly, and general support items throughout the next twelve
months.  A portion of the capital expenditures will require debt
financing which we believe can be obtained on reasonable terms.  In
addition, should we unexpectedly require additional cash resources, an absence
of liquidity from our auction rate investments could require us to seek funds
elsewhere, which may be more unattractive or unavailable.
 
 During
fiscal year 2008, we entered into a lease agreement with a four-year term to
acquire equipment.  This was recorded as a capitalized lease in the
amount of about $113,000 (80,000 euros) in accordance with SFAS 13, Accounting
for Leases.  The accumulated depreciation at March 31, 2008 was
approximately $17,000 (12,000 euros).  We had no other debt financing
activities.
 
 Contractual
Obligations.  The following table provides a summary of the
effect on liquidity and cash flows from our contractual obligations for the
following years ended March 31 (in thousands):
  2014
      andContractual
      obligations:
                
                2009
                
                
                2010
                
                
                2011
                
                
                2012
                
                
                2013
                
                
                Thereafter
                
                
                TotalNon-cancelable
      operating leases
                
                $
                1,048
                
                
                $
                1,505
                
                
                $
                1,539
                
                
                $
                1,572
                
                
                $
                1,563
                
                
                $
                1,221
                
                
                $
                8,448Non-cancelable
      purchase orders
                
                
                1,754
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                1,754Total
                
                $
                2,802
                
                
                $
                1,505
                
                
                $
                1,539
                
                
                $
                1,572
                
                
                $
                1,563
                
                
                $
                1,221
                
                
                $
                10,202
  CRITICAL
ACCOUNTING POLICIES
 
 Our
discussion and analysis of financial condition and results of operations are
based upon our consolidated financial statements, which have been prepared in
accordance with U.S. generally accepted accounting principles.  Note 2
of the Notes to Consolidated Financial Statements describe the significant
accounting policies and methods used in the preparation of the consolidated
financial statements. The preparation of these financial statements requires us
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses.  On an ongoing basis, we evaluate
our estimates, including those related to our revenues, inventories, stock-based
compensation, warranties, and income taxes.  We base our estimates on
historical experience and on various other assumptions that are believed to be
reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources.
 
 Our
critical accounting policies are those that both (1) are most important to the
portrayal of the financial condition and results of operations and (2) require
management’s most difficult, subjective, or complex judgments, often requiring
estimates about matters that are inherently uncertain. These critical accounting
policies reflect our significant judgments, assumptions, and estimates used in
the preparation of the consolidated financial statements.  Our
management has discussed the development and selection of these critical
accounting policies and estimates with the Audit Committee of our Board of
Directors and the Audit Committee has reviewed our disclosures relating to them
in this report.  We consider the accounting policies described below
to be our critical accounting policies:
 
 Revenue
Recognition.  Product sales primarily consist of sales of
optical cards; drives, systems and services; and specialty cards and card
printers.  We recognize revenue from product sales when the following
criteria are met:  (1) persuasive evidence of an arrangement exists;
(2) delivery has occurred; (3) the fee is fixed or determinable; and (4)
collectability is reasonably assured.  We recognize revenue on product
sales at the time of shipment when shipping terms are F.O.B. shipping point,
orders are placed pursuant to a pre-existing sales arrangement, and there are no
post-shipment obligations other than customer acceptance criteria or, in the
case of a U.S. government contract, warehousing.  Where appropriate,
provision is made at the time of shipment for estimated warranty costs and
estimated returns.
 
 Orders
for Permanent Resident and Border Crossing Cards for the U.S. government require
delivery into a secure Company-controlled vault.  Shipments are later
made from the vault to a U.S. government site.  The bill and hold
procedures also provide that at the end of any one-year contract term when a
renewal option is not exercised, the U.S. government is to take final delivery
of any and all of its remaining inventory within six months.  At the
time the cards are delivered into the vault, title to the cards is transferred
to the U.S. government and all risks of ownership are transferred as
well.  The prime contractor is invoiced, with payment due within
thirty days and the purchase orders do not contain any return (other than for
warranty) or cancellation provisions.
Pursuant to the provisions of SEC Staff Accounting Bulletin No. 104 ―Revenue
Recognition (“SAB 104”), revenue is recognized on delivery into the vault
as we have fulfilled its contractual obligations and the earnings process is
complete.
  40
  For sales
that include customer-specified acceptance criteria, we recognize revenue only
after the acceptance criteria have been met and presuming that all other revenue
criteria have been met.  We defer revenue from services and recognize
it over the contractual period, or as we render services and the customer
accepts them.
 
 We apply
the provisions of the Emerging Issues Task Force Issue No. 00-21, Revenue Arrangements with Multiple
Deliverables (“EITF 00-21”), to revenue arrangements with multiple
deliverables.  EITF 00-21 provides criteria governing how to identify
whether goods or services that are to be delivered separately in a bundled sales
arrangement should be accounted for separately. Deliverables are accounted for
separately if they meet all of the following criteria: a) the delivered items
have stand-alone value to the customer; b) the fair value of any undelivered
items can be reliably determined; and c) if the arrangement includes a general
right of return, delivery of the undelivered items is probable and substantially
controlled by the seller. In situations where the deliverables fall within
higher-level literature as defined by EITF 00-21, we apply the guidance in that
higher-level literature. Deliverables that do not meet these criteria are
combined with one or more other deliverables.
 
 We apply
the provisions of Statement of Position No. 81-1, Accounting for Performance of
Construction-Type and Certain Production-Type Contracts ("SOP No. 81-1")
in applicable contracts. Revenues on time and materials contracts are recognized
as services are rendered at contract labor rates plus material and other direct
costs incurred.  Revenues on fixed price contracts are recognized on
the percentage of completion method based on the ratio of total costs incurred
to date compared to estimated total costs to complete the
contract.  Estimates of costs to complete include material, direct
labor, overhead and allowable general and administrative expenses.  In
circumstances where estimates of costs to complete a project cannot be
reasonably estimated, but it is assured that a loss will not be incurred, the
percentage-of-completion method based on a zero profit margin, rather than the
completed-contract method, is used until more precise estimates can be made. The
full amount of an estimated loss is charged to operations in the period it is
determined that a loss will be realized from the performance of a
contract.  For the fiscal years ended March 31, 2008, 2007, and 2006,
we recognized approximately $249,000, $12,000, and $77,000, respectively, of
revenues based on a zero profit margin related to a long-term
contract.
 
 We apply
the provisions of Statement of Position No. 97-2, Software Revenue Recognition,
as amended by Statement of Position 98-9, Modification of SOP 97-2, Software
Revenue Recognition, With Respect to Certain Transactions to all
transactions involving the sale of software products.  Revenue from
the license of our software products is recognized when persuasive evidence of
an arrangement exists, the software product has been delivered, the fee is fixed
or determinable, and collectability is probable, and, if applicable, upon
acceptance when acceptance criteria are specified or upon expiration of the
acceptance period.  Software revenue was immaterial for fiscal years
ended March 2008, 2007, and 2006, respectively.
 
 Product
Warranty.  Where appropriate, provision is made at the time of
shipment for estimated warranty costs and estimated returns. We provide a
limited warranty for the replacement of defective products. Our limited warranty
requires us to repair or replace defective products at no cost to the customer
within a specified time period after sale. We estimate the costs that may be
incurred under our limited warranty and records a liability in the amount of
such costs at the time product revenue is recognized. Factors that affect our
estimate of warranty liability include the number of units sold, and historical
and anticipated rates of warranty claims. We assess the adequacy of our recorded
warranty liability and adjust the amount as necessary. We utilize historical
trends and information received from our customers to assist in determining the
appropriate estimated warranty accrual levels.  The following table
shows our warranty liability as of March 31 (in thousands):
  2008
                
                
                2007
                
                
                2006Beginning
      balance
                
                $
                743
                
                
                $
                648
                
                
                $
                132Accruals
      for products sold
                
                
                144
                
                
                
                164
                
                
                
                568Costs
      incurred/Adjustments
                
                
                (232
                )
                
                
                (69
                )
                
                
                (52
                )Ending
      balance
                
                $
                655
                
                
                $
                743
                
                
                $
                648
  41
  Significant
judgment is inherent in the selection of assumptions and the interpretation of
historical experience as well as the identification of external and internal
factors affecting the estimates of our reserves for product
returns.  We believe that the assumptions used to estimate these
product sales reserves are the most reasonably likely assumptions considering
known facts and circumstances.  However, our product return activity
could differ significantly from our estimates.  If actual product
returns are significantly different from our estimates, such differences would
be accounted for in the period in which they become known.
 
 Accounting for Income
Taxes.  The net deferred income tax liability of $313,000 at
March 31, 2008, $388,000 at March 31, 2007 and $568,000 at March 31, 2006 is a
result of the operations of our German subsidiary.  As part of the
process of preparing our consolidated financial statements, we are required to
estimate income taxes in each of the jurisdictions in which we
operate.  This process involves estimating the actual current tax
exposure together with assessing temporary differences resulting from differing
treatment of items, such as deferred revenue, for tax and accounting
purposes.  These differences result in deferred income tax assets and
liabilities, which are included within the consolidated balance
sheets.  We must then assess the likelihood that the deferred income
tax assets will be recovered from future taxable income and to the extent that
management believes recovery is not likely, we must establish a valuation
allowance.
 
 In fiscal
year 2008 the valuation allowance increased by $2 million. The change in
valuation allowance relates to the increase in net operating loss carryforwards
("NOLs") of $1.1 million and other increases in our gross deferred income tax
assets.
 
 Our
federal net operating loss carryforwards (“NOLs”) as of March 31, 2008 of $26.2
million will expire at various dates from 2008 through 2028, if not utilized. Of
this amount, $19.3 million represents NOL’s relating to windfall stock option
deductions, the benefit of which will be credited to stockholders’ equity when
realized. Federal tax credits in the amount of $272,000 for alternative minimum
taxes have no expiration. Federal R&D tax credits in the amount of $330,000
will expire on various dates from 2013 through 2027, if not utilized. California
tax credits related to R&D and alternative minimum tax in the amount of
$166,000 have no expiration date.
 
 Our
methodology for determining the realizability of our deferred income tax assets
involves estimates of future taxable income based upon booked orders; the
estimated impact of future stock option deductions; and the expiration dates and
amounts of net operating loss carryforwards.  We have had difficulty
in the past, and expect to have continued difficulty in the future, in reliably
forecasting our revenue.  This resulted in our basing our estimates of
future income for these purposes on booked orders only.  As
circumstances change, we may in the future be able to estimate revenue based
upon our forecast revenues rather than only using booked orders, although we
cannot say when or if this will occur.
 
 In
concluding that a full valuation allowance was required at the end of fiscal
year 2006 and 2007 and continues to be required at the end of fiscal year 2008,
we considered both the positive and negative evidence regarding our ability to
generate sufficient future taxable income to realize our deferred income tax
assets.  Positive evidence included (1) the level of sales and
business experienced under the contracts for the U.S. Department of Homeland
Security’s Permanent Resident card and Border Crossing card programs and for the
Canadian government’s Permanent Resident Card program; (2) prospects in Italy
and the Kingdom of Saudi Arabia for national identification card programs; and
(3) expected future orders.  Negative evidence included (1) our
reliance on a limited number of customers for a substantial portion of our
business; (2) the uncertainty in timing of anticipated orders from our
customers; (3) the impact of future stock option deductions on taxable income;
(4) our experience of net operating loss carryforwards expiring unused through
fiscal year 2004; (5) the recent financial statement losses; and (6) the prior
three years’ cumulative tax net operating losses exclusive of payments derived
from the Prevent contract.  In weighing the positive and negative
evidence, we considered the “more likely than not” criteria pursuant to SFAS No.
109 as well as the following risks related to our
business:  “dependence on a small number of customers,” “lengthy sales
cycles,” “technological change,” and “competition”.  As described, we
concluded that the negative evidence outweighed the positive evidence and as a
result we recorded a valuation allowance equal to the full amount of the
deferred income tax asset as of March 31, 2006 and again at March 31, 2007 and
at March 31, 2008.
  42
  In the
event that actual results differ from these estimates or that these estimates
are adjusted in future periods, we may need to adjust the amount of the
valuation allowance based on future determinations of whether it is more likely
than not that some or all of our deferred income tax assets will be
realized.  A decrease in the valuation allowance would be recorded as
an income tax benefit or a reduction of income tax expense.  The net
operating losses available to reduce future taxable income expire on various
dates from fiscal year 2009 through fiscal year 2028.  To the extent
that we generate taxable income in jurisdictions where the deferred income tax
asset relates to net operating losses that have been offset by a full valuation
allowance, the utilization of these net operating losses would result in the
reversal of the related valuation allowance.
 
 Inventories.  We
value our inventory at the lower of the actual cost to purchase and/or
manufacture the inventory or market value with market value based on replacement
cost or estimated realizable value less cost to sell.  We regularly
review inventory quantities on hand and record a provision for excess and
obsolete inventory based primarily on forecasts of product
demand.  Demand for optical card drives can fluctuate
significantly.  In order to obtain favorable pricing, purchases of
certain read/write drive parts are made in quantities that exceed the booked
orders.  We purchase drive parts for our anticipated demand and takes
into consideration the order-to-delivery lead times of vendors and the economic
purchase order quantity for such parts.  In addition, we keep a supply
of card raw materials that we deem necessary for anticipated
demand.  We use standard costs which approximate the first-in,
first-out costing method.
 
 We
perform an analysis of the carrying value of inventory on a quarterly
basis.  With respect to inventory carrying values, we follow the
principles articulated in SFAS No. 151, Inventory Costs — an Amendment of
ARB No. 43, Chapter 4, (“SFAS No. 151”), ARB No. 43, Chapter 4 Inventory Pricing, paragraphs
5 through 7 and 10 and other authoritative guidance (e.g. SAB 100) as it relates
to determining the appropriate cost basis of inventory and determining whether
firm, noncancelable purchase commitments should be accrued as a loss if
forecasted demand is not sufficient to utilize all such committed inventory
purchases and the accounting for abnormal amounts of idle facility expense,
freight, handling costs and wasted material (spoilage). Following SFAS No. 151,
we allocate fixed production overheads to the costs of conversion based on the
normal capacity of the production facilities. We applied SFAS No. 151 to
inventory costs incurred effective April 1, 2006.  The provisions of
this statement were applied prospectively.
 
 Prior to
the adoption of SFAS No. 151, full overhead absorption would only occur if we
produced at full capacity at each operation.  This resulted in the
recording of the idle capacity, the difference between actual production and
full capacity, as a period cost on the income statement for the period in which
it arose.  In applying SFAS No. 151, our analysis has shown that
normal capacity is greater than actual production but less than full
capacity.  Therefore, the amount of period cost for excess capacity is
reduced, and the per-unit amount of overhead applied to production and inventory
has increased.  The SFAS No. 151 valuation applied on a FIFO basis
resulted in an increase to the inventory value totaling $219,000 at the period
of adoption in the first quarter of fiscal year 2007.
 
 We
establish aged inventory reserves and obsolescence reserves. Inventory reserves
are generally recorded when management determines that an item is not readily
saleable. Inventory reserves are not relieved until the related inventory has
been sold or scrapped. The excess and obsolete inventory reserves net change was
a net increase of $76,000, a net increase of $334,000, and a net decrease of
$145,000 for the fiscal years ended March 31, 2008, 2007, and 2006,
respectively.  The net changes for fiscal year 2008 and 2007 were
largely due to inventory of optical memory cards based on an old
design. The net relief for fiscal year 2006 was due to disposition of
reserved inventory of the optical memory cards and read/write drives. As part of
our quarterly excess/obsolete inventory analysis, we also determine whether
lower of cost or market adjustments (i.e., where selling prices less certain
costs are not sufficient to recover inventory carrying values) are warranted. We
did not record any lower of cost or market adjustments in our consolidated
statements of operations for fiscal years ended March 31, 2008, 2007, and
2006.  Our inventory reserves are based upon the lower of cost or
market for slow moving or obsolete items.  As a result, we believe a
10% increase or decrease of sales would not have a material impact on such
reserves.
 
 Impairment of Goodwill and
Intangible Assets.  We perform an annual impairment testing of
goodwill and other intangible assets to comply with SFAS No. 142, Goodwill and Other Intangible
Assets.  At March 31, 2007, we determined that estimated future
cash flows were insufficient to justify the carrying value of the goodwill and
intangible assets related to the March 31, 2004, acquisition of our German
operations based on management’s decision to suspend optical memory card
production in Germany.  As such, we recorded a non-cash pre-tax
impairment charge of approximately $3.8 million to write-off these goodwill and
other intangible assets.  During fiscal years 2006 and 2005, the
future cash flows had been determined to be sufficient based in part on planned
production of a portion of our optical memory cards in our facility in
Germany.  There was no impairment charge during fiscal year 2006 or
2008.  We intend to continue to use the facility and equipment in
Germany to produce specialty cards although plans to use the facility to produce
LaserCard® optical memory cards in Germany were suspended during fiscal year
2007.  However, we now have plans to reinstate production of optical
memory cards, or certain steps in their production, in Germany in the
future.
  43
  Share-Based
Compensation.  As described in detail in Note 2, Stock-Based
Compensation, of the accompanying Notes to the Consolidated Financial
Statements, effective April 1, 2006, we adopted the fair value recognition
provisions of SFAS No. 123(R), using the modified-prospective transition method.
Under the fair value recognition provisions of SFAS No. 123(R), share-based
compensation cost is estimated at the grant date based on the fair value of the
award and is recognized as expense, net of estimated forfeitures, ratably over
the vesting period of the award. Calculating share-based compensation expense
requires the input of highly subjective assumptions, including the expected term
of the share-based awards, stock price volatility, and pre-vesting stock option
forfeitures. We estimated the expected life of stock options granted during
fiscal year ended March 31, 2008 based upon vesting provision and historical
exercise, cancellation, and expiration patterns. We estimate the volatility of
our common stock at the date of grant based on the historical volatility of our
common stock. The assumptions used in calculating the fair value of stock-based
awards represent our best estimates, but these estimates involve inherent
uncertainties and the application of management judgment. As a result, if
factors change and we use different assumptions, our share-based compensation
expense could be materially different in the future. In addition, we are
required to estimate the expected forfeiture rate and only recognize expense for
those shares expected to vest. We estimate the forfeiture rate based on
historical experience. If our actual forfeiture rate is materially different
from our estimate, the stock-based compensation expense could be significantly
different from what we have recorded in the current period.
 
 As a
result of adopting SFAS No. 123(R) using the modified prospective method, our
net income applicable to common shareholders for the fiscal year ended March 31,
2008 includes $2 million of share-based compensation expense from stock options
and $0.1 million of Employee Stock Purchase Plan expense included in the
consolidated statements of operations. During the fiscal year ended March 31,
2007 our share-based compensation expense included $1.7 million from stock
options and $0.1 million of Employee Stock Purchase Plan expensed in the
consolidated statements of operations.  As of March 31, 2008, $3.7
million of total unrecognized compensation cost related to unvested share-based
compensation arrangements is expected to be recognized over the remaining
vesting period through December 31, 2012. Prior to the adoption of SFAS No.
123(R), we provided pro forma disclosures of net income (loss) as if the
fair-value-based method had been applied.
 
 Valuation of Auction Rate
Securities.Our auction rate securities are classified as
available-for-sale and are carried at fair value. Unrealized gain and losses, if
any, are recorded as a component of accumulated other comprehensive income.
Declines in fair value judged to be other-than-temporary, if any, are recorded
in our consolidated statement of operations as incurred. The auction rate
securities are classified based on an assessment of their liquidity as of our
most recent balance sheet date. These securities typically have fixed reset
dates within one year, which are designed to allow investors to exit these
instruments at par even though the underlying debt instruments may have nominal
maturity of as much as 40 years. However, auctions recently began to fail and as
a result, our ability to exit these instruments in the short-term is not
guaranteed. A failed auction is generally considered an auction with more
sellers than buyers or an auction with no buyers at all. An assessment is
performed for auction rate securities with failed auctions and the instruments
are classified based on our ability to hold the auction rate securities until
the forecasted recovery of fair value.
 
 In
accordance with EITF 03-01 and FSP FAS 115-1 and 124-1, The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments, we evaluate our
investments periodically for possible other-than-temporary impairment by
reviewing factors such as current economic and market conditions, the length of
time and extent to which fair value has been below cost basis, the financial
condition and credit rating of the issuer and our ability and intent to hold the
investment for a period of time which may be sufficient for anticipated recovery
of market value. We will record an impairment charge to the extent that the
carrying value of our available for sale securities exceeds the estimated fair
market value of the securities and the decline in value is determined to be
other-than-temporary. We will continue to monitor and evaluate the value of our
investments each reporting period for a possible impairment or a cause to
believe there is any other-than-temporary impairment to our investment
holdings.
 
 In
valuing its investments, we primarily use market data or fair values derived
from brokerage statements supplied by our brokerage firm. The fair value of the
auction rate securities with failed auctions are subject to unobservable inputs
in the fair value measurement that are derived from fair values calculated by
our brokerage firm using their internally developed valuation methodology
based on a present value cash flow model. We also used a valuation firm to help
us analyze the reasonableness of the fair values provided by our brokerage
firm.
  44
  EFFECTS
OF RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENT
 
 In June
2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation
No. 48, Accounting for
Uncertainty in Income Taxes—an interpretation of FASB Statement
No. 109 (“FIN 48”). This Interpretation clarifies the accounting for
uncertainty in income taxes recognized in the Company’s financial statements in
accordance with FASB Statement No. 109, Accounting for Income Taxes.
FIN 48 prescribes a recognition threshold and measurement attribute for the
financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. This Interpretation also provides guidance
on derecognition, classification, interest and penalties, accounting in interim
periods, disclosure, and transition. The evaluation of a tax position in
accordance with FIN 48 is a two-step process. The first step is recognition: We
determine whether it is “more-likely-than-not” that a tax position will be
sustained upon examination, including resolution of any related appeals or
litigation processes, based on the technical merits of the position. In
evaluating whether a tax position has met the “more-likely-than-not” recognition
threshold, we presume that the position will be examined by the appropriate
taxing authority that would have full knowledge of all relevant information. The
second step is measurement: A tax position that meets the “more-likely-than-not”
recognition threshold is measured to determine the amount of benefit to
recognize in the financial statements. The tax position is measured at the
largest amount of benefit that is greater than 50 percent likely to be realized
upon ultimate settlement. FIN 48 is effective for fiscal years beginning after
December 15, 2006 which for us was the fiscal year commencing on April 1,
2007.
 
 Upon
adoption of FIN 48 on April 1, 2007, we recognized a cumulative effect
adjustment of $62,000, decreasing our income tax liability for unrecognized tax
benefits, and decreasing the March 31, 2007 accumulated deficit
balance.
  As of
March 31, 2008, the total amount of gross unrecognized tax benefits was
approximately $229,000 and the entire balance represents the amount of
unrecognized tax benefits that, if recognized, would affect the effective tax
rate.  We do not currently anticipate that any significant increase or
decrease to unrecognized tax benefits will be recorded during the next
12 months.
  We
recognize interest and penalties accrued on any unrecognized tax benefits as a
component of our provision for income taxes. As of March 31, 2008, we have
accrued $34,000 for payment of interest and penalties related to unrecognized
tax benefits.
  A
reconciliation of the beginning and ending amount of unrecognized tax benefit is
as follows:
  Balance
      as of March 31, 2007
                
                $
                (229,000
                )Gross
      increases - tax positions in prior period
                
                
                —Gross
      decreases - tax positions in prior period
                
                
                —Gross
      increases - current-period tax positions
                
                
                —Decreases
      relating to settlements
                
                
                —Reductions
      as a result of a lapse of statute of limitations
                
                
                —Foreign
      exchange reserve
                
                
                —Balance
      as of March 31, 2008
                
                $
                (229,000
                )
  Although
we file U.S. federal, various state, and foreign tax returns, our only major tax
jurisdictions are the United States, California and Germany.  Tax years
1993 through 2008 remain subject to examination by the appropriate governmental
agencies, mainly the United States, due to tax loss carryovers from those
years.
 
 RECENTLY
ISSUED ACCOUNTING PRONOUNCEMENTS
  In June
2007, EITF Issue No. 07-3 ("EITF 07-3"), Accounting for Nonrefundable Advance
Payments for Goods or Services to Be Used in Future Research and Development
Activities, was issued that requires companies to defer and capitalize
prepaid, nonrefundable research and development payments to third parties and
recognize such amounts over the period that the research and development
activities are performed or the services are provided, subject to an assessment
of recoverability. The guidance is effective for new contracts entered into in
fiscal years beginning after December 15, 2007, including interim periods within
those fiscal years.  Earlier application is not
permitted.  We believe that application of this guidance will not have
a material impact on our consolidated financial statements.
  45
  In
September 2006, the FASB issued Statement No. 157, Fair Value Measurements
(“SFAS No. 157”). SFAS No. 157 defines fair value, establishes a framework for
measuring fair value in U.S. generally accepted accounting principles, and
expands disclosures about fair value measurements. SFAS No. 157 is intended to
be applied in conjunction with other accounting pronouncements that require or
permit fair value measurements. Although SFAS No. 157 does not require any new
fair value measurements, its application may change current practice for some
entities. The definition of fair value contained in SFAS No. 157 retains the
exchange price notion inherent in earlier definitions of fair value. SFAS No.
157 clarifies that the exchange price is the price in an orderly transaction
between market participants to sell an asset or transfer a liability in the
principal (or most advantageous) market for the asset or liability. Accordingly,
the definition focuses on the price that would be received to sell the asset or
paid to transfer the liability at the measurement date (an exit price), not the
price that would be paid to acquire the asset or received to assume the
liability at the measurement date (an entry price). SFAS No. 157 emphasizes that
fair value is a market-based measurement, not an entity-specific measurement.
Therefore, SFAS No. 157 prescribes that a fair value measurement be determined
based on the assumptions that market participants would use in pricing the asset
or liability. We have not yet determined what impact this statement will have on
our consolidated financial statements.
 
 In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities (“SFAS No. 159”). SFAS No. 159 provides
entities with an option to report selected financial assets and liabilities at
fair value, with the objective to reduce both the complexity in accounting for
financial instruments and the volatility in earnings caused by measuring related
assets and liabilities differently.  SFAS No. 159 is effective for
fiscal years beginning after November 15, 2007.  We have not yet
determined what impact this statement will have on our consolidated financial
statements.
  In
December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations (“SFAS
141R”).  SFAS 141R establishes principles and requirements for how an
acquirer recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, any noncontrolling interest in the
acquiree and the goodwill acquired. SFAS 141R also establishes disclosure
requirements to enable the evaluation of the nature and financial effects of the
business combination. SFAS 141R is effective for fiscal years beginning after
December 15, 2008. We will assess the potential impact of the adoption of SFAS
141R if and when a future acquisition occurs.
  In
December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in
Consolidated Financial Statements—an amendment of Accounting Research Bulletin
No. 51 (“SFAS 160”).  SFAS 160 establishes accounting and
reporting standards for ownership interests in subsidiaries held by parties
other than the parent, the amount of consolidated net income attributable to the
parent and to the noncontrolling interest, changes in a parent’s ownership
interest, and the valuation of retained noncontrolling equity investments when a
subsidiary is deconsolidated. SFAS 160 also establishes disclosure requirements
that clearly identify and distinguish between the interests of the parent and
the interests of the noncontrolling owners. SFAS 160 is effective for fiscal
years beginning after December 15, 2008. We are currently evaluating the
potential impact of the adoption of SFAS 160 on our consolidated financial
statements.
 
 OFF-BALANCE
SHEET ARRANGEMENTS
 
 We have
no off-balance sheet arrangement as of March 31, 2008 and 2007 that has or is
reasonably likely to have a current or future effect on our financial condition,
changes in financial condition, revenues or expenses, results of operations,
liquidity, capital expenditures, or capital resources that is material to
investors.
  46
  ITEM
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISKS
 
 Interest Rate
Risk.  We invest our cash, beyond that needed for daily
operations, in high quality debt securities.  In doing so, we seek
primarily to preserve the value and liquidity of our capital and, secondarily,
to safely earn income from these investments.  To accomplish these
goals, we invest only in debt securities issued by (a) the U.S. Treasury and
U.S. government agencies, state agencies and corporations and (b) debt
instruments that meet the following criteria:
 
 ●
              Commercial
      paper rated A1/P1 or debt instruments rated AAA, as rated by the major
      rating services●
              Can
      readily be sold for cash
 
 Investments
in both fixed rate and floating rate interest earning instruments carry a degree
of interest rate risk. Fixed rate securities may have their fair market value
adversely impacted because of a rise in interest rates, while floating rate
securities may produce less income than expected if interest rates fall. Due in
part to these factors, our future investment income may fall short of
expectations because of changes in interest rates or we may suffer losses in
principal if forced to sell securities that have seen a decline in market value
because of changes in interest rates.
  Auction
rate securities are securities that are structured with short-term interest rate
reset dates of generally 28 to 35 days but with contractual maturities that can
be well in excess of ten years.  Our auction rate securities consist
of investments that are secured by pools of student loans which are guaranteed
for 95% of principal and interest under the Federal Family Education Loan
Program (“FFELP) and are AAA rated.  We believe that the credit
quality of these securities is high based on these guarantees.  We do
not own, and have not invested in, any auction rate securities secured by
mortgages or collateralized debt obligations.  At the end of each
reset period, investors can sell or continue to hold the securities at par
value.  This auction process has historically provided a liquid market
for auction rate securities.  Recently, however, certain auctions
failed due to sell orders exceeding buy orders.  We continued to see
deterioration in the market for these types of securities which spread from
initially primarily subprime mortgage related securities to other forms of
securities.  The funds associated with failed auctions will not be
accessible until a successful auction occurs, a buyer is found outside of the
auction process, or the underlying securities have matured or are recalled by
the issuer.  Given the recent disruptions in the credit markets and
the fact that the liquidity for these types of securities remains uncertain, as
of March 31, 2008, we have classified all of our auction rate securities as a
long-term asset in our consolidated balance sheet as our ability to liquidate
such securities in the next 12 months is uncertain.
 
 Based on
an analysis of other-than-temporary impairment factors, we recorded a temporary
impairment within other accumulated comprehensive loss of approximately $0.6
million at March 31, 2008 related to these auction rate
securities.  Our auction rate securities portfolio as of March 31,
2008 was $12.9 million and has continued to experience failed
auctions.
 
 Our
marketable securities are reported at fair value with the related unrealized
gains and losses included in accumulated other comprehensive income (loss), a
component of shareholders' equity, net of tax.  We evaluate our
investments periodically for possible other-than-temporary impairment by
reviewing factors such as the length of time and extent to which fair value has
been below cost basis, the financial condition of the issuer and our ability and
intent to hold the investment for a period of time which may be sufficient for
anticipated recovery of market value.  We will record an impairment
charge to the extent that the carrying value of our available for sale
securities exceeds the estimated fair market vale of the securities and the
decline in value is determined to be other-than-temporary.  Refer to
Note 2 of the Notes to Consolidated Financial Statements in Item 8, “Financial
Statements and Supplementary Data,”  for further discussion of our
investments in marketable securities.
  47
  The
following summarizes investments at fair value, weighted average yields and
expected maturity dates for the fiscal years ended March 31 (in
thousands):
  2008
                
                
                2007Auction
      rate securities, short term
                
                $
                —
                
                
                $
                17,500Auction
      rate securities, long-term
                
                
                13,500
                
                
                
                —Gross
      unrealized gains (losses)
                
                
                (625
                )
                
                
                —Estimated
      fair market value
                
                $
                12,875
                
                
                $
                17,500Weighted
      average yield
                
                
                2.18
                %
                
                
                5.29
                %Maturity
      Dates
                
                July
      15, 2029 through January 25, 2047
                
                
                March
      30, 2007 through April 26, 2007
 
 Foreign Currency Exchange Rate
Risk.Our U.S. operations sell products in various international
markets.  During fiscal year 2008, revenue by our German
subsidiary of approximately $13.2 million was denominated in foreign
currency.  In addition, some raw material purchases and purchased services
are denominated in foreign currency. Cash provided by/used in CCD operating
activities has been immaterial.
 
 We use
short-term foreign exchange forward contracts to mitigate foreign currency risk
associated primarily with inter-company receivables and payables, and loans
receivable (denominated in Euros) to our German subsidiary.  Our foreign
exchange forward contracts are not designated for accounting purposes as hedging
instruments under SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended.  Accordingly,
any gains or losses resulting from changes in the fair value of the forward
contract are reported in other income, net expenses.  The gains and
losses on these forward contracts generally offset gains and losses associated
with the underlying foreign currency denominated inter-company receivables and
payables, and loans receivable.  At March 31, 2008, we had a foreign
exchange forward contract with a maturity of less than 30 days to purchase 1.2
million euros.  The fair value of the forward contract was not
material at March 31, 2008.
  48
  ITEM
8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
 
 REPORT OF INDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRM
  
 The Board
of Directors and Stockholders of
 LaserCard
Corporation
 
 We have
audited LaserCard Corporation and subsidiaries’ internal control over financial
reporting as of March 31, 2008, based on criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission (the COSO criteria). LaserCard Corporation and subsidiaries’
management is responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness of internal
control over financial reporting included in Management’s Report on Internal
Control Over Financial Reporting included in Item 9A. Our responsibility is to
express an opinion on the Company's internal control over financial reporting
based on our audit.
  We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.
  A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain
to the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management
and directors of the company; and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a material effect on the
financial statements.
  Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
  In our
opinion, LaserCard Corporation and subsidiaries maintained, in all material
respects, effective internal control over financial reporting as of March 31,
2008, based on the COSO criteria.
  We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of LaserCard
Corporation and subsidiaries as of March 31, 2008 and 2007, and the related
consolidated statements of operations, stockholders’ equity and cash flows for
each of the three years in the period ended March 31, 2008 and our report dated
June 4, 2008 expressed an unqualified opinion thereon.
  /s/
ODENBERG, ULLAKKO, MURANISHI  & CO. LLP
 
 San
Francisco, CA
 June 4,
2008
  49
 
 REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
  The Board
of Directors and Stockholders of
 LaserCard
Corporation
 
 We have
audited the accompanying consolidated balance sheets of LaserCard Corporation
and subsidiaries as of March 31, 2008 and 2007, and the related consolidated
statements of operations, stockholders’ equity and cash flows for each of the
three years in the period ended March 31, 2008. These financial statements are
the responsibility of the Company’s management. Our responsibility is to express
an opinion on these financial statements based on our audits.
  We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
  In our
opinion, the consolidated financial statements audited by us present fairly, in
all material respects, the consolidated financial position of LaserCard
Corporation and subsidiaries at March 31, 2008 and 2007, and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended March 31, 2008, in conformity with U.S. generally accepted
accounting principles.
  As
discussed in Note 2 of the Notes to Consolidated Financial Statements, on April
1, 2007, the Company adopted Financial Accounting Standards Board Interpretation
No. 48, Accounting for
Uncertainty in Income Taxes, an Interpretation of FAS 109.
Also as discussed in Note 2 of the Notes to Consolidated Financial
Statements, on April 1, 2006, the Company adopted the provisions of
Statement of Financial Accounting Standards No. 123 (revised), Share-Based
Payment.
  We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), LaserCard Corporation and subsidiaries’
internal control over financial reporting as of March 31, 2008, based on
criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission and our report dated June 4, 2008 expressed an unqualified
opinion thereon.
  /s/
ODENBERG, ULLAKKO, MURANISHI & CO. LLP
 
 San
Francisco, CA
 June 4,
2008
  50
  LASERCARD CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
BALANCE SHEETS
 March 31,
2008 and 2007
 (In
thousands, except share and per share amounts)
  2008
                
                
                2007ASSETSCurrent
      assets:Cash
      and cash equivalents
                
                $
                5,583
                
                
                $
                3,026Short-term
      investments
                
                
                —
                
                
                
                17,500Accounts
      receivable, net
                
                
                2,952
                
                
                
                3,489Inventories,
      net of reserves of $913 at March 31, 2008and
      $837 at March 31, 2007
                
                
                13,080
                
                
                
                11,462Deferred
      contract costs
                
                
                303
                
                
                
                233Equipment
      held for resale
                
                
                89
                
                
                
                —Prepaid
      and other current assets
                
                
                1,618
                
                
                
                1,594Total
      current assets
                
                
                23,625
                
                
                
                37,304Property
      and equipment, net
                
                
                11,700
                
                
                
                12,988Long-term
      investments
                
                
                12,875
                
                
                
                —Long-term
      deferred contract costs
                
                
                561
                
                
                
                721Long-term
      equipment held for resale
                
                
                6,599
                
                
                
                6,340Patents
      and other intangibles, net
                
                
                402
                
                
                
                411Notes
      receivable
                
                
                269
                
                
                
                227Other
      non-current assets
                
                
                275
                
                
                
                109Total
      assets
                
                $
                56,306
                
                
                $
                58,100LIABILITIES
      AND STOCKHOLDERS' EQUITYCurrent
      liabilities:Accounts
      payable
                
                $
                2,561
                
                
                $
                2,284Accrued
      liabilities
                
                
                3,221
                
                
                
                2,989Deferred
      income tax liabilities
                
                
                405
                
                
                
                388Advance
      payments from customers
                
                
                3,060
                
                
                
                1,838Deferred
      revenue
                
                
                589
                
                
                
                1,584Capital
      lease obligation
                
                
                30
                
                
                
                —Total
      current liabilities
                
                
                9,866
                
                
                
                9,083Capital
      lease obligation, net of current portion
                
                
                76
                
                
                
                —Advance
      payments from customer
                
                
                23,770
                
                
                
                23,554Deferred
      revenue
                
                
                3,437
                
                
                
                2,000Deferred
      rent
                
                
                1,168
                
                
                
                864Income
      tax payable
                
                
                263
                
                
                
                —Total
      liabilities
                
                
                38,580
                
                
                
                35,501Commitments
      and contingencies (Note 7)Stockholders'
      equity:Preferred
      stock, $0.01 par value:Authorized
      - 2,000,000 sharesIssued
      - none
                
                
                —
                
                
                
                —Common
      stock, $0.01 par value:Authorized
      - 30,000,000 sharesIssued
      and outstanding - 11,979,420 shares at March 31, 2008and
      11,857,542 shares at March 31, 2007
                
                
                120
                
                
                
                119Additional
      paid-in capital
                
                
                63,868
                
                
                
                61,068Accumulated
      deficit
                
                
                (45,867
                )
                
                
                (38,722
                )Accumulated
      other comprehensive income (loss)
                
                
                (395
                )
                
                
                134Total
      stockholders' equity
                
                
                17,726
                
                
                
                22,599Total
      liabilities and stockholders' equity
                
                $
                56,306
                
                
                $
                58,100The
      accompanying notes are an integral part of these consolidated financial
      statements.
  51
 
 LASERCARD
CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENTS OF OPERATIONS
 Fiscal
Years Ended March 31, 2008, 2007, and 2006
 (In
thousands, except per share amounts)
  2008
                
                
                2007
                
                
                2006Revenue
                
                $
                37,008
                
                
                $
                32,270
                
                
                $
                39,857Cost
      of product sales (includes $336 of stock-based
compensationin
      the fiscal year ended March 31, 2008 and $325 in thefiscal
      year  ended March 31, 2007)
                
                
                27,009
                
                
                
                25,406
                
                
                
                24,804Gross
      profit
                
                
                9,999
                
                
                
                6,864
                
                
                
                15,053Operating
      expenses:Selling,
      general, and administrative expenses (includes$1,498
      of stock-based compensation in the fiscal year endedMarch
      31, 2008 and $1,116 in the fiscal year endedMarch
      31, 2007)
                
                
                15,253
                
                
                
                13,575
                
                
                
                11,949Research
      and development expenses (includes $256 ofstock-based
      compensation in the fiscal year endedMarch
      31, 2008 and $354 in the fiscal year endedMarch
      31, 2007)
                
                
                2,878
                
                
                
                3,095
                
                
                
                2,338Impairment
      of goodwill and intangible assets
                
                
                —
                
                
                
                3,811
                
                
                
                —Total
      operating expenses
                
                
                18,131
                
                
                
                20,481
                
                
                
                14,287Operating
      income (loss)
                
                
                (8,132
                )
                
                
                (13,617
                )
                
                
                766Other
      income, net
                
                
                812
                
                
                
                895
                
                
                
                471Income
      (loss) before income taxes
                
                
                (7,320
                )
                
                
                (12,722
                )
                
                
                1,237Provison
      for income tax (benefit)
                
                
                (114
                )
                
                
                (351
                )
                
                
                443Net
      income (loss)
                
                $
                (7,206
                )
                
                $
                (12,371
                )
                
                $
                794Net
      income (loss) per share:Basic
                
                $
                (0.60
                )
                
                $
                (1.05
                )
                
                $
                0.07Diluted
                
                $
                (0.60
                )
                
                $
                (1.05
                )
                
                $
                0.07Weighted-average
      shares of common stockused
      in computing net income (loss) per share:Basic
                
                
                11,929
                
                
                
                11,814
                
                
                
                11,415Diluted
                
                
                11,929
                
                
                
                11,814
                
                
                
                11,587The
      accompanying notes are an integral part of these consolidated financial
      statements.
 52
 
  LASERCARD
      CORPORATION AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME
      (LOSS)Fiscal
      Years Ended March 31, 2006, 2007, and 2008(In
      thousands)Common
      Stock
                  
                  
                  Additional
      Paid-in
                  
                  
                  Accumulated
                  
                  
                  Accumulated
      Other Comprehensive
                  
                  
                  Treasury
      Stock
                  
                  
                  Total
      Stockholders'
                  
                  
                  ComprehensiveShares
                  
                  
                  Amount
                  
                  
                  Capital
                  
                  
                  Deficit
                  
                  
                  Income
      (loss)
                  
                  
                  Shares
                  
                  
                  Amount
                  
                  
                  Equity
                  
                  
                  Income (loss)Balance,
      March 31, 2005
                  
                  
                  11,437
                  
                  
                  $
                  114
                  
                  
                  $
                  54,155
                  
                  
                  $
                  (27,145
                  )
                  
                  $
                  209
                  
                  
                  
                  (92
                  )
                  
                  $
                  (655
                  )
                  
                  $
                  26,678Shares
      issued under stock option and stock purchase plans and related income tax
      benefits
                  
                  
                  297
                  
                  
                  
                  3
                  
                  
                  
                  3,977
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  92
                  
                  
                  
                  655
                  
                  
                  
                  4,635Compensation
      related to stock plan activity
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  123
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  123Comprehensive
      gains (loss):Foreign
      currency translation adjustments
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (213
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (213
                  )
                  
                  $
                  (213
                  )Net
      income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  794
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  794
                  
                  
                  
                  794Total
      comprehensive income
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  $
                  581Balance,
      March 31, 2006
                  
                  
                  11,734
                  
                  
                  
                  117
                  
                  
                  
                  58,255
                  
                  
                  
                  (26,351
                  )
                  
                  
                  (4
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  32,017Shares
      issued under stock option and stock purchase plans
                  
                  
                  124
                  
                  
                  
                  2
                  
                  
                  
                  1,018
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  1,020Compensation
      related to stock plan activity
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  1,795
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  1,795Comprehensive
      gains (loss):Foreign
      currency translation adjustments
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  ―
                  
                  
                  
                  138
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  138
                  
                  
                  $
                  138Net
      loss
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (12,371
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (12,371
                  )
                  
                  
                  (12,371
                  )Total
      comprehensive loss
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  $
                  (12,233
                  )Balance,
      March 31, 2007
                  
                  
                  11,858
                  
                  
                  
                  119
                  
                  
                  
                  61,068
                  
                  
                  
                  (38,722
                  )
                  
                  
                  134
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  22,599Cumulative
      effect upon adoption of FIN48
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  62
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  62Shares
      issued under stock option and stock purchase plans
                  
                  
                  122
                  
                  
                  
                  1
                  
                  
                  
                  711
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  712Compensation
      related to stock plan activity
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  2,089
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  2,089Comprehensive
      gains (loss):Foreign
      currency translation adjustments
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  ―
                  
                  
                  
                  95
                  
                  
                  
                  ―
                  
                  
                  
                  ―
                  
                  
                  
                  95
                  
                  
                  $
                  95Unrealized
      loss in fair value of investments
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (625
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (625
                  )
                  
                  
                  (625
                  )Net
      loss
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (7,206
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (7,206
                  )
                  
                  
                  (7,206
                  )Total
      comprehensive loss
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  $
                  (7,736
                  )Balance,
      March 31, 2008
                  
                  
                  11,979
                  
                  
                  $
                  120
                  
                  
                  $
                  63,868
                  
                  
                  $
                  (45,867
                  )
                  
                  $
                  (395
                  )
                  
                  
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  17,726The
      accompanying notes are an integral part of these consolidated financial
      statements.
  53
 
 LASERCARD
      CORPORATION AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF CASH FLOWSFiscal
      Years Ended March 31, 2008, 2007, and 2006(In
      thousands)2008
                  
                  
                  2007
                  
                  
                  2006Cash
      flows from operating activities:Net
      income (loss)
                  
                  $
                  (7,206
                  )
                  
                  $
                  (12,371
                  )
                  
                  $
                  794Adjustments
      to reconcile net income (loss) to net cashprovided
      by (used in) operating activities:Depreciation
      and amortization
                  
                  
                  2,993
                  
                  
                  
                  2,749
                  
                  
                  
                  2,515Gain
      (loss) on disposal of equipment
                  
                  
                  (6
                  )
                  
                  
                  52
                  
                  
                  
                  21Impairment
      of goodwill and intangible assets
                  
                  
                  -
                  
                  
                  
                  3,811
                  
                  
                  
                  -Provision
      for (recovery of) doubtful accounts receivable
                  
                  
                  (39
                  )
                  
                  
                  (4
                  )
                  
                  
                  34Provision
      for excess and obsolete inventory
                  
                  
                  57
                  
                  
                  
                  483
                  
                  
                  
                  194Provision
      for product return reserve
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  78Provision
      for warranty reserve
                  
                  
                  143
                  
                  
                  
                  162
                  
                  
                  
                  516Decrease
      in income tax payable and deferred tax asset
                  
                  
                  181
                  
                  
                  
                  -
                  
                  
                  
                  -Stock-based
      compensation
                  
                  
                  2,090
                  
                  
                  
                  1,795
                  
                  
                  
                  130Tax
      benefit relating to the exercise of stock options
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  196Changes
      in operating assets and liabilities:Decrease
      (increase) in accounts receivable
                  
                  
                  901
                  
                  
                  
                  1,658
                  
                  
                  
                  (3,216
                  )Increase
      in inventories
                  
                  
                  (1,347
                  )
                  
                  
                  (2,944
                  )
                  
                  
                  (1,238
                  )Decrease
      (increase) in deferred contract costs
                  
                  
                  91
                  
                  
                  
                  87
                  
                  
                  
                  (1,041
                  )Decrease
      (increase) in prepaid and other current assets
                  
                  
                  155
                  
                  
                  
                  (294
                  )
                  
                  
                  47Increase
      in equipment held for resale
                  
                  
                  (339
                  )
                  
                  
                  (463
                  )
                  
                  
                  (1,816
                  )Decrease
      (increase) in other non-current assets
                  
                  
                  -
                  
                  
                  
                  54
                  
                  
                  
                  (62
                  )Increase
      (decrease) in accounts payable and accrued liabilities
                  
                  
                  163
                  
                  
                  
                  (1,484
                  )
                  
                  
                  1,587Decrease
      in deferred income tax liabilities
                  
                  
                  (49
                  )
                  
                  
                  (230
                  )
                  
                  
                  (30
                  )Increase
      (decrease) in deferred revenue
                  
                  
                  371
                  
                  
                  
                  1,095
                  
                  
                  
                  (46
                  )Increase
      in deferred rent
                  
                  
                  304
                  
                  
                  
                  274
                  
                  
                  
                  265Increase
      in advance payments from customers
                  
                  
                  1,201
                  
                  
                  
                  5,099
                  
                  
                  
                  6,120Net
      cash provided by (used in) operating activities
                  
                  
                  (336
                  )
                  
                  
                  (471
                  )
                  
                  
                  5,048Cash
      flows from investing activities:Increase
      in non-current assets
                  
                  
                  (167
                  )
                  
                  
                  -
                  
                  
                  
                  -Purchases
      of property and equipment
                  
                  
                  (1,167
                  )
                  
                  
                  (3,143
                  )
                  
                  
                  (2,314
                  )Proceeds
      from sale of equipment
                  
                  
                  29
                  
                  
                  
                  2
                  
                  
                  
                  -Acquisition
      of patents
                  
                  
                  (115
                  )
                  
                  
                  (155
                  )
                  
                  
                  (104
                  )Purchases
      of short-term investments
                  
                  
                  (7,000
                  )
                  
                  
                  (20,600
                  )
                  
                  
                  (27,200
                  )Proceeds
      from maturities of short-term investments
                  
                  
                  11,000
                  
                  
                  
                  24,449
                  
                  
                  
                  18,300Net
      cash provided by (used in) investing activities
                  
                  
                  2,580
                  
                  
                  
                  553
                  
                  
                  
                  (11,318
                  )Cash
      flows from financing activities:Proceeds
      from sale of common stock through stock plans
                  
                  
                  712
                  
                  
                  
                  1,020
                  
                  
                  
                  4,432Principal
      payments on capital lease obligation
                  
                  
                  (18
                  )
                  
                  
                  -
                  
                  
                  
                  -Net
      cash provided by financing activities
                  
                  
                  694
                  
                  
                  
                  1,020
                  
                  
                  
                  4,432Effect
      of exchange rate changes on cash and cash equivalents
                  
                  
                  (381
                  )
                  
                  
                  (197
                  )
                  
                  
                  (6
                  )Net
      increase (decrease) in cash and cash equivalents
                  
                  
                  2,557
                  
                  
                  
                  905
                  
                  
                  
                  (1,844
                  )Cash
      and cash equivalents:Beginning
      of period
                  
                  
                  3,026
                  
                  
                  
                  2,121
                  
                  
                  
                  3,965End
      of period
                  
                  $
                  5,583
                  
                  
                  $
                  3,026
                  
                  
                  $
                  2,121Supplemental
      disclosures - cash payments for:Income
      taxes
                  
                  $
                  -
                  
                  
                  $
                  163
                  
                  
                  $
                  233Interest
      expense
                  
                  $
                  71
                  
                  
                  $
                  107
                  
                  
                  $
                  80Supplemental
      schedule of non-cash investing activities:Equipment
      acquired under capital lease
                  
                  $
                  113
                  
                  
                  $
                  -
                  
                  
                  $
                  -Unrealized
      loss in fair value of investments
                  
                  $
                  625
                  
                  
                  $
                  -
                  
                  
                  $
                  -The
      accompanying notes are an integral part of these consolidated financial
      statements.
 54
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 1.       
Organization and Operations
 
 LaserCard
Corporation, a Delaware Corporation, and its wholly owned subsidiaries,
LaserCard Corporation, a California Corporation, and Challenge Card Design
Plastikkarten GmbH of Germany (CCD) (collectively the “Company”) develop,
manufacture and integrate LaserCard® optical memory cards, optical card drives,
peripherals and specialty cards and printers.
 
 The
Company's customers for optical memory card related products are mainly
value-added reseller (VAR) companies worldwide, that develop commercial
applications for LaserCard products. Target markets for these products include
government and commercial applications for portable, recordable, secure,
identification cards and other unitary-record cards.  Current
applications include United States Permanent Resident Card (“Green Card”),
Canadian Permanent Resident Card, Italian national ID card, Kingdom of Saudi
Arabia’s national ID card, India’s vehicle registration card in three states,
biometric IDs and other card applications.
 
 The
Company supplies other advanced-technology cards, manufactured by CCD, for
various applications, card printers and systems integration for gate-keeping and
ticketing. The Company recently introduced a new secure, laser engravable
passport data page product, which features a unique hinge system designed to
maximize durability when the polycarbonate page is incorporated into a
traditional passport book.  The data page can include a range of
security features and an ICAO-compliant e-passport chip. The passport issuer
personalizes the data page by laser engraving the passport holder’s facial
image, demographics and ICAO-compliant machine readable data onto the data
page.  The Company is offering the data page both with and without the
ICAO standard e-passport chip through partners to several countries in the
process of upgrading their passports. The Company is also in the business of
delivering turnkey card manufacturing facilities which include the supply and
installation of state-of-the-art card production equipment, transfer of
manufacturing know-how, training, and production support.
 
 The
Company is subject to certain risks including, but not limited to, competition
from substitute products and larger companies and dependence on certain
suppliers and customers.
  2.      
 Summary of Significant Accounting Policies
 
 (1.) Principles of Consolidation and
Basis of Presentation.  The accompanying consolidated financial
statements have been prepared in accordance with U. S. generally accepted
accounting principles.  The consolidated financial statements include
the accounts of LaserCard Corporation and its wholly owned subsidiaries.
All significant intercompany accounts and transactions have been eliminated in
consolidation.
 
 (2.) Use of
Estimates.  The preparation of consolidated financial
statements in conformity with U. S. generally accepted accounting
principles requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates.
 
 (3.) Fiscal
Period.  For purposes of presentation, the Company labels its
annual accounting period end as March 31 and its quarterly accounting
period ends as June 30, September 30 and December 31.  The Company, in
fact, operates and reports based on quarterly periods ending on the Friday
closest to month end.  Fiscal year 2008 ended on March 28, 2008,
fiscal year 2007 ended on March 30, 2007, and fiscal year 2006 ended on March
31, 2006.
 
 (4.)Foreign Currency
Transactions. The functional currency of the Company's foreign
subsidiaries is generally the local currency. The financial statements of these
subsidiaries are translated to United States dollars using period-end rates of
exchange for assets and liabilities and average rates of exchange for the year
for revenues and expenses. Translation gains (losses) are recorded in
accumulated other comprehensive income (loss) as a component of stockholders'
equity. Net gains and losses resulting from foreign exchange transactions are
included in selling, general and administrative expenses and were not
significant during the periods presented.
  55
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  (5.) Derivative Financial
Instruments.The Company uses short-term foreign exchange forward
contracts to mitigate foreign currency risk associated primarily with
inter-company receivables and payables, and loan receivables (denominated in
Euros) with its German subsidiary.  The Company's foreign exchange
forward contracts are not designated for accounting purposes as hedging
instruments under SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended.  Accordingly,
any gains or losses resulting from changes in the fair value of the forward
contracts are reported in other income.  The gains and losses on these
forward contracts generally offset gains and losses associated with the
underlying foreign currency denominated inter-company receivables and payables,
and loans receivable.  At March 31, 2008 and 2007, the Company had
foreign exchange forward contracts with a maturity of less than 30 days to
purchase 1.2 million euros and 2.3 million euros, respectively.  The
fair value of the forward contracts was not material at March 31, 2008, and
2007.
 
 (6.) Concentrations of
Risk. Financial instruments that potentially subject the Company to
significant concentrations of credit risk consist principally of cash, cash
equivalents, short-term investments, long-term investments and accounts
receivable. The Company places its cash, cash equivalents, short-term and
long-term investments in high-credit quality financial institutions. The Company
is exposed to credit risk in the event of default by these institutions to the
extent of the amount recorded on the consolidated balance sheet. As of March 31,
2008, the Company had $12.9 million of student loan auction rate securities
accounted for as available-for-sale and classified as long-term securities due
to the underlying events surrounding the failed auctions. Given the recent
disruptions in the credit markets and the fact that the liquidity for these
types of securities remains uncertain, the Company has classified all of its
auction rate securities as long-term assets in the Company's consolidated
balance sheet as the Company's ability to liquidate such securities in the next
12 months is uncertain.  More detailed information about the risks the
Company faces with regard to its investment in the auction rate securities can
be found below.
 
 Accounts
receivable are derived from revenue earned from customers primarily located in
the United States, Italy and Germany. The Company performs ongoing credit
evaluations of its customers’ financial condition and generally does not require
collateral. The Company maintains reserves for potential credit losses and
historically, such losses have been immaterial
 
 (7.) Major Customers.The
following customers accounted for more than 10% of revenue for the fiscal years
ended March 31 are:
  2008
                
                2007
                
                2006Customer
      A
                29%
                
                28%
                
                31%Customer
      B
                17%
                
                13%
                
                —Customer
      C
                14%
                
                2%
                
                —Customer
      D
                1%
                
                8%
                
                31%
 
 The
revenue from these customers was attributable to both the optical memory card
and the optical card drive segments.  No other customer accounted for
more than 10% of revenues during the periods.
 
 One
customer accounted for 37% of accounts receivable as of March 31,
2008.  Two customers accounted for 31% and 17%, respectively, of
accounts receivable at March 31, 2007.
 
 (8.) Cash and Cash Equivalents,
Short-term Investments and Long-term Investments.  The Company
considers all highly liquid investments, consisting primarily of commercial
paper, discount notes and U.S. government bonds, with maturities of three months
or less at the date of purchase, to be cash equivalents.  Short-term
investments include securities with maturities at date of purchase of more than
three months and investments with remaining maturities of less than one
year.  All investments with maturities at date of purchase greater
than one year are classified as long-term investments.  Management
determines the appropriate classification of debt securities at the time of
purchase and re-evaluates the classification of investments as of each balance
sheet date.
 
 All
short-term and long-term investments, except investments in auction rate
securities, are classified as held to maturity and are stated in the
consolidated balance sheets at amortized cost.  As such investments
are classified as held to maturity, no unrealized gains or losses are
recorded.  The carrying amounts of individual held to maturity
securities are reviewed at the consolidated balance sheet date for potential
impairment.
  56
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  The
Company's auction rate securities are classified as available-for-sale and are
carried at fair value.  Unrealized gain and losses, if any, are
recorded as a component of accumulated other comprehensive
income.  Declines in fair value judged to be other-than-temporary, if
any, are recorded in the Company's consolidated statement of operations as
incurred.  The auction rate securities are classified based on an
assessment of their liquidity as of the Company's most recent balance sheet
date.  These securities typically have fixed reset dates within one
year, which are designed to allow investors to exit these instruments at par
even though the underlying debt instruments may have nominal maturity of as much
as 40 years.  However, auctions recently began to fail and as a
result, the Company's ability to exit these instruments in the short-term is not
guaranteed.  A failed auction is generally considered an auction with
more sellers than buyers or an auction with no buyers at all.  An
assessment is performed for auction rate securities with failed auctions and the
instruments are classified based on the Company’s ability to hold the auction
rate securities until the forecasted recovery of fair value.
  In
accordance with EITF 03-01 and FSP FAS 115-1 and 124-1, The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments, the Company
evaluates their investments periodically for possible other-than-temporary
impairment by reviewing factors such as current economic and market conditions,
the length of time and extent to which fair value has been below cost basis, the
financial condition and credit rating of the issuer and the Company's ability
and intent to hold the investment for a period of time which may be sufficient
for anticipated recovery of market value.  The Company will record an
impairment charge to the extent that the carrying value of the Company's
available for sale securities exceeds the estimated fair market value of the
securities and the decline in value is determined to be other-than-temporary.
The Company will continue to monitor and evaluate the value of their investments
at each balance sheet date for a possible impairment or a cause to believe there
is any other-than-temporary impairment to their investment
holdings.
 
 In
valuing its investments, the Company primarily uses market data or fair values
derived from brokerage statements supplied by the Company’s brokerage
firm.  The fair value of the auction rate securities with failed
auctions are subject to unobservable inputs in the fair value measurement that
are derived from fair values calculated by the Company’s brokerage firm using
their internally developed valuation methodology based on a present value cash
flow model. The Company also used a valuation firm to help management analyze
the reasonableness of the fair values provided by the brokerage
firm.
  57
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 Cash
equivalents and investments consist of the following (in
thousands):
  March
      31, 2008Gross
                
                
                GrossUnrealized
                
                
                Unrealized
                
                
                EstimatedCost
                
                
                Gains
                
                
                Losses
                
                
                Fair
      ValueCash
      equivalents
                
                $
                4,581
                
                
                $
                —
                
                
                $
                —
                
                
                $
                4,581Short-term
      investments
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —Long-term
      investments
                
                
                13,500
                
                
                
                —
                
                
                
                (625
                )
                
                
                12,875$
                18,081
                
                
                $
                —
                
                
                $
                (625
                )
                
                $
                17,456March
      31, 2007Gross
                
                
                GrossUnrealized
                
                
                Unrealized
                
                
                EstimatedCost
                
                
                Gains
                
                
                Losses
                
                
                Fair
      ValueCash
      equivalents
                
                $
                871
                
                
                $
                —
                
                
                $
                —
                
                
                $
                871Short-term
      investments
                
                
                17,500
                
                
                
                —
                
                
                
                —
                
                
                
                17,500Long-term
      investments
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —$
                18,371
                
                
                $
                —
                
                
                $
                —
                
                
                $
                18,371
 
 The
short-term investments in fiscal year 2007 represent auction rate securities
primarily consisting of student loan debt obligations whose underlying assets
are primarily Federal Family Education Loan Program (“FFELP”)
guaranteed.  As a result of recent auction failures during fiscal
2008, actual market prices or relevant observable inputs were not readily
available to determine the fair value of the Company’s auction rate
securities.  At March 31, 2008, the Company valued the auction rate
securities using the fair value supplied by the Company’s brokerage firm derived
from the brokerage firm’s internal valuation methodology using a discounted cash
flow model and our own analysis.  Based on the estimated fair value at
March 31, 2008, the Company recorded an unrealized other comprehensive loss of
$625,000 in the quarter ended March 31, 2008.  Also, the Company
reclassified the auction rate securities of $13.5 million to long-term
investments from short-term investments as the Company has the ability and
intentto
hold the securities until anticipated recovery of fair value
occurs.
 
 The
Company expects to liquidate its auction rate securities without significant
loss primarily due to the government guarantees of a large portion of the
underlying securities.  The Company has determined that these
securities are temporarily impaired, mostly due to changes in interest rates and
liquidity factors and not credit quality, and because the Company has the
ability and intent to hold its $13.5 million of auction rate securities that it
held as of March 31, 2008, until market stability is restored with respect to
these securities.  However, it could take until the nominal maturity
of the underlying debt instruments to realize the investments’ recorded
value.
 
 (9.) Fair Value of Financial
Instruments.  The carrying amounts of the Company’s financial
instruments including cash and cash equivalents, short-term investments,
accounts receivable, accounts payable and accrued liabilities, approximate their
fair values due to their short-term maturities. Refer to Note 2 of the Notes to
Consolidated Financial Statements regarding cash and cash equivalents,
short-term investments and long-term investments.
 
 The
Company's agreement with the government of Costa Rica signed on December 20,
2007, required it to issue a completion bond of approximately $167,000,
equivalent to 10% of the contract price.  The Company purchased a
certificate of deposit representing the completion bond which is classified as
other non-current assets in the company's consolidated balance sheet at March
31, 2008.  The bond shall remain in effect for one year (12 months)
after the final acceptance date of delivery of the last batch of shipment,
tentatively scheduled in the first quarter of fiscal year 2009.  At
March 31, 2008, the Company had classified the restricted cash as non-current
assets.
  58
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  (10.) Accounts
Receivable.  Accounts receivable are net of allowance for
doubtful accounts and product return reserves of $35,000 and $144,000 as of
March 31, 2008 and 2007, respectively.  The Company maintains
allowances for doubtful accounts and product return reserves for anticipated
losses resulting from the inability of its customers to make required payments
and in-process product returns. The Company generally computes its allowances
based on specifically identified accounts that are past due that are likely not
collectible.  Interest receivable represents accruals on investments
in auction rate securities and other interest-bearing
securities.  Other receivables are comprised of value added tax
refunds and miscellaneous items.  The components of accounts
receivable as of March 31 are (in thousands):
  2008
                
                
                2007Trade
      receivables
                
                $
                2,899
                
                
                $
                3,383Allowance
      for doubtful accounts
                
                
                (35
                )
                
                
                (66
                )Product
      return reserves
                
                
                —
                
                
                
                (78
                )Interest
      receivable
                
                
                12
                
                
                
                34Other
      receivables
                
                
                76
                
                
                
                216Total
      accounts receivable, net
                
                $
                2,952
                
                
                $
                3,489
 
 (11.) Inventories.
Inventories are stated at the lower of cost or market, with cost determined on a
first-in, first-out basis and market based on replacement cost or estimated
realizable value less cost to sell. The components of inventories as of March 31
are (in thousands):
  2008
                
                
                2007Raw
      materials
                
                $
                7,675
                
                
                $
                7,763Work-in-process
                
                
                1,518
                
                
                
                860Finished
      goods
                
                
                3,887
                
                
                
                2,839Total
      net inventories
                
                $
                13,080
                
                
                $
                11,462
 The
Company establishes lower of cost or market reserves, aged inventory reserves
and obsolescence reserves. Inventory reserves are generally recorded when
management determines that an item is not readily saleable. Inventory reserves
are not relieved until the related inventory has been sold or scrapped. For the
fiscal years ended March 31, 2008, 2007 and 2006, the Company recorded inventory
reserve expense of $53,000, $483,000, and $274,000,
respectively.
 
 (12.) Equipment Held for
Resale.Equipment held for resale consists of parts, labor
costs and other costs incurred to build equipment under a contract with Global
Investments Group which was assigned to Prevent Global in March 2007 and a
contract to build a turnkey non-optical card manufacturing
facility.  Direct incremental costs associated with the purchase or
construction of these items is deferred until the related deferred revenue is
recognized.  The components of equipment held for resale as of March
31 are (in thousands):
  2008
                
                
                2007Parts
                
                $
                5,417
                
                
                $
                5,297Labor
                
                
                1,158
                
                
                
                931Other
                
                
                113
                
                
                
                112Total
      equipment held for resale
                
                $
                6,688
                
                
                $
                6,340
  59
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  (13.) Property and Equipment,
Net.  The components of property and equipment as of March 31
(in thousands):
  2008
                
                
                2007Building
      and land
                
                $
                1,052
                
                
                $
                885Equipment
      and furniture
                
                
                25,438
                
                
                
                24,334Construction
      in progress, includingpurchased
      equipment
                
                
                282
                
                
                
                774Leasehold
      improvements
                
                
                5,222
                
                
                
                4,70131,994
                
                
                
                30,694Less:
      accumulated depreciation and amortization
                
                
                (20,294
                )
                
                
                (17,706
                )Total
      property and equipment, net
                
                $
                11,700
                
                
                $
                12,988
  Property
and equipment are recorded at cost. Depreciation is provided over the estimated
useful lives which is four to seven years for equipment and furniture using the
straight-line method and twenty-five years for the building using the
straight-line method.  Leasehold improvements are amortized over the
shorter of the life of the asset or the life of the lease using the
straight-line method.  Depreciation and leasehold amortization expense
for fiscal years 2008, 2007, and 2006 was $2.9 million, $2.7 million and $2.4
million, respectively.  Maintenance and minor repairs and replacements
are expensed when incurred.  Disposition or retirement of property and
equipment related gains and losses are charged to other income and
expense.
 
 Certain
costs incurred in connection with the acquisition of software for internal use
are capitalized following Statement of Position (SOP) 98-1, Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use and EITF Issue No. 97-13,
Accounting for Costs Incurred
in Connection with a Consulting Contract or an Internal Project That Combines
Business Process Reengineering and Information Technology
Transformation.  Capitalized software costs are included in the
equipment and furniture account and are amortized over four to seven
years.  Software costs that do not meet capitalization criteria are
expensed immediately.  In fiscal year 2007, the Company capitalized
$474,000 of software costs related to its new Enterprise Resource Planning
system and charged $211,000 inclusive of labor to selling, general and
administrative expenses.
 
 (14.) Goodwill and Other Intangible
Assets.Goodwill represents the excess of the purchase price
over the fair value of identifiable net tangible and intangible assets acquired
in a business combination.  In accordance with SFAS No. 142, Goodwill and Other Intangible
Assets, the Company does not amortize goodwill.  Instead, the
Company evaluates goodwill for impairment annually in the fourth quarter and
whenever events or changes in circumstances indicate that it is more likely than
not that an impairment loss has been incurred.  At March 31, 2007, the
Company determined that estimated future cash flows were insufficient to justify
the carrying value of goodwill and other intangible assets based on management’s
decision to suspend optical memory card production in Germany. As such, in the
fourth quarter of fiscal year 2007, the Company recorded a non-cash impairment
charge of approximately $3.8 million representing full impairment of the
Company’s goodwill and intangible assets with indefinite lives acquired upon the
purchase of its subsidiary, Challenge Card Design Plastikkarten GmbH of Rastede,
Germany, and Cards & More GmbH of Ratingen, Germany on March 31,
2004.
  60
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  Definite
life intangible assets capitalized and accumulated amortization as of March 31
(in thousands):
  2008
                
                
                2007Patent
      expenditures
                
                $
                3,669
                
                
                $
                3,554Technology
      transfer expenditures
                
                
                545
                
                
                
                545Total
      patent and other intangible expenditures
                
                
                4,214
                
                
                
                4,099Patent
      accumulated amortization
                
                
                (3,267
                )
                
                
                (3,149
                )Technology
      transfer accumulated amortization
                
                
                (545
                )
                
                
                (539
                )(3,812
                )
                
                
                (3,688
                )Amortizable
      patents and other intangibles, net
                
                $
                402
                
                
                $
                411
 
 The
weighted average remaining amortization periods for the fiscal years ended March
31 (in years):
  2008
                
                
                2007Patents
                
                
                3.2
                
                
                
                3.6Technology
      transfer
                
                
                —
                
                
                
                0.3Total
                
                
                3.2
                
                
                
                3.1
 
 Legal
expenses incurred in connection with patents are capitalized and amortized over
the estimated remaining useful lives of the patents to seven
years.  Amortization expense on intangible assets for fiscal years
2008, 2007 and 2006 was $125,000, $143,000 and $139,000,
respectively.  The estimated amortization expense for each of the next
five years on patents and other intangible assets with definite lives for the
years ended March 31 (in thousands):
 
 Fiscal
      Year
                
                Expense2009
                
                $
                902010
                
                $
                732011
                
                $
                562012
                
                $
                432013
                
                $
                28
 
 (15.)  Assessment of
Impairment of Tangible and Intangible Long-Lived Assets.  In
accordance with SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, the Company assesses the impairment of
long-lived assets whenever events or changes in circumstances indicate that
their carrying value may not be recoverable from the estimated future cash flows
expected to result from their use and eventual disposition.  The
Company’s long-lived assets subject to this evaluation include property and
equipment and amortizable intangible assets.  If the Company’s
estimate of future undiscounted net cash flows is insufficient to recover the
carrying value of the assets, the Company will record an impairment loss in the
amount by which the carrying value of the assets exceeds the fair
value.  If assets are determined to be recoverable but the useful
lives are shorter than originally estimated, the Company depreciates or
amortizes the net book value of the asset over the newly determined remaining
useful lives.  As of March 31, 2008, the fair value of long-lived
assets exceeds their book value.  Therefore, no impairment loss has
been recognized.
  61
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  (16.) Accrued
Liabilities.  The components of accrued liabilities as of March
31, (in thousands):
 
 2008
                
                
                2007Accrued
      payroll and benefits
                
                $
                449
                
                
                $
                497Accrued
      compensated absences
                
                
                846
                
                
                
                855Deferred
      compensation
                
                
                713
                
                
                
                —Warranty
      reserves
                
                
                655
                
                
                
                743Other
      accrued liabilities
                
                
                558
                
                
                
                894Total
      accrued liabilities
                
                $
                3,221
                
                
                $
                2,989
 
 Where
appropriate, provision is made at the time of shipment for estimated warranty
costs.  The Company provides a limited warranty for the replacement of
defective products.  The Company’s limited warranty requires them to
repair or replace defective products at no cost to the customer within a
specified time period after sale.  The Company estimates the costs
that may be incurred under its limited warranty and record a liability in the
amount of such costs at the time product revenue is
recognized.  Factors that affect the estimate of warranty liability
include the number of units sold, and historical and anticipated rates of
warranty claims.  The Company assesses the adequacy of its recorded
warranty liability quarterly and adjusts the amount as necessary.  The
Company utilizes historical trends and information received from its customers
to assist in determining the appropriate estimated warranty accrual
levels.  The Company’s product warranty claims are settled through the
return of defective products and the shipment of replacement products.  The
adequacy of the warranty reserve is reviewed quarterly to verify that it
properly reflects the remaining obligations based on the anticipated warranty
costs over the balance of the obligation period.  Adjustments are made when
actual return claim experience differs from estimates.  The warranty
returns were $0.2 million related to the return of defective
products.  The remaining warranty returns were immaterial for fiscal
years 2007 and 2006.  At March 31, 2008, the Company has recorded
deferred compensation of $0.7 million related to the Planned Retirement
Agreement with the former Chief Executive Officer and
President.
 
 (17.) Software Development
Costs.  Development costs incurred in the research and
development of new software products are expensed as incurred until
technological feasibility in the form of a working model has been
established.  To date, the Company’s software development has been
completed concurrent with the establishment of technological feasibility and,
accordingly, all software development costs have been charged to research and
development expenses in the accompanying consolidated statements of
operations.
 
 (18.) Advance Payments from
Customers.  The Company routinely receives advance payments on
orders placed by its customers.  The advance payments are recorded as
a liability on the consolidated balance sheets until the related orders are
shipped or services are performed or revenue would otherwise be
recognized.
 
 (19.) Revenue
Recognition.  Product sales primarily consist of optical card
sales, sales of drives, systems and services and sales of specialty cards and
card printers.  The Company recognizes revenue from product sales when
the following criteria are met:  (1) persuasive evidence of an
arrangement exists; (2) delivery has occurred; (3) the fee is fixed or
determinable; and (4) collectability is reasonably assured.  The
Company recognizes revenue on product sales at the time of shipment when
shipping terms are F.O.B. shipping point, orders are placed pursuant to a
pre-existing sales arrangement and there are no post-shipment obligations other
than customer acceptance criteria or, in the case of a U.S. government contract,
warehousing.  Where appropriate, provision is made at the time of
shipment for estimated warranty costs and estimated returns.
 
 Orders
for Permanent Resident and Border Crossing Cards for the U.S. government require
delivery into a secure Company-controlled vault.  Shipments are later
made from the vault to a U.S. government site.  The bill and hold
procedures also provide that at the end of any one-year contract term when a
renewal option is not exercised, the U.S. government is to take final delivery
of any and all of its remaining inventory within six months.  At the
time the cards are delivered into the vault, title to the cards is transferred
to the U.S. government and all risks of ownership are transferred as
well.  The prime contractor is invoiced, with payment due within
thirty days and the purchase orders do not contain any return (other than for
warranty) or cancellation provisions.
Pursuant to the provisions of SEC Staff Accounting Bulletin No. 104 ―Revenue
Recognition (“SAB 104”), revenue is recognized on delivery into the vault
as the Company has fulfilled its contractual obligations and the earnings
process is complete.
  62
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  For
contracts that include customer-specified acceptance criteria, the Company
recognizes revenue only after the acceptance criteria have been met and
presuming that all other revenue criteria have been met.  The Company
defers revenue from services and recognizes it over the contractual period or as
the Company render services and the customer accepts them.
 
 The
Company applies the provisions of the Emerging Issues Task Force Issue No.
00-21, Revenue Arrangements
with Multiple Deliverables, (“EITF 00-21”) to revenue arrangements with
multiple deliverables.  EITF 00-21 provides criteria governing how to
identify whether goods or services that are to be delivered separately in a
bundled sales arrangement should be accounted for separately. Deliverables are
accounted for separately if they meet all of the following criteria: a) the
delivered items have stand-alone value to the customer; b) the fair value of any
undelivered items can be reliably determined; and c) if the arrangement includes
a general right of return, delivery of the undelivered items is probable and
substantially controlled by the seller. In situations where the deliverables
fall within higher-level literature as defined by EITF 00-21, the Company
applies the guidance using that higher-level literature. Deliverables that do
not meet these criteria are combined with one or more other
deliverables.
 
 The
Company applies the provisions of Statement of Position 81-1, Accounting for Performance of
Construction-Type and Certain Production-Type Contracts (“SOP 81-1”), in
applicable contracts. Revenues on time and materials contracts are recognized as
services are rendered at contract labor rates plus material and other direct
costs incurred.  Revenues on fixed price contracts are recognized on the
percentage of completion method based on the ratio of total costs incurred to
date compared to estimated total costs to complete the contract.  Estimates
of costs to complete include material, direct labor, overhead and allowable
general and administrative expenses.  In circumstances where estimates of
costs to complete a project cannot be reasonably estimated, but it is assured
that a loss will not be incurred, the percentage-of-completion method based on a
zero profit margin, rather than the completed-contract method, is used until
more precise estimates can be made. The full amount of an estimated loss is
charged to operations in the period it is determined that a loss will be
realized from the performance of a contract.  For the fiscal years ended
March 2008, 2007, and 2006, the Company recognized approximately $249,000,
$12,000, and $77,000, respectively, of revenues based on a zero profit margin
related to a long-term contract.
 
 In the
fourth quarter of fiscal year 2006, the Company entered into a subcontract
covering product and services with a prime contractor for the Kingdom of Saudi
Arabia to provide them with card personalization workstation integration for use
in that country’s personalized national ID card program with decentralized card
issuance which includes optical memory cards, hardware, and software. The
contract called for multiple deliverables, installation, and certain client
acceptance criteria, as defined in the agreement.  In applying the guidance
within EITF 00-21, the Company determined the deliverables are not to be
accounted for as separate units, but rather as a bundled arrangement as the fair
value of the undelivered items cannot be readily determined.  Therefore,
revenue recognition on this contract and the associated contract costs were
deferred until the predominant undelivered element, the card personalization,
was delivered and accepted, commencing when the installation and acceptance of
the card personalization system was complete.  The Company determined
that once the card personalization system was accepted, contract revenue would
be recognized ratably based on actual cards personalized and accepted.  As
the card personalization system was accepted during the quarter ended March 31,
2007, the Company began recognizing revenue under this contract during that
period on cards that had been accepted by customer.  On June 23, 2007, the
Company and the prime contractor entered into an agreement amending the terms of
the provision of cards and supplies according to a delivery schedule for the
balance of fiscal 2008.  In addition, the Company no longer has obligations
pertaining to the installation of equipment, card personalization workstation
integration or card personalization.  As a result of this amendment, the
Company recognizes revenue upon receipt of the customer’s certificate of
acceptance of cards delivered.  Also under the amendment and associated
sales incentives, new prices per card have been established.  The Company
has completed the initial orders under the subcontract at March 31, 2008;
however, the subcontract allows for optional orders at customer request over a
four-year period through December 2010, valued at up to another approximately
$35 million in cards based on the new agreed upon price per card under the
amendment.  The Company recognized revenue totaling $8.6 million in
fiscal year 2008 as compared to $4.0 million in fiscal year 2007 on this
contract and other purchase orders for this program.
  63
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 As of
March 31, 2008 there remained $0.6 million of deferred revenue, $0.6 million of
deferred contract costs relating to this contract, and $0.2 million of deferred
contract costs relating to the Costa Rican government's national ID
system.  As of March 31, 2007, there remained $1.0 million of deferred
revenue and $0.9 million of deferred contract costs related to the contract with
the Kingdom of Saudi Arabia.
 
 The
Company applies the provisions of Statement of Position (“SOP”) No. 97-2, Software Revenue Recognition,
as amended by Statement of Position 98-9, Modification of SOP 97-2, Software
Revenue Recognition, With Respect to Certain Transactions to all
transactions involving the sale of software products.  Revenue from the
license of the Company’s software products is recognized when persuasive
evidence of an arrangement exists, the software product has been delivered, the
fee is fixed or determinable and collectability is probable, and, if applicable,
upon acceptance when acceptance criteria are specified or upon expiration of the
acceptance period.  Software revenue was immaterial for fiscal years 2008,
2007 and 2006.
 
 License
revenue, which may consist of up-front license fees and long-term royalty
payments, is recognized as revenue when earned.  There were no license
revenues or costs recorded for fiscal years 2008, 2007 and 2006.
 
 The
Company entered into license and optical memory card equipment purchase and
support agreements, effective April 3, 2004, with Global Investments Group
(GIG), based in Auckland, New Zealand, for optical memory card manufacturing in
Slovenia.  GIG transferred the license and other agreements, with our
approval, to Prevent Global družba za upravljanje, investicije in razvoj d.d
(“Prevent”) in March 2007.  The agreements provide for payments (other than
interest on late payments) to the Company of about $26.7 million which were
fully paid as of March 31, 2008, for a 20-year license, the required
manufacturing equipment for a targeted initial manufacturing capacity of 10
million optical cards annually and installation support, and a four-year
training and support package.  Of the $26.7 million we received, $23.8
million was recorded as advance payments from the customer and $2.9 million for
the licensing and other fees was recorded as deferred revenue.  Both were
classified as long term liabilities in the consolidated balance sheets.  As
of March 31, 2008, the Company held $6.6 million of acquired equipment,
including direct and incremental expenses, classified as equipment held for
resale on our consolidated balance sheets related to this contract.  The
Company is to ship this equipment to Prevent upon request for installation in a
facility to be established by Prevent.  At this time, the Company does not
know when Prevent will initiate such a request.  Beginning in the fourth
year of the contract, Prevent is to pay $3 million for a three-year support
package, and has options for thirteen additional years of support for payments
of $1.0 million annually.  In addition to the aggregate amount of $42.8
million discussed above, Prevent is to pay royalties of $0.60 per card for each
card produced under the license.  The territories covered by the license
include most of the European Union and Eastern European regions.  Prevent
has exclusive marketing rights in certain territories, with performance goals to
maintain these rights.  The Company retains rights to utilize up to 20% of
the new facility capacity as backup and a capacity buffer to augment our own
card manufacturing facilities in Mountain View, California and possibly at the
Company’s German subsidiary.  The granting of this license to Prevent
establishes a potential manufacturing facility supplier of optical memory cards
for existing and prospective customers who may request multiple sources for
cards.  The agreement contains various elements including a card
manufacturing license, sale and installation of equipment, training and ongoing
support, and contingent payments for support, materials, and royalty payments
for cards manufactured.  In accordance with EITF 00-21, Revenue Arrangements with Multiple
Deliverables, the card manufacturing license, sale and installation of
equipment, training and support package, have been accounted for as one unit of
accounting, since the Company was unable to determine evidence of the fair value
for the undelivered items other than ongoing support.  The Company is able
to determine evidence of fair value for the last predominant item to be
delivered, which is the ongoing annual support of the manufacturing
equipment.  Accordingly, revenues for the arrangement have been deferred
and will be recognized when the equipment is installed and accepted, with the
exception of the value of the ongoing annual support of the manufacturing
equipment which will be recognized quarterly as earned, beginning when the
equipment is accepted and training has been completed, which date is dependent
on Prevent establishing a suitable facility in Slovenia.  Pursuant to FTB
90-1, Accounting for
Separately Priced Extended Warranty and Product Maintenance Contracts,
the support revenue will be recognized ratably over the remaining term of the
agreement. During the fourth quarter of fiscal year 2008, the Company started to
assist Prevent Global towards the transfer of the manufacturing equipment to
their facility in Slovenia.  There is still much to do by Prevent to make
Prevent’s facility fully functional.
  64
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (20.) Research and Development
Expenses.  Costs related to research, design and development of
products are charged to research and development expense as
incurred.  Research and development costs include salaries, contractor
fees, building and utility costs, and depreciation.
 
 (21.)Shipping and Handling
Costs.The
Company reports shipping and handling costs in both the sales and the related
cost of goods sold to the extent that they are billed to customers.  In all
other instances, they are reflected as a component of cost of goods
sold.
 
 (22.) Advertising
Costs.  Advertising costs consist of development and placement
costs of the Company’s advertising campaigns and are charged to expense when
incurred. Advertising expense was approximately $212,000 for fiscal year 2008,
$188,000 for fiscal year 2007, and $183,000 for fiscal year
2006.
 
 (23.) Stock-based
Compensation.  Effective April 1, 2006, the Company adopted
Statement of Financial Accounting Standard (“SFAS”) No. 123(R), Share-Based Payment, which
requires share-based payment transactions to be accounted for using a fair value
based method and the recognition of the related expense in the results of
operations. Prior to the adoption of SFAS No. 123(R), as permitted by SFAS
No. 123, Accounting for
Stock-Based Compensation, the Company accounted for share-based payments
to employees in accordance with Accounting Principles Board Opinion No. (“APB”)
25, Accounting for Stock
Issued to Employees, utilizing the intrinsic value method. Therefore, the
Company did not recognize compensation cost for employee and director stock
options because there was no intrinsic value. SFAS No. 123(R) allows
companies to choose one of two transition methods: the modified prospective
transition method or the modified retrospective transition method.
 
 The
Company adopted SFAS No. 123(R) using the modified prospective method of
transition which requires compensation expense related to share based payments
to be recognized beginning on the adoption date over the requisite service
period, generally the vesting period, for awards granted after April 1,
2006 and over the remaining service period for the unvested portion of awards
granted prior to April 1, 2006.  The consolidated financial
statements for prior fiscal years have not been restated to reflect the impact
of adopting SFAS No. 123(R).
 
 Prior to
April 1, 2006, the Company accounted for its stock-based compensation plans
using the intrinsic value method prescribed in Accounting Principles Board
Opinion No. 25, Accounting for
Stock Issued to Employees. Accordingly, compensation cost for stock
options, if any, was measured at the excess of the quoted market price of the
Company’s stock at the date of grant over the amount an employee must pay to
acquire the stock. SFAS No. 123 (R)  established accounting and
disclosure requirements using a fair-value based method of accounting for
stock-based employee compensation plans.
 
 65
 
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  The
following table illustrates the effect on net income (loss) and net income
(loss) per share as if the Company had applied the fair value recognition
provisions of SFAS No. 123 (R) for the fiscal year ended March 31, 2006 (in
thousands except per share amounts):
  Net
      income, as reported
                
                $
                794Add:
      stock-based employee compensation expenseincluded
      in reported net income (loss), net of tax
                
                
                105Deduct:
      stock-based compensation expensedetermined
      using fair value based method for all awards, net of tax
                
                
                (1,317
                )Net
      loss, pro forma
                
                $
                (418
                )Net
      income (loss) per common share:Basic
      and diluted, as reported
                
                $
                0.07Basic
      and diluted, pro forma
                
                $
                (0.04
                )Shares
      used in computing basic and diluted pro formanet
      income (loss) per share:Basic
                
                
                11,415Diluted
                
                
                11,587
 
 2004 Equity Incentive Compensation
Plan (the “2004 Plan”):The 2004 Plan provides for the grant of
restricted share awards, options, stock units and stock appreciation rights, any
of which may or may not require the satisfaction of performance objectives, with
respect to shares of the Company's common stock to directors, officers,
employees and consultants of the Company and its subsidiaries.  The
exercise price of stock options may not be less than 100% of the fair market
value of the common stock as of the date of grant (110% of the fair market value
if the grant is of an incentive stock option to an employee who owns more than
10% of the total combined voting power of all classes of the Company’s capital
stock).  Options granted may not be exercised more than 10 years after
the date of grant (five years after the date of grant if the grant is an
incentive stock option to an employee who owns more than 10% of the total
combined voting power of all classes of the Company’s capital stock). The Board
of Directors specifies the term of options (prior to fiscal year 2006 typically
10 years and thereafter typically 7 years) and the vesting schedule for exercise
of options, generally 25% after one year and 6.25% quarterly for the next 3
years.
 
 Stock Options: Under the
provisions of SFAS No. 123(R), stock-based compensation cost is estimated
at the grant date based on the fair value of the award and compensation cost is
recognized as an expense over the requisite service period of the award,
generally the vesting period. The fair value of non-vested stock awards was
determined by reference to the fair market value of the Company’s common stock
on the date of grant. Consistent with the valuation method the Company used for
disclosure-only purposes under the provisions of SFAS No. 123, the Company uses
the Black-Scholes valuation model to estimate the fair value of option
awards.  Determining the appropriate fair value model and related
assumptions requires judgment, including estimating stock price volatility,
forfeiture rates and expected terms. The following assumptions were utilized to
estimate the fair value of the Company’s stock option awards for the fiscal
years ended March 31:
  2008
                
                2007
                
                2006Expected
      stock price volatility
                55%
                
                55%
                
                54%Risk-free
      interest rates
                2.65%
      to 4.93%
                
                4.40%
      to 4.96%
                
                3.81%
      to 4.68%Average
      expected life of options
                4.4
      to 5 years
                
                4.4
      to 5 years
                
                5
      to 6 yearsExpected
      annual dividends
                ―
                
                ―
                
                ―
  66
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  The
expected volatility rate was based on the historical volatility of the Company’s
common stock. The expected life represents the average time options that vest
are expected to be outstanding based on the vesting provisions and the Company’s
historical exercise, cancellation and expiration patterns. The Company estimated
forfeitures based on historical rates when recognizing compensation
expense.  Forfeitures were estimated based on voluntary termination
behavior, as well as an analysis of actual option forfeitures.
 
 The
risk-free interest rate was based on U.S. Treasury zero-coupon issues with a
maturity approximating the expected life as of the week of the grant
date.  There was no annual dividend rate assumed as a cash dividend is
not expected to be declared and paid in the foreseeable future.
 
 The
Company updates these assumptions at least annually and on an interim basis if
significant changes to the assumptions are warranted.
 
 With the
adoption of SFAS No. 123(R), the Company recorded stock-based employee
compensation expense related to stock options and restricted shares of
approximately $2 million for the fiscal year ended March 31, 2008, net of
estimated forfeitures.  For fiscal year 2007, the Company recorded
stock-based employee compensation expense related to stock options and
restricted shares of approximately $1.7 million. The Company recognized the full
amount of the stock-based employee compensation expense of its equity incentive
plans in the consolidated statements of operations for the fiscal year ended
March 31, 2008 and 2007 and did not capitalize any such costs in the
consolidated balance sheets other than in the general overhead pool for
inventory costs.
 
 Stock-based
compensation expense related to stock options was recorded in the Company’s
consolidated statement of operations for the fiscal years ended March 31 (in
thousands):
  2008
                
                
                2007Cost
      of sales
                
                $
                336
                
                
                $
                324Selling,
      general and administrative expense
                
                
                1,369
                
                
                
                1,009Research
      and development expense
                
                
                256
                
                
                
                354Stock-based
      compensation expense before income tax
                
                
                1,961
                
                
                
                1,687Less:
      income tax benefit
                
                
                —
                
                
                
                —Net
      stock-based compensation expense after income tax
                
                $
                1,961
                
                
                $
                1,687
 
 Restricted Shares and Restricted
Stock Units:On September 21, 2007, restricted shares and restricted
stock units were awarded to certain Company employees and directors under the
provisions of the 2004 Plan. These shares and units are subject to time-based
vesting provisions, and were awarded at no cost to the recipients, and cannot be
sold, assigned, transferred, or pledged during the restriction period.
Recipients of the restricted shares have the right to vote such shares and
receive dividends, whereas the recipients of restricted stock units do not have
these same benefits.
 
 Restricted
shares were awarded to officers and directors of the Company. The fair value of
the shares at the time of the award is expensed on a straight-line basis,
primarily in selling, general and administrative expenses over the vesting
period.  For officers, 25% of these restricted shares shall vest
subject to continuous common-law employment with the Company on each of the
first, second, third, and fourth anniversaries of the date of grant of their
award with no expiration.  For directors, the restricted shares will
vest in full on the eleventh month after the date of their award.  For
officers, as the shares vest, the Company will affect tax withholding by
retaining that number of shares having a fair market value equal to the taxes
being withheld.
 
 Restricted
stock units were awarded to certain employees of the Company. The fair value at
the time of the award is expensed on a straight-line basis over the vesting
period. Subject to the employee’s continuous common-law employment with the
Company, 25% of these restricted units vest on each of the first, second, third,
and fourth anniversaries of the date of their award.  As the units
vest, shares will be issued in settlement, net of shares retained to satisfy
withholding obligations.
 
 As of
March 31, 2008, about $3.7 million of total unrecognized compensation cost
related to unvested stock options, restricted share awards and restricted stock
units is expected to be recognized over the remaining vesting period through
December 31, 2012.
  67
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 The
Company recorded no income tax benefit on stock based compensation expense for
the fiscal years ended March 31, 2008 and 2007, as the Company has cumulative
operating loss carryovers, for which a full valuation allowance has been
established.
 
 The FASB
Staff Position ("FSP") No. 123R-3, Transition Election Related to
Accounting for the Tax Effects of Share-Based Payment Awards, requires an
entity to follow either the transition guidance for the
additional-paid-in-capital (APIC) pool as prescribed in SFAS No. 123(R) or the
alternative transition method described in FSP No. 123R-3. An entity that adopts
SFAS No. 123(R) using the modified prospective application may make a one-time
election to adopt the transition method described in the FSP No. 123R-3, and may
take up to one year from the latter of its initial adoption of SFAS No. 123(R)
or the effective date of the FSP No. 123R-3 to evaluate the available transition
alternatives and make its one-time election. The Company has elected to use the
simplified method provided for in FSP FAS 123R-3 to calculate its APIC pool
effective April 1, 2007. The adoption of the FSP did not have a material impact
on our consolidated financial position, results of operations or cash
flows.
 
 Employee Stock Purchase
Plan.  The Company has an Employee Stock Purchase Plan (ESPP),
under which eligible employees may designate from 2% to 6% of their compensation
to be withheld for the purchase of shares of common stock at 67% of the average
price over the three-day period prior to the purchase date.  The
differential between fair market value and the average price of the shares sold
under the ESPP is charged to operations as a compensation expense and is taxed
to the employee as income.  The Company had stock-based compensation
expense of $129,000, $108,000, and $123,000 relating to the ESPP which was
included in the Company’s consolidated statements of operations for the fiscal
years ended March 31, 2008, 2007, and 2006, respectively.
 
 (24.) Income
Taxes.Income taxes are accounted for in accordance with FASB
Statement No. 109, Accounting
for Income Taxes,which requires the use of the asset and liability
method.  Under this method, deferred tax assets and liabilities are
determined based upon the differences between the financial reporting and the
tax bases of assets and liabilities and are measured using enacted tax rules and
laws that are anticipated to be in effect when the differences are expected to
reverse.  Our net deferred tax assets are reduced by a valuation
allowance to the extent that realization of the related deferred tax asset is
not assured.  We have recorded a valuation allowance for the full
amount of our calculated deferred tax asset as of March 31, 2008 and
2007.  (See Note 8.)
 
 In June
2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation
No. 48, Accounting for
Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109
(“FIN 48”).  FIN 48 clarifies the accounting for uncertainty in income
taxes recognized in the Company’s financial statements in accordance with FASB
Statement No. 109, Accounting
for Income Taxes.FIN 48 prescribes a recognition threshold
and measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax
return.  FIN 48 also provides guidance on derecognition,
classification, interest and penalties, accounting in interim periods,
disclosure, and transition.  The evaluation of a tax position in
accordance with FIN 48 is a two-step process.  The first step is
recognition: The Company determines whether it is “more-likely-than-not” that a
tax position will be sustained upon examination, including resolution of any
related appeals or litigation processes, based on the technical merits of the
position.  In evaluating whether a tax position has met the
“more-likely-than-not” recognition threshold, the Company presumes that the
position will be examined by the appropriate taxing authority that would have
full knowledge of all relevant information.  The second step is
measurement: A tax position that meets the “more-likely-than-not” recognition
threshold is measured to determine the amount of benefit to recognize in the
financial statements.  The tax position is measured at the largest
amount of benefit that is greater than 50 percent likely to be realized upon
ultimate settlement.  FIN 48 is effective for fiscal years beginning
after December 15, 2006, which for the Company was the fiscal year commencing on
April 1, 2007.  Upon adoption of FIN 48 on April 1, 2007, the Company
recognized a cumulative effect adjustment of $62,000, decreasing its income tax
liability for unrecognized tax benefits, and decreasing the March 31, 2007
accumulated deficit balance.
 
 68
 
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 
 (25.) Comprehensive Income
(Loss).  Under SFAS No. 130, Reporting Comprehensive
Income, comprehensive income (loss) is defined as the changes in equity
of an enterprise except for those resulting from stockholders’
transactions.  Comprehensive income (loss) for the fiscal years ended
March 31 (in thousands):
  2008
                
                
                2007
                
                
                2006Net
      income (loss)
                
                $
                (7,206
                )
                
                $
                (12,371
                )
                
                $
                794Net
      change in cumulative foreigncurrency
      translation adjustments
                
                
                95
                
                
                
                138
                
                
                
                (213
                )Unrealized
      loss on investments
                
                
                (625
                )
                
                
                —
                
                
                
                —Comprehensive
      income (loss)
                
                $
                (7,736
                )
                
                $
                (12,233
                )
                
                $
                581
 
 (26.)Recent Accounting
Pronouncements: In June 2006, EITF Issue No. 07-3 Accounting for Nonrefundable Advance
Payments for Goods or Services to Be Used in Future Research and Development
Activities("EITF 07-3"), was issued that requires companies to defer and
capitalize prepaid, nonrefundable research and development payments to third
parties and recognize such amounts over the period that the research and
development activities are performed or the services are provided, subject to an
assessment of recoverability. The guidance is effective for new contracts
entered into in fiscal years beginning after December 15, 2007, including
interim periods within those fiscal years.  Earlier application is not
permitted.  The Company believes that application of this guidance will not
have a material impact on our consolidated financial statements.
  In
September 2006, the FASB issued Statement No. 157, Fair Value Measurements
(“SFAS No. 157”). SFAS No. 157 defines fair value, establishes a framework for
measuring fair value in U.S. generally accepted accounting principles, and
expands disclosures about fair value measurements. SFAS No. 157 is intended to
be applied in conjunction with other accounting pronouncements that require or
permit fair value measurements. Although SFAS No. 157 does not require any new
fair value measurements, its application may change current practice for some
entities. The definition of fair value contained in SFAS No. 157 retains the
exchange price notion inherent in earlier definitions of fair value. SFAS No.
157 clarifies that the exchange price is the price in an orderly transaction
between market participants to sell an asset or transfer a liability in the
principal (or most advantageous) market for the asset or liability. Accordingly,
the definition focuses on the price that would be received to sell the asset or
paid to transfer the liability at the measurement date (an exit price), not the
price that would be paid to acquire the asset or received to assume the
liability at the measurement date (an entry price). SFAS No. 157 emphasizes that
fair value is a market-based measurement, not an entity-specific measurement.
Therefore, SFAS No. 157 prescribes that a fair value measurement be determined
based on the assumptions that market participants would use in pricing the asset
or liability. The Company has not yet determined what impact this statement will
have on its consolidated financial statements.
 
 In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities (“SFAS No. 159”). SFAS No. 159 provides
entities with an option to report selected financial assets and liabilities at
fair value, with the objective to reduce both the complexity in accounting for
financial instruments and the volatility in earnings caused by measuring related
assets and liabilities differently.  SFAS No. 159 is effective for fiscal
years beginning after November 15, 2007.  The Company has not yet
determined what impact this statement will have on its consolidated financial
statements.
 
 In
December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations (“SFAS
141R”).  SFAS 141R establishes principles and requirements for how an
acquirer recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, any noncontrolling interest in the
acquiree and the goodwill acquired. SFAS 141R also establishes disclosure
requirements to enable the evaluation of the nature and financial effects of the
business combination. SFAS 141R is effective for fiscal years beginning after
December 15, 2008. The Company will assess the potential impact of the adoption
of SFAS 141R if and when a future acquisition occurs.
  69
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  In
December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in
Consolidated Financial Statements—an amendment of Accounting Research Bulletin
No. 51(“SFAS 160”). SFAS 160 establishes accounting and reporting
standards for ownership interests in subsidiaries held by parties other than the
parent, the amount of consolidated net income attributable to the parent and to
the noncontrolling interest, changes in a parent’s ownership interest, and the
valuation of retained noncontrolling equity investments when a subsidiary is
deconsolidated. SFAS 160 also establishes disclosure requirements that clearly
identify and distinguish between the interests of the parent and the interests
of the noncontrolling owners.  SFAS 160 is effective for fiscal years
beginning after December 15, 2008. The Company is currently evaluating the
potential impact of the adoption of SFAS 160 on our consolidated financial
statements.
 
 (27.)
Indemnification.  The Company’s major sales agreements provide
remedies to customers, such as defense, settlement, or payment of judgment for
intellectual property claims related to the use of the Company’s products. The
Company also has indemnified various vendors for certain potential
claims.  The Company has also entered into indemnification agreements
with its directors and officers and the Company’s bylaws contain similar
indemnification obligations.  To date, there have been no claims made
under such indemnification provisions and as a result the associated estimated
fair value of the liability is not material.
 
 3.       
Net Income (Loss) per Share
 
 Basic net
income (loss) per share and diluted net loss per share is computed by dividing
net income (loss) by the weighted average number of shares of common stock
outstanding during the fiscal year. Diluted net income per share is computed by
dividing net income by the weighted average number of shares of common stock and
common stock equivalents outstanding during the fiscal year. Common stock
equivalents consist of stock options and warrants using the treasury stock
method.
 
 The
reconciliation of the denominators of the basic and diluted net income (loss)
per share computation for the fiscal years ended March 31, (in thousands,
except per share data):
  2008
                
                
                2007
                
                
                2006Net
      income (loss)
                
                $
                (7,206
                )
                
                $
                (12,371
                )
                
                $
                794Basic
      net income (loss) per share:Weighted
      average common shares outstanding
                
                
                11,929
                
                
                
                11,814
                
                
                
                11,415Basic
      net income (loss) per share
                
                $
                (0.60
                )
                
                $
                (1.05
                )
                
                $
                0.07Diluted
      net income (loss) per share:Weighted
      average common shares outstanding
                
                
                11,929
                
                
                
                11,814
                
                
                
                11,415Weighted
      average common shares from stock option grants
                
                
                ―
                
                
                
                ―
                
                
                
                172Weighted
      average common shares and common stockequivalents
      outstanding
                
                
                11,929
                
                
                
                11,814
                
                
                
                11,587Diluted
      net income (loss) per share
                
                $
                (0.60
                )
                
                $
                (1.05
                )
                
                $
                0.07
  Stock
options and warrants having an exercise price greater than the average market
value for profitable periods are excluded from the calculation of diluted net
income per share, as their effect would be antidilutive.  Therefore,
stock options to purchase 1,554,000 shares were excluded from the calculation of
diluted net income per share for the fiscal year ended March 31,
2006.  As the effect of common stock equivalents would be antidilutive
since the Company incurred a loss in fiscal years ended March 31, 2008 and 2007,
all stock options and warrants were excluded from the calculation of diluted net
loss per share for those fiscal years.
 
 70
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 4.      
 Segments
 
 Segment
Reporting.
 
 The
Company operates in three reportable segments: (1) optical memory cards, (2)
drives, systems and services (which the Company formerly called the “optical
memory card drives” segment), including read/write drives, maintenance, systems
and enabling services, and (3) specialty cards and card printers.  The
segments were determined based on the information used by the chief operating
decision maker.  The optical memory cards and drives, systems and services
reportable segments are not strategic business units which offer unrelated
products and services; rather these reportable segments utilize compatible
technology and are marketed jointly.  Specialty cards and printers is a
strategic business unit offering at times unrelated products and at times
related products with the other reportable segments.
 
 The
accounting policies used to derive reportable segment results are the same as
those described in the "Summary of Significant Accounting Policies." Resources
are allocated to the optical memory card and optical card drive segments in a
manner that optimizes optical memory card revenues and to the specialty card and
printers segment in a manner that optimizes consolidated income as determined by
the chief operating decision maker. Segment revenues are comprised of sales to
external customers.  Segment gross profit (loss) includes all segment
revenues less the related cost of sales.  Accounts receivable, cash,
deferred income taxes, prepaid expenses, fixed assets and inventory are not
separately reported by segment to the chief operating decision maker. 
Therefore, the amount of assets by segment is not meaningful.  There are no
inter-segment sales or transfers.  All of the Company’s long-lived assets
are attributable to the United States except for $3.3 million in fiscal year
2008, $3.7 million in fiscal year 2007 and $3.5 million in fiscal year
2006.  These long-lived assets were attributable to the operations in
Germany, including long-lived assets owned by the U.S. operations located in
Germany.
 
 The
Company's chief operating decision maker is currently the Company's Interim
Chief Executive Officer.  The chief operating decision maker reviews
financial information presented on a consolidated basis that is accompanied by
disaggregated information about revenues and gross profit (loss) by
segment.
 
 71
 
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 The table
below presents information for optical memory cards, systems and services, and
specialty cards and printers for the fiscal years ended March 31 (in
thousands):
  F i
      s c a l   Y e a r   E n d e d   M a r c
      h   31, 2008Optical
                
                
                Drives,
                
                
                SpecialtyMemory
                
                
                Systems
      and
                
                
                Cards
      &
                
                
                SegmentCards
                
                
                Services
                
                
                Printers
                
                
                Total
                
                
                Other (a)
                
                
                TotalRevenues
                
                $
                22,139
                
                
                $
                1,639
                
                
                $
                13,230
                
                
                $
                37,008
                
                
                
                —
                
                
                $
                37,008Cost
      of product sales
                
                
                14,148
                
                
                
                2,272
                
                
                
                10,589
                
                
                
                27,009
                
                
                
                —
                
                
                
                27,009Gross
      profit (loss)
                
                
                7,991
                
                
                
                (633
                )
                
                
                2,641
                
                
                
                9,999
                
                
                
                —
                
                
                
                9,999Depreciation
      andamortization
      expense
                
                
                1,852
                
                
                
                188
                
                
                
                312
                
                
                
                2,352
                
                
                
                641
                
                
                
                2,993F i
      s c a l   Y e a r   E n d e d   M a r c
      h   31,  2007Optical
                
                
                Drives,
                
                
                SpecialtyMemory
                
                
                Systems
      and
                
                
                Cards
      &
                
                
                SegmentCards
                
                
                Services
                
                
                Printers
                
                
                Total
                
                
                Other (a)
                
                
                TotalRevenues
                
                $
                18,985
                
                
                $
                1,478
                
                
                $
                11,807
                
                
                $
                32,270
                
                
                
                —
                
                
                $
                32,270Cost
      of product sales
                
                
                14,190
                
                
                
                1,941
                
                
                
                9,275
                
                
                
                25,406
                
                
                
                —
                
                
                
                25,406Gross
      profit (loss)
                
                
                4,795
                
                
                
                (463
                )
                
                
                2,532
                
                
                
                6,864
                
                
                
                —
                
                
                
                6,864Depreciation
      andamortization
      expense
                
                
                1,677
                
                
                
                177
                
                
                
                341
                
                
                
                2,195
                
                
                
                554
                
                
                
                2,749F i
      s c a l   Y e a r   E n d e d   M a r c
      h   31,  2006Optical
                
                
                Drives,
                
                
                SpecialtyMemory
                
                
                Systems
      and
                
                
                Cards
      &
                
                
                SegmentCards
                
                
                Services
                
                
                Printers
                
                
                Total
                
                
                Other (a)
                
                
                TotalRevenues
                
                $
                28,200
                
                
                $
                985
                
                
                $
                10,672
                
                
                $
                39,857
                
                
                
                —
                
                
                $
                39,857Cost
      of product sales
                
                
                15,093
                
                
                
                1,739
                
                
                
                7,972
                
                
                
                24,804
                
                
                
                —
                
                
                
                24,804Gross
      profit (loss)
                
                
                13,107
                
                
                
                (754
                )
                
                
                2,700
                
                
                
                15,053
                
                
                
                —
                
                
                
                15,053Depreciation
      andamortization
      expense
                
                
                1,517
                
                
                
                137
                
                
                
                292
                
                
                
                1,946
                
                
                
                569
                
                
                
                2,515(a)
      Represents expense recorded in Selling, General & Administrative and
      Research & Development.
 72
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  Sales by Geographic Region.Sales by geographic region are generally determined based upon the
ship-to address on the invoice, or the Company’s knowledge of program
location.  Revenues by geographic region for the fiscal years ended
March 31, (in thousands):
  2008
                
                
                2007
                
                
                2006Middle
      East and Africa
                
                $
                9,244
                
                
                $
                4,717
                
                
                $
                3,499United
      States
                
                
                8,300
                
                
                
                8,377
                
                
                
                11,011Germany
                
                
                6,763
                
                
                
                6,395
                
                
                
                5,123Europe
                
                
                5,255
                
                
                
                6,054
                
                
                
                4,568Asia
                
                
                3,763
                
                
                
                2,819
                
                
                
                405Canada
                
                
                2,927
                
                
                
                1,281
                
                
                
                2,068Italy
                
                
                596
                
                
                
                2,514
                
                
                
                12,547Rest
      of world
                
                
                160
                
                
                
                113
                
                
                
                636$
                37,008
                
                
                $
                32,270
                
                
                $
                39,857
  In fiscal
years 2008, 2007 and 2006, sales to customers outside the United States in the
amount of $15.6 million, $12.1 million and $18.5 million, respectively, were
denominated in U.S. dollars and $13.1 million, $11.8 million and $10.4 million,
respectively, were denominated in euros.
 
 5.      
 Related-Party Transactions
 
 Since
October 21, 2001, the Company contracted with Wexler & Walker Public Policy
Associates, a unit of Hill and Knowlton, Inc., (“Wexler”) to be lobbyists on
behalf of the Company.  The Chairman of Wexler is Robert S. Walker, a
brother of Walter F. Walker, member of the Company’s Board of Directors. 
The contract has been extended through fiscal year 2009 on the same terms and
conditions with a newmonthly retainer of $15,000 and reimbursement of
related expenses.
 
 The Company paid Wexler$161,000 during fiscal year 2008, $116,000 during fiscal year 2007, and
$142,082 during fiscal year 2006. As of March 31, 2008, $50,000 was due to Wexler and is included
as part of current liabilities in the accompanying consolidated balance
sheet.
 
 6.        Common
Stock
 
 The 2004 Equity Incentive Compensation
Plan (the “2004 Plan”):In October 2004, the Company’s stockholders
approved the 2004 Equity Incentive Compensation Plan, which replaced the
existing 1991 Stock Option Plan.  The 2004 Plan provides for the grant of
restricted share awards, options, stock units and stock appreciation rights, any
of which may or may not require the satisfaction of performance objectives, with
respect to shares of the Company's common stock to directors, officers,
employees and consultants of the Company and its subsidiaries. The 2004 Plan is
administered by the Compensation Committee of the Board of Directors, which has
complete discretion to select the participants and to establish the terms and
conditions of each award, subject to the provisions of the 2004 Plan. 
Options granted under the 2004 Plan may be “incentive stock options” as defined
in Section 422 of the Internal Revenue Code of 1986 ("The Code"), as amended, or
nonqualified options. A total of 2,786,087 shares of common stock were reserved
for issuance under the 1991 and 2004 Plans as of March 31, 2008.  If any
award granted under the 2004 Plan is forfeited or expires for any reason, then
the shares subject to that award will once again be available for additional
awards. If any outstanding option issued under the 1991 Plan expires or
terminates for any reason without having been exercised in full, then the
unpurchased shares subject to that option will be available for additional
awards under the 2004 Plan. Under the 2004 Plan, the exercise price of incentive
stock options may not be less than 100% of the fair market value of the common
stock as of the date of grant (110% of the fair market value if the grant is to
an employee who owns more than 10% of the total combined voting power of all
classes of the Company’s capital stock). The Code currently limits to $100,000
the aggregate value of common stock for which incentive stock options may become
exercisable in any calendar year under the 2004 Plan or any other option plan
adopted by the Company. Nonstatutory stock options may be granted under the 2004
Plan at an exercise price of not less than 100% of the fair market value of the
common stock on the date of grant. There is no limitation on the amount of
common stock for which nonstatutory grants may first become exercisable in any
calendar year. Repricing a stock option or stock appreciation right is not
permitted without stockholder approval. Subject to the limitations contained in
the 2004 Plan, the Committee sets the terms of each option grant. Any options
that were not exercisable on the date of termination of employment immediately
terminate at that time. Options granted under the 2004 Plan may not be exercised
more than 10 years after the date of grant (five years after the date of grant
if the grant is an incentive stock option to an employee who owns more than 10%
of the total combined voting power of all classes of the Company’s capital
stock). The Board of Directors specifies the term of options and the vesting
schedule for exercise of options.  No options were granted to consultants
during fiscal years 2008, 2007, and 2006.
  73
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 In
addition, as of March 31, 2008, 73,000 shares of common stock have been reserved
outside of the Company’s Stock Option Plan compared with 113,000 as of March 31,
2007, for issuance upon exercise of stock options granted under Nasdaq Rule No.
4350(i)(1)(A), in connection with the CCD-C&M acquisition.  As an
inducement to join the Company, each of the six key employees of the acquired
companies were granted non-statutory stock options on March 31, 2004 with a term
of five years to purchase 20,000 common shares.  Some shares have expired
under this category during fiscal year 2008.
 
 The
following table lists stock option activity for the fiscal years ended March 31,
(in thousands, except for weighted average exercise price):
 
 2008
                
                
                2007
                
                
                2006Number
      of
                  Shares
                
                
                Weighted
      Average
                  Exercise
      Price
                
                
                Number
      of
                  Shares
                
                
                Weighted
      Average
                  Exercise
      Price
                
                
                Number
      of
                  Shares
                
                
                Weighted
      Average
                  Exercise
      PriceOutstanding
      at beginning of year
                
                
                2,213
                
                
                $
                12.96
                
                
                
                2,064
                
                
                $
                12.27
                
                
                
                2,067
                
                
                $
                13.37Granted
                
                
                299
                
                
                
                10.49
                
                
                
                480
                
                
                
                15.11
                
                
                
                469
                
                
                
                7.18Exercised
                
                
                (52
                )
                
                
                9.40
                
                
                
                (109
                )
                
                
                10.12
                
                
                
                (373
                )
                
                
                12.02Canceled
                
                
                (308
                )
                
                
                12.70
                
                
                
                (222
                )
                
                
                12.56
                
                
                
                (100
                )
                
                
                12.07Outstanding
      at end of year
                
                
                2,152
                
                
                $
                12.74
                
                
                
                2,213
                
                
                $
                12.96
                
                
                
                2,064
                
                
                $
                12.27Options
      vested and exercisable at end of year
                
                
                1,541
                
                
                $
                13.45
                
                
                
                1,352
                
                
                $
                13.54
                
                
                
                1,448
                
                
                $
                13.54
 
 The
weighted-average grant-date fair value per share of options granted during
fiscal years 2008, 2007, and 2006 were $5.29, $7.69 and $3.91,
respectively.
 
 The
weighted average remaining contractual term for outstanding options at March 31,
2008 and 2007 is 4.25 years and 5.04 years, respectively, and 3.45 years for
options vested and exercisable at March 31, 2008.  The aggregate intrinsic
value of outstanding options and options vested and exercisable is approximately
$0.8 million and $0.4 million, respectively, at March 31, 2008.
 
 Aggregate
intrinsic value is the sum of the amounts by which the closing market price of
the Company's stock at March 31, 2008 (last trading day), $8.50 per share,
exceeded the exercise price of the options, for those options for which the
quoted market price was in excess of the exercise price
(“in-the-money-options”).  The aggregate intrinsic value of options
exercised on the dates the options were exercised was approximately $0.1 million
and $0.8 million for the fiscal years ended March 31, 2008 and 2007,
respectively.
 
 74
 
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 
 The
following table summarizes information about stock options outstanding at March
31, 2008 (in thousands, except for weighted average exercise price and
contractual life):
 
 Options
      Outstanding
                
                
                ExercisableRange
      of Exercise Price
                
                
                Number
      of
                  Outstanding
      Vested/Unvested at
                  March
      31, 2008
                
                
                Weighted
                  Average
                  Exercise
      Price
                
                
                Weighted
                  Average
                  Remaining
                  Contractual
                  Life
                
                
                Number
      of
                  Shares
                  Exercisable
      at
                  March
      31, 2008
                
                
                Weighted
                  Average
                  Exercise
                  Price$6.0450
      - $7.0469
                
                
                
                314
                
                
                $
                6.06
                
                
                
                5.95
                
                
                
                147
                
                
                $
                6.08$7.5000
      - $10.9100
                
                
                
                359
                
                
                
                10.03
                
                
                
                5.51
                
                
                
                154
                
                
                
                9.62$10.9900
      - $12.6900
                
                
                
                378
                
                
                
                11.61
                
                
                
                3.47
                
                
                
                281
                
                
                
                11.51$13.1200
      - $15.3400
                
                
                
                455
                
                
                
                14.05
                
                
                
                3.46
                
                
                
                455
                
                
                
                14.05$16.3000
      - $22.7500
                
                
                
                647
                
                
                
                17.23
                
                
                
                3.73
                
                
                
                504
                
                
                
                17.302,152
                
                
                $
                12.74
                
                
                
                4.25
                
                
                
                1,541
                
                
                $
                13.45
  The
Company had 113,000 unvested restricted shares issued to certain employees
outstanding at March 31, 2008 all of which were granted in September
2007.
 
 As of
March 31, 2008 there was approximately $3.7 million of total unrecognized
compensation cost related to non-vested share-based compensation arrangements
granted under our stock plans which is expected to be recognized over the
remaining vesting period through December 2012, adjusted for any future changes
in estimated forfeitures.
 
 Employee
Stock Purchase Plan
 
 The
Company has an Employee Stock Purchase Plan (Stock Purchase Plan), under which
94,185 shares are reserved as of March 31, 2008 for future purchases by
employees. Under the Stock Purchase Plan, eligible employees may designate from
2% to 6% of their compensation to be withheld for the purchase of shares of
common stock at 67% of a trailing average price.  The differential between
fair market value and the average price of the shares sold under the Stock
Purchase Plan is charged to operations as a compensation expense and is taxed to
the employee as income.  Under the Stock Purchase Plan, employees purchased
36,914 shares for fiscal year 2008, 30,418 shares for fiscal year 2007, and
25,961 shares for fiscal year 2006.  The weighted average purchase price
per share was $7.09 for fiscal year 2008, $7.61 for fiscal year 2007, and $6.53
for fiscal year 2006.  The weighted average market price per share for
shares purchased was $10.37 for fiscal year 2008, $11.44 for fiscal year 2007,
and $11.26 for fiscal year 2006.
 Other
Employee Benefit Plan
 
 401(k) Plan.  The 401(k)
Plan provides participating employees with an opportunity to accumulate funds
for retirement. The Company’s contribution to this Plan will not exceed the
lesser of: (a) 25% of the maximum employee contribution allowed by IRS, (b) 25%
of an employee’s contribution, or (c) 1.5% of an employee’s eligible earnings.
The Company contributed $94,000, $79,000, and $73,000, for fiscal years 2008,
2007, and 2006, respectively.
 
 Issuance
of Warrants
 
 At March
31, 2008 the Company has warrants outstanding to purchase 174,057
shares of its common stock.  The warrants were issued in
connection with the December 2003 sale of common stock in a private placement.
 The warrants have an exercise price of $17.26 per share and a life of five
years.
 
 75
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 7.      
 Commitments and Contingencies
 
 Lease.The Company occupies
its buildings under various operating leases.  Rent expense relating
to these buildings was approximately $1.4 million, $1.5 million, and $1.5
million for fiscal years 2008, 2007, and 2006, respectively.  As of
March 31, 2008, future minimum rental payments relating to these leases are (in
thousands):
  Fiscal
      Year2009
                
                $
                1,0482010
                
                
                1,5052011
                
                
                1,5392012
                
                
                1,5722013
                
                
                1,563Thereafter
                
                
                1,221Total
                
                $
                8,448
 
 As of
March 31, 2008, approximately 70,000 square feet of floor space are leased by
the Company on a long-term basis for card manufacturing, read/write drive
production, administration, sales, and research and development, in two
buildings located in Mountain View, California.  These facilities have a
current total annualized rental of approximately $885,000 on leases that expire
in October 2013 and in March 2014.  One 27,000-square foot building is used
for optical memory card production and one 43,000 square-foot building is used
for optical card production, read/write drive production, administration, sales,
and research and development.
 
 The
Company leases a portion of a building in Ratingen, Germany, and a building in
Rastede, Germany totaling approximately 15,000 square feet, for optical and
specialty card manufacturing, distribution, administration and sales, for a
total annualized rental of 239,000 euros on leases that expire on dates from
February 2009 to August 2009.  Also, the Company owns land and a building
in Rastede, Germany that is used in production of specialty cards and research
and development.
 
 Purchase
Commitment.  The Company purchases services, software, and
manufacturing equipment from a variety of vendors. As of March 31, 2008, the
Company has non-cancelable purchase orders of $1.8 million for raw materials
which will be delivered over 12 months.
 
 Other
Contingencies.  In the normal course of business, the Company
is subject to various claims.  In the opinion of management, the
ultimate disposition of such claims will not have a material adverse impact on
the financial position and results of operation or cash flows of the
Company.
 
 Employment
Agreements.  On November 28, 2007, the Company entered into a
Planned Retirement Agreement and an Age Discrimination Release Agreement with
its Chief Executive Officer (CEO) and President in anticipation of his
retirement on March 31, 2008.  These agreements provide for the CEO to
receive two years of separation pay at the per annum rate of $350,002;
consulting retainer of $18,000 for nine months of consulting availability and
services; and bonus of up to $100,000.  The Company will continue to
pay its portion of his health care insurance premium should he elect COBRA
coverage for up to 18 months.  His stock options ceased vesting on the
retirement date, other than the 18,750 options scheduled to vest on May 24,
2008, which will vest if he is then consulting for the Company.  He
holds 3,125 restricted shares which will vest on September 21, 2008 if he is
then a consultant with the Company and his other restricted shares have been
forfeited.  LaserCard allocated the costs of the postretirement
payments and the bonus using the discounted cash-flow basis over the remaining
months of the total expected service.  The stock options were remeasured
using the Black-Scholes method.
 
 In
addition, the Company has employment agreements with two individuals that
provide for severance payments for a period of twelve (12) months following the
employee’s termination of employment. The Company shall continue to pay the
employee on a monthly basis one-twelfth of the employee’s per annum base salary
as determined on the employee’s last day of employment.  Specific
provisions were also made for continued health insurance coverage and stock
options.  Certain conditions of severance payments were included, the
details of which can be found in the Company’s Form 8-K filed on January 10,
2008.
  76
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 8.       
Income Taxes
 
 The
provision for income taxes (benefit) for the fiscal years ended March 31 (in
thousands):
  2008
                
                
                2007
                
                
                2006Current:Federal
                
                $
                -
                
                
                $
                3
                
                
                $
                139State
                
                
                15
                
                
                
                (94
                )
                
                
                261Foreign
                
                
                -
                
                
                
                (29
                )
                
                
                7215
                
                
                
                (120
                )
                
                
                472Deferred:Federal
                
                
                -
                
                
                
                -
                
                
                
                -State
                
                
                -
                
                
                
                -
                
                
                
                -Foreign
                
                
                (129
                )
                
                
                (231
                )
                
                
                (29
                )(129
                )
                
                
                (231
                )
                
                
                (29
                )Income
      tax expense (benefit)
                
                $
                (114
                )
                
                $
                (351
                )
                
                $
                443
 
 The
Company’s effective tax rate differs from the statutory rate for the fiscal
years ended March 31 as follows:
  2008
                
                
                2007
                
                
                2006Tax
      reconciliation:Federal
      statutory rate
                
                
                34.0
                %
                
                
                34.0
                %
                
                
                34.0
                %State
      tax, net of federal benefit
                
                
                (0.0
                %)
                
                
                0.7
                %
                
                
                (3.0
                %)Foreign
      provision differential
                
                
                (2.3
                %)
                
                
                (8.5
                %)
                
                
                (2.0
                %)Alternative
      minimum tax
                
                
                0.0
                %
                
                
                0.0
                %
                
                
                3.0
                %Change
      in valuation allowance
                
                
                (25.5
                %)
                
                
                (20.5
                %)
                
                
                7.0
                %FAS
      123R ISOs
                
                
                (4.2
                %)
                
                
                (2.6
                %)
                
                
                —Other
                
                
                (0.4
                %)
                
                
                (0.4
                %)
                
                
                (3.0
                %)1.5
                %
                
                
                2.7
                %
                
                
                36.0
                %
 
 The
domestic and foreign component of pretax income (loss) for the fiscal years
ended March 31 (in thousands):
  2008
                
                
                2007
                
                
                2006Income
      (loss) before taxes:Domestic
                
                $
                (6,442
                )
                
                $
                (8,780
                )
                
                $
                1,041Foreign
                
                
                (878
                )
                
                
                (3,942
                )
                
                
                196Total
                
                $
                (7,320
                )
                
                $
                (12,722
                )
                
                $
                1,237
  77
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  The major
components of the net deferred income tax assets/(liabilities) as of March 31
(in thousands):
 
 2008
                
                
                2007Deferred
      tax assetsAdvanced
      payments and deferred revenue
                
                $
                10,306
                
                
                $
                10,178Net
      operating loss carryforward
                
                
                2,582
                
                
                
                1,500Reserves
      and accruals
                
                
                1,938
                
                
                
                1,516Other
                
                
                1,557
                
                
                
                1,105Depreciation
      and amortization
                
                
                1,317
                
                
                
                1,169Research
      credit
                
                
                712
                
                
                
                909German
      operations
                
                
                92
                
                
                
                —Gross
      deferred tax asset
                
                
                18,504
                
                
                
                16,377Valuation
      allowance
                
                
                (18,252
                )
                
                
                (16,216
                )Net
      deferred tax assets
                
                
                252
                
                
                
                161Deferred
      income tax liabilityGerman
      operations
                
                
                (405
                )
                
                
                (388
                )Capitalized
      patent costs
                
                
                (160
                )
                
                
                (161
                )Total
      deferred income tax liability
                
                
                (565
                )
                
                
                (549
                )Net
      deferred income tax liability
                
                $
                (313
                )
                
                $
                (388
                )
 
 The net
deferred income tax liability of $313,000 at March 31, 2008, and $388,000 at
March 31, 2007 is a result of the operations of our German subsidiary.  As
part of the process of preparing the Company's consolidated financial
statements, they are required to estimate income taxes in each of the
jurisdictions in which they operate.  This process involves estimating the
actual current tax exposure together with assessing temporary differences
resulting from differing treatment of items, such as deferred revenue, for tax
and accounting purposes.  These differences result in deferred income tax
assets and liabilities, which are included within the consolidated balance
sheets.  The Company must then assess the likelihood that the deferred
income tax assets will be recovered from future taxable income and to the extent
that management believes recovery is not likely, the Company must establish a
valuation allowance.
 
 In fiscal
year 2008 the valuation allowance increased by $2 million. The change in
valuation allowance relates to the increase in net operating loss carryforwards
("NOLs") of $1.1 million and other increases in our gross deferred income tax
assets. In fiscal year 2007 the valuation allowance decreased by $3.1 million.
This decrease included a $6.3 million decrease related to U.S. income tax
benefits of stock option deductions, the benefit of which will be credited to
additional paid-in capital, when and if realized, that were derecognized as a
result of the adoption of FAS 123(R).  The remaining change in valuation
allowance relates to other increases in the Company’s gross deferred income tax
assets.
 
 The
Company's federal net operating loss carryforwards (“NOLs”) as of March 31, 2008
of $26.2 million will expire at various dates from 2009 through 2028, if not
utilized. Of this amount, $19.3 million represent NOLs relating to windfall
stock option deductions, the benefit of which will be credited to stockholders’
equity when realized. Federal tax credits in the amount of $272,000 for
alternative minimum taxes have no expiration. Federal R&D tax credits in the
amount of $330,000 will expire on various dates from 2013 through 2027, if not
utilized. California tax credits related to R&D and alternative minimum
taxes in the amount of $166,000 have no expiration date.
 
 The
Company's methodology for determining the realizability of our deferred income
tax assets involves estimates of future taxable income based upon booked orders;
the estimated impact of future stock option deductions; and the expiration dates
and amounts of net operating loss carryforwards.  The Company has had
difficulty in the past, and expects to have continued difficulty in the future,
in reliably forecasting our foreign business and the revenue to be received from
it.  This resulted in our basing our estimates of future income for these
purposes on booked orders only.  As circumstances change, the Company may
in the future be able to estimate future revenue based upon their forecast
revenues rather than only using booked orders, although the Company cannot say
when or if this will occur.
  78
 LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
  In
concluding that a full valuation allowance was required at the end of fiscal
year 2006 and 2007 and continues to be required at the end of fiscal year 2008,
the Company considered both the positive and negative evidence regarding its
ability to generate sufficient future taxable income to realize their deferred
income tax assets.  Positive evidence included (1) the level of sales and
business experienced under the contracts for the U.S. Department of Homeland
Security’s Permanent Resident card and Border Crossing card programs and for the
Canadian government’s Permanent Resident Card program; (2) prospects in Italy
and a Middle Eastern country for national identification card programs; and (3)
expected future orders.  Negative evidence included (1) our reliance on a
limited number of customers for a substantial portion of our business; (2) the
uncertainty in timing of anticipated orders from the Company's customers; (3)
the impact of future stock option deductions on taxable income; (4) the
Company's experience of net operating loss carryforwards expiring unused through
fiscal year 2004; (5) the recent financial statement losses; and (6) the prior
three years’ cumulative tax net operating losses exclusive of payments derived
from the Prevent contract.  In weighing the positive and negative evidence,
we considered the “more likely than not” criteria pursuant to SFAS No. 109 as
well as the following risks related to our business:  “dependence on VARs
and on a limited number of customers,” “lengthy sales cycles,” “technological
change,” and “competition”.  As described, the Company concluded that the
negative evidence outweighed the positive evidence and as a result we recorded a
valuation allowance equal to the full amount of the deferred income tax asset as
of March 31, 2006 and again at March 31, 2007 and at March 31,
2008.
 
 In the
event that actual results differ from these estimates or that these estimates
are adjusted in future periods, the Company may need to adjust the amount of the
valuation allowance based on future determinations of whether it is more likely
than not that some or all of the Company's deferred income tax assets will be
realized.  A decrease in the valuation allowance would be recorded as an
income tax benefit or a reduction of income tax expense.  The net operating
losses available to reduce future taxable income expire on various dates from
fiscal year 2009 through fiscal year 2028.  To the extent that the Company
generates taxable income in jurisdictions where the deferred income tax asset
relates to net operating losses that have been offset by a full valuation
allowance, the utilization of these net operating losses would result in the
reversal of the related valuation allowance.
 
 Upon
adoption of FIN 48 on April 1, 2007, the Company recognized a cumulative effect
adjustment of $62,000, decreasing our income tax liability for unrecognized tax
benefits, and decreasing the March 31, 2007 accumulated deficit
balance.
 
 As of
March 31, 2008, the total amount of gross unrecognized tax benefits was
approximately $229,000 and the entire balance represents the amount of
unrecognized tax benefits which, if recognized, would affect the effective tax
rate.  The Company does not currently anticipate that any significant
increase or decrease to unrecognized tax benefits will be recorded during the
next 12 months.
 
 The
Company recognizes interest and penalties accrued on any unrecognized tax
benefits as a component of our provision for income taxes.  As of
March 31, 2008, the Company has accrued $34,000 for payment of interest and
penalties related to unrecognized tax benefits.
  79
  LASERCARD
CORPORATION AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 A
reconciliation of the beginning and ending amounts of unrecognized tax benefits
is as follows:
  Balance
      as of March 31, 2007
                
                $
                (229,000
                )Gross
      increases – tax positions in prior period
                
                
                —Gross
      decreases – tax positions in prior period
                
                
                —Gross
      increases – current-period tax positions
                
                
                —Decreases
      relating to settlements
                
                
                —Reductions
      as a result of a lapse of statute of limitations
                
                
                —Foreign
      exchange reserve
                
                
                —Balance
      as of March 31, 2008
                
                $
                (229,000
                )
 Although
the Company files U.S. federal, various state, and foreign tax returns, the
Company's only major tax jurisdictions are the United States, California and
Germany.  Tax years 1993 through 2008 remain subject to examination by
the appropriate governmental agencies, mainly the United States, due to tax loss
carryovers from those years.
  80
  LASERCARD
CORPORATION AND SUBSIDIARIES
 SELECTED
QUARTERLY FINANCIAL DATA (UNAUDITED)
 (In
thousands, except per share amounts)
  1st
      Quarter
                
                
                2nd
      Quarter
                
                
                3rd
      Quarter
                
                
                4th
      QuarterFiscal
      year 2008:Revenue
                
                $
                7,855
                
                
                $
                10,739
                
                
                $
                11,159
                
                
                $
                7,255Cost
      of sales
                
                
                6,194
                
                
                
                7,550
                
                
                
                7,670
                
                
                
                5,595Gross
      profit
                
                
                1,661
                
                
                
                3,189
                
                
                
                3,489
                
                
                
                1,660Net
      income (loss)
                
                
                (2,359
                )
                
                
                (498
                )
                
                
                (1,080
                )
                
                
                (3,269
                )Net
      income (loss) per share:Basic
                
                $
                (0.20
                )
                
                $
                (0.04
                )
                
                $
                (0.09
                )
                
                $
                (0.27
                )Diluted
                
                $
                (0.20
                )
                
                $
                (0.04
                )
                
                $
                (0.09
                )
                
                $
                (0.27
                )Weighted
      average number of commonand
      common equivalent shares:Basic
                
                
                11,866
                
                
                
                11,899
                
                
                
                11,971
                
                
                
                11,981Diluted
                
                
                11,866
                
                
                
                11,899
                
                
                
                11,971
                
                
                
                11,981Fiscal
      year 2007:Revenue
                
                $
                10,554
                
                
                $
                6,294
                
                
                $
                6,184
                
                
                $
                9,238Cost
      of sales
                
                
                6,389
                
                
                
                5,466
                
                
                
                5,397
                
                
                
                8,154Gross
      profit
                
                
                4,165
                
                
                
                828
                
                
                
                787
                
                
                
                1,084Net
      income (loss)
                
                
                212
                
                
                
                (2,672
                )
                
                
                (2,978
                )
                
                
                (6,933
                )Net
      income (loss) per share:Basic
                
                $
                0.02
                
                
                $
                (0.23
                )
                
                $
                (0.25
                )
                
                $
                (0.59
                )Diluted
                
                $
                0.02
                
                
                $
                (0.23
                )
                
                $
                (0.25
                )
                
                $
                (0.59
                )Weighted
      average number of commonand
      common equivalent shares:Basic
                
                
                11,768
                
                
                
                11,816
                
                
                
                11,827
                
                
                
                11,846Diluted
                
                
                12,280
                
                
                
                11,816
                
                
                
                11,827
                
                
                
                11,846
  81
   ITEM
      9.
              CHANGES
      IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
      DISCLOSURE
 
 There have been no disagreements with
our accountant on accounting and financial disclosure.
 
 ITEM
9A. CONTROLS AND PROCEDURES
 
 (a)       Evaluation of Disclosure Controls
and Procedures.  We maintain disclosure controls and procedures
that are designed to ensure that information required to be disclosed by us in
reports that we file or submit under the Securities Exchange Act of 1934 is
recorded, processed, summarized, and reported within the time periods specified
in Securities and Exchange Commission rules and forms, and that such information
is accumulated and communicated to our management, including our Chief Executive
Officer and Chief Financial Officer, as appropriate, to allow timely decisions
regarding required disclosure. In designing and evaluating our disclosure
controls and procedures, management recognized that disclosure controls and
procedures, no matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the disclosure
controls and procedures are met.  Our disclosure controls and procedures
have been designed to meet, and management believes that they meet, reasonable
assurance standards.  Additionally, in designing disclosure controls and
procedures, our management necessarily was required to apply its judgment in
evaluating the cost-benefit relationship of possible disclosure controls and
procedures. The design of any disclosure controls and procedures also is based
in part upon certain assumptions about the likelihood of future events, and
there can be no assurance that any design will succeed in achieving its stated
goals under all potential future conditions.
 
 Based on
their evaluation as of the end of the period covered by this Form 10-K, our
Interim Chief Executive Officer and Chief Financial Officer have concluded that,
subject to the limitations noted above, as of such dates, our disclosure
controls and procedures were effective at the reasonable assurance
level.
 
 (b)     
Management’s Annual Report on
Internal Control Over Financial Reporting:Internal control over
financial reporting refers to the process designed by, or under the supervision
of, our principal executive and principal financial officers, or persons
performing similar functions, and effected by our board of directors, management
and other personnel, to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements for external
purposes in accordance with generally accepted accounting principles, and
includes those policies and procedures that:
 
 (1)      
Pertain to the maintenance of records that in reasonable detail accurately and
fairly reflect the transactions and dispositions of our assets;
 
 (2)    
Provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that our receipts and expenditures are being made
only in accordance with authorization of our management and directors;
and
 
 (3)     
Provide reasonable assurance regarding prevention or timely detection of
unauthorized acquisitions, use or disposition of our assets that could have a
material effect on the financial statements.
 
 Internal
control over financial reporting cannot provide absolute assurance of achieving
financial reporting objectives because of its inherent limitations. Internal
control over financial reporting is a process that involves human diligence and
compliance and is subject to lapses in judgment and breakdowns resulting from
human failures. Internal control over financial reporting also can be
circumvented by collusion or improper management override. Because of such
limitations, there is a risk that material misstatements may not be prevented or
detected on a timely basis by internal control over financial reporting.
However, these inherent limitations are known features of the financial
reporting process. Therefore, it is possible to design into the process
safeguards to reduce, though not eliminate, this risk. Management is responsible
for establishing and maintaining adequate internal control over financial
reporting for the company.
 
 Management
has used the framework set forth in the report entitled Internal
Control—Integrated Frameworkpublished by the Committee of Sponsoring
Organizations of the Treadway Commission, known as COSO, to assess the
effectiveness of the Company’s internal control over financial reporting as of
March 31, 2008. Based on this assessment, management has concluded that our
internal control over financial reporting was effective as of March 31, 2008.
Odenberg Ullakko Muranishi & Co. LLP, the independent registered public
accounting firm that audited the consolidated financial statements included in
the Annual Report on Form 10-K, also audited, and expressed an unqualified
opinion on the effectiveness of our internal control over financial reporting as
of March 31, 2008.
  82
  (c)       Changes in Internal Control over
Financial Reporting.  There were no significant changes in our
internal control over financial reporting that occurred during the fourth
quarter of fiscal year 2008 that have materially affected, or are reasonably
likely to materially affect, our internal control over financial
reporting.
 
 ITEM 9B.
OTHER INFORMATION
  None.
 
 PART
III
 
 ITEM
10.  DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE
GOVERNANCE
 
 The
information required to be disclosed by this Item pursuant to Item 401 of
Regulation S-K with respect to our executive officers is contained in Part I of
this annual report on Form 10-K under the caption, “Executive Officers of the
Registrant.” The remaining information required to be disclosed by the Item
pursuant to Item 401 and Item 407 of Regulation S-K is contained in
the proxy statement for our annual meeting of stockholders to be held on
September 19, 2008 that will be filed within 120 days of the end of our
fiscal year 2008, or the Proxy Statement, under the captions “Proposal
No. 1 Election of Directors”; “Information Relating to Our Board of
Directors and Its Committees—Board of Directors Meetings and Committees—Audit
Committee”; “Information Relating to Our Board of Directors and Its
Committees—Director Candidates” and “Other Matters-Shareholder Proposals for
2008 Annual Meeting of Shareholders” and is incorporated in this annual report
on Form 10-K by reference.
  The
information required to be disclosed by this Item pursuant to Item 405 of
Regulation S-K is contained in the Proxy Statement under the caption “Section
16(a) Beneficial Ownership Reporting Compliance,” and is incorporated in this
annual report on Form 10-K by reference.
  We have
adopted a code of ethics, our Standards of Business Conduct, that applies to all
of our directors and employees, including our principal executive officer,
principal financial officer, principal accounting officer or controller and
persons performing similar functions. Our Standards of Business Conduct, as well
as our corporate governance guidelines and the charters for the audit,
compensation and benefits, nominating and corporate governance, executive and
finance committees of our Board of Directors, are each accessible under the
“Corporate Governance” heading of the “Investor Relations” section of our
website, www.lasercard.com. This information is also available in print to any
stockholder who requests it by writing to LaserCard Corporation., 1875 N.
Shoreline Blvd. Mountain View, CA 94043 USA, Attention: Investor
Relations. We also intend to disclose in the same location on our website, any
amendments to, or waivers from, our Standards of Business Conduct that are
required to be disclosed pursuant to the disclosure requirements of
Item 5.05 of Form 8-K.
 
 
 ITEM
11.  EXECUTIVE COMPENSATION
 
 The
information required to be disclosed by this Item pursuant to Item 402 and
Item 407(e) of Regulation S-K is contained in the Proxy Statement under the
captions “Information Relating to Our Board of Directors and Its
Committees—Director Compensation” and “—Compensation Committee Interlocks and
Insider Participation,” “Compensation Committee Report” and “Executive
Compensation,” and is incorporated in this annual report on Form 10-K by
reference.
 
 83
 
 ITEM
      12.
              SECURITY
      OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
      STOCKHOLDER MATTERS
 
 The
information required to be disclosed by this Item pursuant to Item 403 of
Regulation S-K is contained in the Proxy Statement under the caption “Beneficial
Ownership of Common Stock”, and is incorporated in this annual report on Form
10-K by reference.
  The
information required to be disclosed by this Item pursuant to Item 201(d)
of Regulation S-K is contained in the Proxy Statement under the caption
“Executive Compensation-Equity Compensation Plan Information,” and is
incorporated in this annual report on Form 10-K by reference.
  ITEM
      13.
              CERTAIN
      RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTORS
      INDEPENDENCE
 
 The
information required to be disclosed by this Item pursuant to Item 404 of
Regulation S-K is contained in the Proxy Statement under the caption
“Information Related to our Board of Directors and Its Committees—Certain
Relationships and Policies on Related Transactions,” and is incorporated in this
annual report on Form 10-K by reference.
  The
information required to be disclosed by this Item pursuant to Item 407(a)
of Regulation S-K is contained in the Proxy Statement under the caption
“Information Relating to Our Board of Directors and Its Committees—Determination
of Independence” and is incorporated in this annual report on Form 10-K by
reference.
  ITEM
14.  PRINCIPAL ACCOUNTANT FEES AND SERVICES
 
 The
information required to be disclosed by this Item pursuant to Item 9(e) of
Schedule 14A is contained in the Proxy Statement under the caption “Independent
Auditors Fees and Other Matters”, and is incorporated in this annual report on
Form 10-K by reference.
 
 84
 
 PART
IV
 
 ITEM
15.   EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
   (a)
              List of Documents Filed as Part
      of this Report1. Our
      consolidated financial statements filed herewith under Item 8 are as
      follows:Description
              Page
                Number(1)
              Reports
      of Independent Registered Public Accounting Firm
              49(2)
              Consolidated
      Balance Sheets at March 31, 2008 and March 31, 2007
              51(3)
              Consolidated
      Statements of Operations for Fiscal Years 2008, 2007 and
    2006
              52(4)
              Consolidated
      Statements of Stockholders' Equity and Comprehensive Income (Loss) for
      Fiscal Years 2008, 2007 and 2006
              53(5)
              Consolidated
      Statements of Cash Flows for Fiscal Years 2008, 2007 and
    2006
              54(6)
              Notes
      to Consolidated Financial Statements
              552. Financial
      Statement Schedules:
 
 The
schedule supporting our Consolidated Financial Statements, filed herewith under
Item 14(d), is as follows:
 Schedule
                Number
              Description
              Page
                Number―
              Report
      of Independent Registered Public Accounting Firm on Financial Statement
      Schedule
              88II
              Valuation
      and Qualifying Accounts
              89
 
 Schedules
not listed above are not applicable or not required, or the information required
to be set forth therein is included in the consolidated financial statements or
the notes thereto.
  3. Exhibits:
 The
Exhibits to this Report, filed herewith under Item 15(b) or incorporated by
reference from other documents previously filed with the Securities and Exchange
Commission, as follows:
 
 Exhibit
                Number
              Description
              Filed
      Herewith or Incorporated
                Herein by Reference
      to3(I)
              Amended
      and Restated Certificate of Incorporation
              Exhibit
      3.1 to Report on Form 10-K for the fiscal year ended March 31,
      20053(II)
              Amended
      and Restated By-Laws (to add new Section 4.6.5 re Vice
      Chairman)
              Exhibit
      3(II) to Report on Form 10-Q for the period ended December 31,
      2007
  85
  10.1
              Building
      lease agreement with Renault & Handley Employees Investment Co. for
      2644-2648 Bayshore Pkwy., Mountain View, CA
              Exhibit
      10.1 to Report on Form 10-Q for period ended December 31,
    200310.2
              Building
      Lease Agreement with Shoreline Park LLC for 1395 Charleston Road, Mountain
      View, CA (mailing address 1875 North Shoreline Boulevard, Mountain View,
      CA)
              Exhibit
      10.2 to Report on Form 10-K for fiscal year ended March 31,
      200410.3*
              Amended
      and Restated Stock Option Plan
              Exhibit
      10.4.1 to Report on Form 10-Q for period ended September 30,
      200210.7
              Stock
      and Warrant Purchase Agreement (as amended)
              Exhibit
      99.2 to Report on Form 10-Q for period ended December 31,
    200310.8
              Optical
      Card Manufacturing License Agreement with Global Investments
      Group
              Exhibit
      10.8 to Report on Form 10-K for fiscal year ended March 31,
      2004**10.9*
              2004
      Equity Incentive Compensation Plan (as Amended)
              Appendix
      A to Schedule 14A Proxy Statement for 2005Annual Stockholders
      Meeting10.10
              June
      29, 2006 Amendment to License and Equipment Agreement with Global
      Investments Group
              Exhibit
      10.10 to Report on Form 10-Q for period ended June 30,
    2006**10.11
              October
      27, 2006 Modified Third Amendment to License and Equipment Agreement with
      Global Investments Group and Prevent LOK
              Exhibit
      10.11 to Report on Form 8-K dated October 30, 200610.12*
              Employee
      Stock Purchase Plan (as Amended)
              Appendix
      A to Schedule 14A Proxy Statement
                For
      2007 Annual Stockholders Meeting10.13*
              Planned
      Retirement Agreement and Age
                Discrimination
      Release Agreement with Richard M.
                Haddock
              Exhibit
      10.13 to Report on Form 10-Q for period
                ended
      December 31, 200710.14*
              Executive
      Employment Agreements with Christopher J. Dyball and Steven G.
      Larson
              Exhibit
      10.14 to Report on Form 10-Q for period
                ended
      December 31, 200716.3
              Letter
      re Change in Certifying Accountants
              Exhibit
      16.1 to Report on Form 8-K dated
                December
      14, 200421
              Subsidiaries
      of the Registrant
              Filed
      herewith as page 9323.1
              Consent
      of Odenberg, Ullakko, Muranishi & Co. LLP, Independent Registered
      Public Accounting Firm
              Filed
      herewith as page 9424
              Power
      of attorney
              Filed
      herewith as page 9031.1
              Rule
      13a-14(a)/15d-14(a) Certificationof
      Bernard C. Bailey, principal executive officer
              Filed
      herewith as page 9531.2
              Rule
      13a-14(a)/15d-14(a) Certification of Steven G. Larson, principal financial
      officer
              Filed
      herewith as page 9632.1
              Section
      1350 Certification of Bernard C. Bailey, principal executive
      officer
              Filed
      herewith as page 97
  86
  32.2
              Section
      1350 Certification of Steven G. Larson, principal financial
      officer
              Filed
      herewith as page 98
 ___________________
 *Indicates
management contract or compensatory plan or arrangement.
 **Portions
were omitted pursuant to request for confidential treatment.
 
 (b)
              ExhibitsExhibits
      21, 23.1, 24, 31.1, 31.2, 32.1 and 32.2 are filed
  herewith.(c)
              Financial
      Statement ScheduleSchedule
      II to our consolidated financial statements is on page
  89.
  87
  REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 ON
FINANCIAL STATEMENT SCHEDULE
  The Board
of Directors and Stockholders
 LaserCard
Corporation:
 
 The audit
referred to in our report dated June 4, 2008, included the related financial
statement schedule for the fiscal years ended March 31, 2008, 2007 and 2006
included in this Annual Report on Form 10-K.  The financial statement
schedule is the responsibility of management. Our responsibility is to express
an opinion on the financial statement schedule based on our
audits.  In our opinion, such financial statement schedule, when
considered in relation to the consolidated financial statements taken as a
whole, presents fairly in all material respects the information set forth
therein.
 
 
 /s/Odenberg,
Ullakko, Muranishi & Co. LLP
 San
Francisco, California
 June 4,
2008
 
 88
  SCHEDULE
II
  LASERCARD
      CORPORATION AND SUBSIDIARIESVALUATION
      AND QUALIFYING ACCOUNTSFor
      the Fiscal Years Ended March 31, 2006, 2007 and 2008(In
      thousands)Balance
      at
                
                
                Additions
      (Deletions)
                
                
                Additions
                
                
                
                
                
                Balance
      atBeginning
                
                
                Charged
      (Credited)
                
                
                Charged
      to
                
                
                Deductions/
                
                
                End
      ofDescription
                
                of Period
                
                
                to Profit & Loss
                
                
                Other Accounts
                
                
                Write-off
                
                
                of PeriodFiscal year
      2006:Product
      return reserve
                
                $
                24
                
                
                $
                78
                
                
                $
                -
                
                
                $
                24
                
                
                $
                78Bad
      debt reserve
                
                $
                32
                
                
                $
                34
                
                
                $
                (2
                )(1)
                
                $
                -
                
                
                $
                64Inventory
      reserves
                
                $
                648
                
                
                $
                274
                
                
                $
                -
                
                
                $
                418
                
                
                $
                503Warranty
      reserve
                
                $
                132
                
                
                $
                569
                
                
                $
                (1
                )(1)
                
                $
                52
                
                
                $
                648Deferred
      income tax asset valuation allowance
                
                $
                18,426
                
                
                $
                901
                
                
                $
                -
                
                
                $
                -
                
                
                $
                19,327Fiscal year
      2007:Product
      return reserve
                
                $
                78
                
                
                $
                -
                
                
                $
                -
                
                
                $
                -
                
                
                $
                78Bad
      debt reserve
                
                $
                64
                
                
                $
                24
                
                
                $
                6
                (1)
                
                $
                28
                
                
                $
                66Inventory
      reserves
                
                $
                503
                
                
                $
                483
                
                
                $
                17
                (1)
                
                $
                166
                
                
                $
                837Warranty
      reserve
                
                $
                648
                
                
                $
                164
                
                
                $
                5
                (1)
                
                $
                74
                
                
                $
                743Deferred
      income tax asset valuation allowance
                
                $
                19,327
                
                
                $
                3,172
                
                
                $
                -
                
                
                $
                6,283
                
                
                $
                16,216Fiscal year
      2008:Product
      return reserve
                
                $
                78
                
                
                $
                -
                
                
                $
                -
                
                
                $
                78
                
                
                $
                -Bad
      debt reserve
                
                $
                66
                
                
                $
                30
                
                
                $
                15
                (1)
                
                $
                76
                
                
                $
                35Inventory
      reserves
                
                $
                837
                
                
                $
                53
                
                
                $
                94
                (2)
                
                $
                71
                
                
                $
                913Warranty
      reserve
                
                $
                743
                
                
                $
                147
                
                
                $
                2
                
                
                $
                237
                
                
                $
                655Deferred
      income tax asset valuation allowance
                
                $
                16,216
                
                
                $
                2,509
                
                
                $
                -
                
                
                $
                473
                
                
                $
                18,252
  Notes:(1)
                Partially
      due to Foreign Exchange rate translation(2)
                FIFO
      adjustment for standard change of previously reserved obsolete
      inventory
   89
 SIGNATURES
 
 Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized:
 
 Dated:  June
6, 2008
 
 LASERCARD
CORPORATION
 
 By:
              /s/Bernard C. BaileyBernard
      C. Bailey, Interim Chief Executive
Officer
 
 KNOW ALL
PERSONS BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Bernard C. Bailey and Steven G. Larson and each of
them, acting individually, as his attorney-in-fact, each with full power of
substitution and resubstitution, for him and in his name, place and stead, in
any and all capacities, to sign any and all amendments to this Report on Form
10-K, and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in  connection therewith and about the premises, as fully to all
intents and purposes as he might or could do in person, hereby ratifying and
confirming all that said attorneys-in-fact and agents, or any of them, or their
or his substitute or substitutes, may lawfully do or cause to be done by virtue
hereof.
 
 Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated:
 
 Signature
              
              Title
              
              Date/s/Bernard C. Bailey
              
              
              Interim
      Chief Executive Officer
              
              June
      6, 2008Bernard
      C. Bailey
              
              
              (Principal
      Executive Officer)Director/s/Steven G. Larson
              
              
              Vice
      President of Finance and Treasurer
              
              June
      6, 2008Steven
      G. Larson
              
              
              (Principal
      Financial Officer andPrincipal
      Accounting Officer)/s/Arthur H. Hausman
              
              
              Director
              
              June
      6, 2008Arthur
      H. Hausman/s/Donald E. Mattson
              
              
              Director
              
              June
      6, 2008Donald
      E. Mattson/s/Dan Maydan
              
              
              Director
              
              June
      6, 2008Dan
      Maydan/s/Albert J. Moyer
              
              
              Director
              
              June
      6, 2008Albert
      J. Moyer/s/Walter F. Walker
              
              
              Director
              
              June
      6, 2008Walter
      F. Walker
 
 90
 
 INDEX TO
EXHIBITS
 [ITEM
14(c)]
 ExhibitNumber
              Description3(I)
              Amended
      and Restated Certificate of Incorporation; Exhibit 3.1 to Report on Form
      10-K for the fiscal year ended March 31, 20053(II)
              Amended
      and Restated By-Laws; Exhibit 3(II) to Report on Form 10-Q for the period
      ended December 31, 200710.1
              Building
      lease agreement with Renault & Handley Employees Investment Co. for
      2644-2648 Bayshore Parkway, Mountain View, CA; previously filed as Exhibit
      10.1 to Report on Form 10-Q for period ending December 31, 2003 and
      incorporated herein by reference10.2
              Building
      lease agreement with Shoreline Park LLC for 1395 Charleston Road, Mountain
      View, CA (mailing address 1875 North Shoreline Boulevard, Mountain View,
      CA) filed as Exhibit 10.2 to Report on Form 10-K for fiscal year ended
      March 31, 2004 and incorporated herein by reference10.3
              Amended
      and Restated Stock Option Plan; previously filed as Exhibit 10.4.1 to
      Report on Form 10-Q for period ended September 30, 2002 and
      incorporated herein by reference10.7
              Stock
      and Warrant Purchase Agreement (as amended); previously filed as Exhibit
      99.2 to Report on Form 10-Q for period ended December 31,
    200310.8
              Optical
      Card Manufacturing License Agreement with Global Investments Group; filed
      as Exhibit as Exhibit 10.8 to Report on Form 10-K for fiscal year ended
      March 31, 2004 and incorporated herein by reference**10.9*
              2004
      Equity Incentive Compensation Plan, as Amended; previously filed as
      Appendix A to Schedule 14A Proxy Statement for 2005 Annual Stockholders
      Meeting filed with the SEC on September 6, 2005, and incorporated herein
      by reference10.10
              June
      29, 2006 Amendment to License and Equipment Agreement with Global
      Investments Group and Prevent LOK; previously filed as Exhibit 10.10 to
      Report on Form 10-Q for period ending June 30, 2006, and incorporated
      herein by reference**10.11
              October
      27, 2006 Modified Third Amendment to License and Equipment Agreements with
      Global Investments Group and Prevent LOK; previously filed as Exhibit
      10.11 to Form 8-K dated October 30, 2006, which was filed with the SEC on
      November 1, 2006, and incorporated herein by reference10.12*
              Employee
      Stock Purchase Plan, as Amended; previously filed as Appendix A to amended
      Schedule 14A Proxy Statement for 2007 Annual Stockholders Meeting filed
      with the SEC on August 3, 2007, and incorporated herein by
      reference10.13*
              November
      28, 2007, Planned Retirement Agreement and Age Discrimination Release
      Agreement with Richard M. Haddock, and incorporated herein by
      reference10.14*
              January
      4, 2008, Executive Employment Agreements with Steven G. Larson and Richard
      M. Haddock, and incorporated herein by reference16.3
              Letter
      re Change in Certifying Accountant; previously filed as Exhibit 16.1 to
      Current Report on Form 8-K dated December 14, 200421
              Subsidiaries
      of the Registrant; filed herewith as page
93
  91
 
 23.1
              Consent
      of Odenberg, Ullakko, Muranishi & Co. LLP, Independent Registered
      Public Accounting Firm; filed herewith as page 9424
              Power
      of Attorney; filed herewith as page 9031.1
              Rule
      13a-14(a)/15d-14(a) Certificationof
      Bernard C. Bailey, principal executive officer; filed herewith as page
      9531.2
              Rule
      13a-14(a)/15d-14(a) Certification of Steven G. Larson, principal financial
      officer; filed herewith as page 9632.1
              Section
      1350 Certification of Bernard C. Bailey, principal executive officer and
      president; filed herewith as page 9732.2
              Section
      1350 Certification of Steven G. Larson, principal financial officer; filed
      herewith as page 98
 
 *
              Indicates
      management contract or compensatory plan or
arrangement.**
              Portions
      were omitted pursuant to a request for confidential
    treatment.






92